P a g e | 1Basel iii Compliance ProfessionalsAssociation (BiiiCPA)1200G Street NW Suite800Washington, DC 20005-6705USA Tel...
P a g e | 2Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
P a g e | 3Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
P a g e | 4Source:IT JobsWatch, that providesa uniqueperspectiveon todaysinformation technologyjob market (noaffiliation)....
P a g e | 5Where to next?Prioritiesand themes for the BaselCommitteeKeynote addressbyMr StefanIngves,Governorof the Sverig...
P a g e | 6TheCommitteemeetsin thisbuildingtomorrow,and continuestohaveavery full agenda.Indeed, the key messageI would li...
P a g e | 7•assessmentsof Basel III implementationin theEuropean Union, Japanandthe United States;and•a report analysing t...
P a g e | 8•completingthe review of the trading book capital requirements.This entails an evaluation of the design of the ...
P a g e | 9Quantitative impact studies (QIS) have become a central element of theCommittee‘s work, and we have a full slat...
P a g e | 10Together withthe recentlypublished resultson thetrading book, thisanalysisidentifiesthe specific driversthat l...
P a g e | 11Asyou may have seen, thesepriorities wereendorsedby the Group ofGovernorsand Headsof Supervision (GHOS) at the...
P a g e | 12Toensure that theweaknessesin the regulatory frameworkbrought tolight by thefinancial crisisdonot persist for ...
P a g e | 13thelast piecesin what hasessentiallybeen a completeoverhaul of theregulatoryframework sincethe financial crisi...
P a g e | 14Jurisdictionshavealsobrought forwardthereleaseof their rulestoensurethat their progresswascaptured in theperio...
P a g e | 15Assessing the impact of, and industry responseto, theimplementation of the regulatory reformsThemajor reformst...
P a g e | 16A second potential consequence relatesto the incentives that may arise asthe banking sector adaptsto the refor...
P a g e | 17The way forward will also be guided by the findings of the reviewsof riskweighted assetsthat I mentioned earli...
P a g e | 18Onlyif supervisorsaregiventhetoolstheyneedtoact can theyeffectivelyperform their role.As the policy reform age...
P a g e | 19Furthermore,asnotedin theG-SIB standard,themethodology, includingthe indicator-basedmeasurement approach itsel...
P a g e | 20But westill have work to dotocompletethe overhaul of the regulatoryframeworkand fullyfactor in all of thelesso...
P a g e | 21Financial Stability Board reportstoG20 on progressof financialregulatory reformsTheChairman of the Financial S...
P a g e | 22•a joint update by the International Accounting Standards Board (IASB)and the Financial Accounting StandardsBo...
P a g e | 23Second, the importanceof timelycompletion of the reformstoover-the-counter(OTC) derivativesmarketsand theshado...
P a g e | 24As a result, thesereforms should substantiallyenhancethefinancialsystem‘s capacityto intermediateinvestment fl...
P a g e | 25Second, the FSBcould workwith otherstoexaminewhetherregulatoryfactorsmayconstraintheability ofnon-bankstoexpan...
P a g e | 262. Priorities and work plansa. Creating continuousmarketsTheFSB remainsfullycommittedtotherapid completionof t...
P a g e | 27Theywill provideanupdateinApril ontheir progressand next steps,anda report totheSummit on how theidentified cr...
P a g e | 28EstablishingtheGlobalLEI Foundationisthekeynext steptolaunchthesystem in March2013.TheFSB continuestooffer str...
P a g e | 29c. Building resilient financial institutionsIn January, agreement wasreachedbytheGroupofGovernorsandHeadsof Su...
P a g e | 30confidencein theregulatory reformsand providinga level playing fieldfor internationallyactivebanks.The27member...
P a g e | 31Theanalysisforbanks‘tradingbooksindicatesthat supervisorydecisionsandvariationsin banks‘models contributetothe...
P a g e | 32Theworkunder thereview confirmsthat reformsare underwayin manyjurisdictionsto align national statutoryregimes ...
P a g e | 33This will includea stock-take of referencestoCRA ratingsin nationalauthorities‘lawsand regulationsand of actio...
P a g e | 34autonomy in resource use and enhanced capacitytocoordinatethedevelopment and implementation of financial regul...
P a g e | 35Dodd-Frank Act StressTest2013TheDodd-Frank Act requires allfinancial companiesthat havemore than $10 billionin...
P a g e | 36supervision to evaluate whetherthey have sufficient capital toabsorblossesresultingfrom adverseeconomic condit...
P a g e | 37market scenario developed by the Federal Reserve.Theseverelyadversescenario featuresa deep recessionin theUnit...
P a g e | 38Theresultsof theseprojectionssuggest that, in the aggregate, the 18BHCswouldexperiencesubstantial lossesunder ...
P a g e | 39Thesenet incomeprojectionsresult in substantial projected declinesinregulatorycapital ratios for nearlyall of ...
P a g e | 40of 7.7 percent in thefourth quarter of 2014, includingassumed capitalactionsfor the18 BHCs.TheDodd-Frank Act r...
P a g e | 41Toprovide context totheFederal Reserve‘sDodd-Frank Act supervisorystresstest results,thefollowingsectionsconta...
P a g e | 42TheDodd-FrankAct codified theFederal Reserve‘spracticeof disclosinga summary of theresultsof itssupervisory st...
P a g e | 43Scheduled dividend, interest, or principal payments on any other capitalinstrument eligible for inclusion in t...
P a g e | 44Company-Run StressTestsAs required by the Dodd-Frank Act, the Federal Reserve‘s stresstest rulesrequire covere...
P a g e | 45numeratorof a regulatory capital ratioare assumed tobepaid; butrepurchasesof suchcapital instrumentsandissuanc...
P a g e | 46Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
P a g e | 47Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
P a g e | 48Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
P a g e | 49Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
P a g e | 50Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
P a g e | 51Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
P a g e | 52Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
P a g e | 53Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
P a g e | 54Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
P a g e | 55Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
P a g e | 56Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
P a g e | 57Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
P a g e | 58GovernorDaniel K. TarulloAt the Cornell International Law JournalSymposium: The ChangingPoliticsof CentralBank...
P a g e | 59Here is whereinternational regulatory cooperation linkstothesubject ofthisconference--if not quite thechanging...
P a g e | 60In many respects,this crisiswasthe culminationof fundamental shiftsinboth theorganization and regulation of fi...
P a g e | 61Theperiod of relativelegal and industry stabilitythat had followedtheNew Deal thusgavewayin the 1970stoa nearl...
P a g e | 62But the shortcomingsof pre-crisisregulatory regimeshavebeen ofconcern toall central banks.Most notably, capita...
P a g e | 63Also, theBasel Committeehasjust recentlyadoptedthe LiquidityCoverageRatio(LCR), a first step in addressingliqu...
P a g e | 64of asset bubbles,excessiveleverage,and other signsof potential systemicvulnerability.In some respectsthis seco...
P a g e | 65financial firms, therebycreatingan alternativeto the Hobsonschoiceofbailout or bankruptcythat authoritiesfaced...
P a g e | 66From the perspectiveof financial stability, theparts of theshadowbankingsystem ofmostconcernarethosethat creat...
P a g e | 67Except for the liquidityrequirementsagreedtoin theBasel Committee,however, theliabilitysideof the balancesheet...
P a g e | 68In the wakeof thecrisis,weneed to consider carefullytheview thatcentral banksshould assessthe effect of moneta...
P a g e | 69that is especiallyuseful if imbalancesarebuildingacrossthefinancialsectorand not just in a particular area.Fin...
P a g e | 70Morethan in most other areas,thefinancial sphere suffers from a basiclack of congruencebetweenthe authorityto ...
P a g e | 71This kind of coordination challengecan be further complicatedby theparticipationin international discussionsof...
P a g e | 72containingthetoo-big-to-fail risksassociatedwithsystemicallyimportantfirms.Another shouldbe distillingthevario...
P a g e | 73On the other hand, there may alsobe areaswhere, notwithstandingtheimportanceof a particularregulatoryobjective...
P a g e | 74Third, weshould build on the very good analytic work in theBaselCommittee, both on simplifying capital require...
P a g e | 75This requirement wouldnot break brand new regulatoryground, sinceitwouldreallybe a modification of existingTie...
P a g e | 76andproduce the kind of interconnectednessthat can spawnrunsandcontagion.At present, noset of generallyapplicab...
P a g e | 77FollowingcompletionoftheLCR earlierthisyear, theBaselCommitteeisturningitsattentionback tothe Net Stable Fundi...
P a g e | 78In suggestingsomeconcretenext steps,I havetriedtodefinesomeusefuland important pointsof intersectionbetweenthe...
P a g e | 79ContagiousnessandVulnerability in theAustrianInterbank MarketClausPuhr, Reinhardt Seliger,MichaelSigmund, Oest...
P a g e | 80(iii) thenode level basedon banks‘interbank lendingrelationships.As a result wefind strong correlationsbetween...
P a g e | 81First, it takesanetwork, whichcould either begiven or derivedthrough anetworkformation process.Second, eachnet...
P a g e | 82Our main motivation is finding out whethersimulatedcontagiousnessandvulnerability isdriven by(i) banks‘idiosyn...
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Basel 3 March 2013

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Basel 3 March 2013

  1. 1. P a g e | 1Basel iii Compliance ProfessionalsAssociation (BiiiCPA)1200G Street NW Suite800Washington, DC 20005-6705USA Tel:202-449-9750Web: www.basel-iii-association.comDear Member,Todaywewill start from someamazingBaselIII jobs.Amazing: The average salaryand the demand for Basel III skillsin IT jobsadvertised acrossthe UKThefirst tablebelow looksat the demand for Basel III skillsin IT jobsadvertisedacrossthe UK.Includedisa guide tothe averagesalariesoffered in IT jobsthat havecited Basel III over the 3 monthsto 6 March2013witha comparison tothesameperiod in the previous2years.Thesecond tableis for comparison and provides aggregatesfor all of theQualityAssurance & Compliancecategory.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  2. 2. P a g e | 2Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  3. 3. P a g e | 3Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  4. 4. P a g e | 4Source:IT JobsWatch, that providesa uniqueperspectiveon todaysinformation technologyjob market (noaffiliation).Tolearnmore:http:/ / www.itjobswatch.co.uk/ jobs/ uk/ basel%20iii.doBasel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  5. 5. P a g e | 5Where to next?Prioritiesand themes for the BaselCommitteeKeynote addressbyMr StefanIngves,Governorof the SverigesRiksbank and Chairman of theBaselCommitteeon Banking Supervision totheThird BCBS-FSI High-LevelMeetingforCentral and Eastern Europe on ―StrengtheningFinancial SectorSupervisionand Current RegulatoryPriorities‖Good morning. It is my great pleasure tobe withyou again today.I wouldlike tobegin by extendingmy appreciationto the FinancialStabilityInstituteand the Banking Supervisorsfrom Central and EasternEurope for their effortsin bringing ustogether again for another of theseHigh-Level Meetings.Last year, I waspleasedtohavebeen ableto be a part of what wasa veryinterestingand enjoyable meetingin Warsawhosted by our Polishcolleagues.I hopewecan replicate thesuccessof that event this year here in Basel.I wouldlike totake theopportunity todayto reflect a littleon what theBasel Committeehasbeen doing sincewelast met.Then I will outlineworkcurrentlyin train aswell asour longer termstrategic priorities.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  6. 6. P a g e | 6TheCommitteemeetsin thisbuildingtomorrow,and continuestohaveavery full agenda.Indeed, the key messageI would like toleaveyou withisthat our work,although changingin nature, showsnosigns of easingoff.What have we done?Before I discusswhat‘sleft to do, let me recap what hasbeendone overthepast year.Thekey initiativescompleted by theCommitteein thepast year include:•reachingagreement on a package of revisionsto finalise Basel III‘sLiquidityCoverageRatio(LCR);• revisingthe Core Principlesfor EffectiveBanking Supervision;•developing a policy framework for dealingwith domestic systemicallyimportant banks;•establishingdisclosure requirementsfor the new Basel III definition ofcapital;and•updatingthe supervisoryguidancefor assessingthe effectivenessof abank‘sinternal audit function.In addition, theCommitteeestablisheda sound operatingframeworkwithinwhich toassessitsmembers‘implementationof Basel III.As a result, the Committeeproduced:•tworegular semiannual reports on Basel III implementationin allmember countries(along withtwospecial reportstothe G20onimplementation);Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  7. 7. P a g e | 7•assessmentsof Basel III implementationin theEuropean Union, Japanandthe United States;and•a report analysing the variabilityof risk-weightedasset calculationsformarket riskin individual banks.Further down the agenda, my colleaguesfrom the Basel CommitteeSecretariat will provide additional insightson our implementationwork.I wouldlike tomakethepoint now,however,that theseeffortsarecriticaltodeliveringonthe benefitsthat Basel III offers.Ruleswrittenhave noeffect if not implemented:wecannot fail on thisfront, and I will saymore about our effortsshortly.What are wedoing?There is still a great deal of workbeingdone tofinishthe Basel IIIframework.Thecapital standardsare now largely settled, withtheexception of sometechnicalworkon issueslike exposurestocentral counterparties(CCPs).As I notedearlier, the LCR has alsobeen finalised – albeit again withsome final technical details to be resolved.But there are other parts of the Baselframeworkwhichweare currentlyworkingtofleshout and make operational.Majorprojectscurrentlyunder wayinclude:•finalisingthe specificationof the leverageratio, and associateddisclosurerequirements;•reviewingthe Net StableFunding Ratio(NSFR), which addressesthelonger-termstructureofbank debt andcomplementstheshort-termfocusof the LCR;Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  8. 8. P a g e | 8•completingthe review of the trading book capital requirements.This entails an evaluation of the design of the market risk regulatoryregimeaswellasweaknessesinriskmeasurement under theframework‘sinternalmodels-basedand standardized approaches;•enhancingthetreatment of securitisationstomake capital requirementsmore prudent and risk-sensitive.We are alsoreviewingways to reducemechanistic relianceon externalcredit ratingsand toreduce current cliff effects in capital requirements;•strengtheningstandardsto limit excessiveand opaque risk-takingthrough over-the-counter(OTC) derivativesand toreducesystemic riskposed by OTC derivativestransactions,marketsand practices.Work on marginingrequirements, counterpartycredit risk and capital forbanks‘exposuresto central counterpartiesare examplesof our effortsrelatedtoderivatives;and•revising the supervisory framework for large exposures to complementthe Committee‘s risk-based capital standard and to help improve banks‘measurement and control of largeexposures.All of theseprojectsarenecessarytoensurethat theregulatoryframeworkadequatelyfactorsin thelessonsfrom thefinancial crisis.Thechallenge,almost fiveyears on from the height of the crisis, is toensure that webringclosure totheseprojectsand that theyare in placebeforethenext stage of thefinancial cycle begins.Underpinningthe Committee‘spolicy initiativesis an extensiveframeworkfor the collection and analysisof data tohelp usassessthequantitativeimpact of a particular policy.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  9. 9. P a g e | 9Quantitative impact studies (QIS) have become a central element of theCommittee‘s work, and we have a full slate of QIS exercises planned forthisyear.Alongside thesemiannual Basel III monitoring reports, almost all of thepolicy initiativesI have just mentionedhave one or more data collectionsor impact studiesplanned.While thiscan be a burden for banksand supervisors,thishopefullymakes for well informedpolicymaking – sois well worth theeffort.In additiontoall of thepolicyand analyticalwork,theCommitteeintendsto:•continueto monitor members‘commitmentstothe timelyimplementationof agreedreforms.Todate, this hasfocused on capital, but will be expandedover thenextyear to encapsulate localimplementationof the LCR, aswell astheframeworksfor global and domesticsystemicallyimportant banks(G-SIBs andD-SIBs), sincethesecome intoeffect over thenext coupleofyears;•undertake a full set of implementationassessmentsfor 2013. We willconduct reviewsof Singapore, Switzerland, China,Australia, Brazil andCanada.Follow-upreviewsof the European Union and the UnitedStatesare alsoplannedonce their Basel III regulationsare finalised;and•publisha report on the initial, detailed review of risk-weightedassetcalculationsfor thebankingbook; wehope topublish thefull resultsbythesummer.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  10. 10. P a g e | 10Together withthe recentlypublished resultson thetrading book, thisanalysisidentifiesthe specific driversthat lead to variationsin riskweightsfor similar exposures.TheCommittee‘snext step will thenbe toconsider policyresponsestoreduceany unwarrantedvariabilityand tothereforeimprovethecomparability of banks‘ratios.Atheme I will be returning to isthe importanceof this implementationmonitoring workfor the Committee.While it is a relatively new component of the Committee‘s mandate, itshould not be seen as an adjunct to the Committee‘s standard-settingrole.Rather, it is absolutelycritical tosuccessfullydeliveringdesiredpolicyoutcomes.Where to next?As you can see,theCommitteeis engagedin a varietyof projectsthatrequireustocombinethe effortsand input of regulatorsand supervisorsacrossa largenumber of countries.This is a challengingtask.An even greater challenge, however, is prioritisingamong competingprojectsto achieveour most pressingobjectives.TheCommittee‘sresponsetothe financial crisishasbeen strong, butthereis still much to accomplish.Sowehave recentlyspent some time identifying our key strategicpriorities, to make sure wehave a good meansof deciding what wereallymust do.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  11. 11. P a g e | 11Asyou may have seen, thesepriorities wereendorsedby the Group ofGovernorsand Headsof Supervision (GHOS) at the same time theyendorsedand announced the revisionstothe LCR.TheCommittee‘sprimary focusin the short and medium term iscompleting and embeddingthefull suiteof responsesto issuesthatemerged from the financial crisis.With that in mind, foremost considerationwill be given to five priorityareas:1.completingthecrisis-initiatedreformsof thepolicy framework;2.monitoringand reinforcingtheimplementationof Baselregulatorystandards;3.assessingthe impact of, and industry responseto, implementationoftheregulatory reforms;4.examiningthe comparabilityof model-based internal risk weightingsand consideringtheappropriatebalancebetweenthe simplicity,comparability and risksensitivityof theregulatory framework;and5.enhancingthe effectivenessof both micro- and macroprudentialsupervision.Completion of the crisis-initiated reformsof the policyframeworkAs I have alreadyhighlighted, the policyreformsinitiatedin response tothefinancial crisis are not yet complete.While thebasic frameworksfor risk-based capital and, more recently,liquidityarenow largely settled, manyof theother reformsI noted earlierremain verymuch a workin progress.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  12. 12. P a g e | 12Toensure that theweaknessesin the regulatory frameworkbrought tolight by thefinancial crisisdonot persist for any longer thannecessary,theCommitteeisaimingtohavemuchof this workcompletedbytheendof 2014.This is an ambitioustarget, but giventhe importanceof thesereforms,thereis nobasis for unnecessarydelay.Our plan is for theleverageratiowork– whichis largely devoted to thedetailedspecificationoftheexposuremeasure(ie thedenominator) oftheratio – tobe largely completed this year, while theNSFR, tradingbook,securitisationand largeexposurespolicy workwill be finalizedin 2014.TheCommitteealsohas twoother major policy initiativesthat it planstolaunchsoon.While not obviouslythought of asimmediateand essential responsestothefinancialcrisis,theyareneverthelessquiteimportant for ensuring thattheoverall prudential frameworkremainsrobust, andexistingreforms areeffective.Theseprojectsare:•a review of the standardised (credit and operational risk) approachestocapital adequacy, whichneed tobe re-examinedin light of callsforgreater simplicityand comparabilityin the regulatoryframeworkaswellasthe desire toreducethe relianceon credit ratingagenciesif possible;and•an examinationof theneed for a capital framework for interest rateriskin thebankingbook, particularlygiven thedesiretolimit arbitrageopportunitiesbetweenthe trading and banking books.Theselasttwoprojectsarestill at an embryonic stage, soI cannot saytoomuch about what theymight entail at thispoint in time, but theywill beBasel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  13. 13. P a g e | 13thelast piecesin what hasessentiallybeen a completeoverhaul of theregulatoryframework sincethe financial crisis.Monitoring and reinforcing implementation of Basel regulatorystandardsAs I have alreadysaid, theestablishment of the implementationmonitoring programme hasbeen a high priorityfor the Committee; it iscritical tothesuccessful delivery of the benefitsof theagreedreforms.Startingfrom scratch at thebeginningof 2012,a comprehensiveassessment framework hasbeen developed that isgrowingin itsacceptanceand credibility, and I am pleasedtoreport that theCommitteenowhasdedicatedcapacityin the area of implementation work.Theimplementationframeworkis beingcontinuously strengthenedthrough a lessonslearned process.Our goal istotakeamore holisticviewon theimplementationprocessbyfocusing not onlyon the existenceof a regulatory frameworkbut alsoonitsfunctioning.Theimplementationprocessis alsoenvisagedto be closely linked to theongoing policydevelopment process, creatingapositivefeedback loopthat can help strengthenthe regulatory regime.There is no doubt that this newmonitoring and assessment initiativehasalready had a positiveimpact.Asaresult of theregularmonitoring ofhowcountriesaretrackingagainstagreeddeadlines,aswell asthe forthcomingcountry assessments,member jurisdictionsregularlyapproach the Committeeabout specificaspectsof the Baselframework,actively seeking to ensure that their localadoptionof theBasel rules wouldnot beinadvertentlyout of linewith thespirit of the agreement.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  14. 14. P a g e | 14Jurisdictionshavealsobrought forwardthereleaseof their rulestoensurethat their progresswascaptured in theperiodicupdatesthat theCommitteehasprovided to the G20 and made public.Theself-assessment responsesundertakenfortheassessment processarealsobenefitingthe implementationprocess.In addition, theassessmentsof driversthat lead tovariationof bankingand tradingbook risk-weightedassetsare continuing and areto likelylead to both more consistent implementationof existingrules, and thedevelopment of policy optionstoaddressidentified areasof weakness.Thepriorityfor theCommitteenow is tobuild on theseachievementsinmonitoring regulatory compliancewithBasel standardsand tocontinuetoenhancetherigour ofall aspectsoftheimplementationmonitoring andassessment process.There isa very full agenda planned for 2013 and beyond which will deliverquite a number of new monitoring requirements(such asrulesrelating toliquidity, the leverage ratio and G-SIBs), as well as country and thematicassessment reports.It is a credit tomember jurisdictions,and evidenceof their commitmenttothe process,that this workcan be undertaken:first, it requires thewillingnessof each member tobe subject to review by their peers,andthen a continuingstrong commitment, includingsubstantial resourcingof expert staff, from all involved.Nevertheless, the effort will be well worthit if weachieveour objectiveofconsistent implementation of the Baselstandards.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  15. 15. P a g e | 15Assessing the impact of, and industry responseto, theimplementation of the regulatory reformsThemajor reformsthat have been developed by theCommittee, coupledwith thosebeingintroduced at thedomestic level, aredesignedtofundamentallyreshapebanking.Thereforms are intendedtogenerate amore resilient financial system, inwhichhigher levelsof capital and liquidityare held, and in whichrisk isappropriatelymanaged and priced.This will obviouslyhave consequencesfor the costsof financialintermediation,althoughstudiesundertakensuggest thatthiscost isbothrelativelysmall, andconsiderablyoutweighedbythebenefitsof increasedfinancial stability.Nevertheless, thisis not a caseof ―set and forget‖.TheCommitteeismindful of two potential consequencesfrom theprogrammeof reforms.While a degreeof deleveragingand increasedrisk premia areintendedconsequencesof thereforms, there is alwaysa danger that someunintended consequencesmay arise.TheCommitteeneedsto continueto undertakemonitoring exercisestoensure that it respondswhen truly unintended consequencesmaterialise;weunderstand fullythat, if left unattended, theywill serve to underminesupport for thereform agenda.However, we also need to avoid using thisasan excuseto delay necessaryreforms; to the extent there are unintended consequences, we need to seehowthey can be addressed without losingthe reform benefits.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  16. 16. P a g e | 16A second potential consequence relatesto the incentives that may arise asthe banking sector adaptsto the reforms by moving into those businesseswhererisk-adjusted(regulatory) returnsare greatest.This reshapingof banking (either withinbank balance sheetsor outsidetheregulated bankingsystem) needstobe monitoredon an ongoingbasisfor the Committeeto maintain a robust regulatory framework inlight of the evolving nature of thebanking industry.That doesnot mean that theregulatoryframework shouldbe in aconstantstateofflux, asthereareconsiderablebenefitsforfinancialfirmsbeingable toplan in a stableenvironment.But, equally, wecannot have a regulatoryregime that is set in stone, andcompletelyunresponsivetochangesin the environment that it is taskedwith regulating.Creating greater simplicity and comparability in the regulatoryframeworkAvigorouspublic debate hasdeveloped recentlyastowhether the Baselregulatoryframework strikes an appropriate balanceamong differentdesirablecharacteristics:simplicity, comparability and risksensitivity.Thepolicydevelopment processmusttaketheseandseveral other – oftencompeting – factorsintoaccount, and findingthe right balance ofteninvolvesa difficult set of trade-offs.Nevertheless, it is important to keep thisissueunder review,and sotheCommitteeestablished a high-leveltask force last year with a view tolookingat thisconcern from a broader,strategic perspective.The Committee has already had some discussions on the task force‘sfindings, and will have more in the coming months (including at ourmeetingthat beginstomorrow).Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  17. 17. P a g e | 17The way forward will also be guided by the findings of the reviewsof riskweighted assetsthat I mentioned earlier, since at the heart of that work isa concern about comparability.It is too earlytosayhow wewill take thisworkforward.Someissues,such asthosein relation tomarket risk modelling, can betaken up via our existingtrading book review.Others might require tweaksto the framework,or supervisoryguidance,whichcan be implemented in the near term.And othersmight necessitatea deeper, longer-term review before wecandecideon anysolution.We will publish a discussion paper in thecoming monthsthat dealswithdiscussessome of the complex trade-offsthat need tobe made.But one point I wouldstressis that whateverwedecideupon, it will bedesignedtostrengthenthecurrent framework,andthereisnothingthat isbeingproposedthat shouldgivereasontoholdoffontheimplementationof Basel III and other recently agreedreforms.Enhancing the effectivenessof both micro- andmacroprudential supervisionNot surprisingly, the Committee‘sagendain thepast few years hasbeendominated by policymaking.In 2012,implementationalsocame to thefore.Butit isperhapsstatingtheobviousthateffectivesupervisionisthekeytoensuring that regulation, once implemented, continuestowork asintended.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  18. 18. P a g e | 18Onlyif supervisorsaregiventhetoolstheyneedtoact can theyeffectivelyperform their role.As the policy reform agenda movestowardscompletion, and thenewrules are rolledout bynational regulators, the Committee willincreasinglyturn itsattention toenhancingsupervisorypractices.Enhancing microprudential supervisionTheCommitteehasa great deal of guidanceon supervisorymattersalready on issue.However,much of this wasdeveloped beforethe financial crisisand willbenefit from beingupdated to reflect lessonslearnedin recent years.Given the general applicability of much of this material, thebenefitsofthisworkwill alsoextend well beyond Basel Committeemembercountries.As withall multi-year projects,thiswill require prioritisation.Near-term attention is likely tobe given tooperational risks (internalcontrolsand informationtechnology), governance, supervisorycolleges,stresstestingand dealingwithweak banks.Enhancing the practical implementation of macroprudentialsupervisionThesystemically important bank – ―SIB‖ – regimeswill continueto be apriorityareafor theCommittee over thecoming years.Although the regimesfor global SIBsand domestic SIBs have now beenpublished, both will require a certain amount of ongoing maintenanceandmonitoring.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  19. 19. P a g e | 19Furthermore,asnotedin theG-SIB standard,themethodology, includingthe indicator-basedmeasurement approach itselfand the cutoff /threshold scores,will be subjectto periodic review and refinement everythreeyears.Beyond this work,the Committee will now turn itsattentionto thepractical implementationof toolsand techniquesto deal with systemicrisks.This will includetwocomplementaryareasof work:•RegulatoryconsequencesofSIB classification:BeingaSIB meansmorethan just higher capital.In light of the riskstheyimposeon thefinancial system, SIBs must beheldtoa higher standard withrespect tosupervisoryexpectationsfor riskmanagement functions,data aggregation capabilities,risk governanceand internal controls, all of whichare topics that featureprominentlyintheCommittee‘swork plan.In addition, given theprinciples-basednature of the D-SIB framework,the Committeewill monitor emergingpracticeasbanking supervisorsmovetowardsimplementationsoastofacilitatecross-bordercooperationandmutual understanding.•Use of microprudential toolsfor macroprudential purposes:TheCommitteewilloverseepreparationsforthecountercyclical buffer,aswellasexchangeinformation on thewiderrangeof microprudential toolsthathavebeen usedfor macroprudential purposes(eg sectoral adjustmentstorisk weights,stresstestingrequirements, loan-to-valuelimitsor varyingmargin requirements).Concluding remarksSincethe financial crisis, theBasel Committeehasaccomplished a greatdeal.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  20. 20. P a g e | 20But westill have work to dotocompletethe overhaul of the regulatoryframeworkand fullyfactor in all of thelessonslearned.We alsoneed toseewhetherwehavethebalanceright whenit comestosimplicityand risk sensitivity.That work isgoingtokeepthe Committeebusyfor at leastthe next twoyears.But that is far from the end of it, because, asI have noted a number oftimestoday, our policyworkwill not generate itsfull benefitsif notimplemented in a full, timely and consistent manner.Soour implementationmonitoring workis equallyimportant.And theneven whenthenew standardsare implemented, wewill needeffectivesupervisorsto ensure that theyare adheredto.This is an area wheretheCommitteehasthepotential todomuch more,particularlyonce thepolicy pipelinebeginsto slow.In other words,theBasel Committeewill continue toprovideyou withmuch totalk about – at this meetingand thosein the future!Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  21. 21. P a g e | 21Financial Stability Board reportstoG20 on progressof financialregulatory reformsTheChairman of the Financial StabilityBoard (FSB) reported to the G20FinanceMinistersand Central Bank Governorson progressin thefinancial regulatoryreform programme.In connection withthis, the FSBis publishing:•a letter bythe FSB Chair tothe G20, sent ahead of theirmeeting, reporting on the good progressbeingmade in financialreforms, includingin thefollowingpriorityareas:ocreatingcontinuouscore marketsby completingOTC derivativesand relatedreforms;ostrengtheningtheoversight and regulation of shadowbanking;obuildingresilient financial institutions;andoending ―toobig tofail‖.TheletteralsosummarisestheFSB‘srecent workand planstomonitortheimplementationof reforms.•An assessment of the effect of the G20 financial reform programme ontheavailability of long-term finance.This assessment hasbeen contributed by the FSBaspart of abroaderdiagnosticreport preparedbyinternationalorganisationstoassessfactorsaffectinglong-term financing.TheFSB assessment concludesthat, while there may be short-termadjustment effects, the most important contribution of thefinancialreform programme tolong-term investment financeis to rebuildconfidenceand resiliencein theglobal financial system.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  22. 22. P a g e | 22•a joint update by the International Accounting Standards Board (IASB)and the Financial Accounting StandardsBoard on the statusand timelineof their remainingprojectson convergingtheir standards.At today‘smeetingtheG20 FinanceMinistersand Central BankGovernorsreaffirmed their commitment tothe full, timely and consistentimplementationof internationallyagreed financial sector reforms,andlookedforwardto a comprehensive report on progressin implementingall reformsat the St Petersburg G20Summit in September.G20Ministersand Governorsalsowelcomedthe establishment of theFSBin January asa legal entitywithgreater financial autonomy and enhancedcapacitytocoordinatethedevelopment and implementationof financialregulatorypolicies,while maintainingstronglinkswith theBank forInternational Settlements.Progressof Financial Regulatory ReformsFinancial market conditionshave improved over recent months.Nonetheless, medium-term downsiderisksremain, given weak growthprospectsand high levelsof public and private sector debt in manyeconomies.Therecent improvement in financial market conditionsowesmuch tocentral bank actions, in particular, the accommodativemonetarypolicyaimed at stimulatingthe economic recovery.As a consequence, market participants‘appetitefor risk hasincreased,but this hasnot yet translatedintoa robust recovery in real investment.Thebeginningof thereturn of risk appetitetofinancial markets– whileintendedand welcome – raisesanumber of issues.First, market participantsand authoritiesneed to be on guard againstmispricing of risk and valuationsof assets.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  23. 23. P a g e | 23Second, the importanceof timelycompletion of the reformstoover-the-counter(OTC) derivativesmarketsand theshadow bankingsystem hasincreased.Third, historicallylowinterest ratesinmanycountriesposechallengesforinstitutional investorswithlong-datedliabilitiesand may leavemarketparticipantsmore vulnerable tounanticipatedmovementsin the yieldcurve.Financial institutionsand supervisorsshould continuetoassesstheresilienceofthefinancialsystem throughregular stresstesting, notablyofcredit and interestrate risk, and completetheprocessof balance-sheetrepair.1.Reportssubmitted for thismeetinga.Regulatory factors affecting the availability of long-termfinanceAs part of the diagnosticworkyou requestedof the internationalorganisations,the FSBhasprepared an assessment of the effect of theG20financial reform programme on the availability of long-terminvestment finance.ThereformsincludeBaselIII, OTC derivativesmarket reforms, andchangesaffectingtheregulatory and accountingframework forinstitutional investors.Thegeneral conclusion is that, while there may be some short-termadjustment effects, the most important contribution of thefinancialreform programme tolong-term investment financeis to rebuildconfidenceand resiliencein theglobal financial system.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  24. 24. P a g e | 24As a result, thesereforms should substantiallyenhancethefinancialsystem‘s capacityto intermediateinvestment flowsthrough the cycle atall investment horizons.Hence, the G20 regulatoryreforms are unambiguouslysupportive oflong-term investment and economic growth.Thesubmissionsof FSB members found littleevidencethat theregulatoryreformshavehad a notableimpact on long-term financingtothispoint.This is not surprisinggiven the fact that the reform processisstill at anearlystage.Several featuresof thereformsaredesignedto avoid major unintendedconsequences:thelong phase-in period for reforms;the ongoingimplementationmonitoring; and, in certain cases,the flexibilityto adjustrules during the observation period.Thefinancial reform programme is not specificto theregulation oflong-term finance.Nevertheless, the reforms will change the incentives of some financialinstitutions and the costs of certain transactions, which may affect thecomposition of long-term finance.In particular, institutional and other long-horizoninvestorsare expectedtoassume a greater rolein funding long-term assetsand more of thisinvestment may be intermediatedvia capital marketsrather than thebankingsystem.There arethree areasfor specific follow-upby the FSB.First, there should be ongoing monitoring to identify any regulatoryfactors that may disproportionately affect the provision of long-termfinancesothat theycan be addressed.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  25. 25. P a g e | 25Second, the FSBcould workwith otherstoexaminewhetherregulatoryfactorsmayconstraintheability ofnon-bankstoexpandtheirprovisionoflong-term finance.Third, the FSB can contributeto thework of other internationalorganisationstohelp promote the development of longer-term domesticsavingsand thecapacityof domesticfinancial systemstointermediatethem, particularlyin emergingmarket and developing economies(EMDEs).b. Update on accounting convergenceTheChairsof the InternationalAccounting Standards Board and theUSFinancialAccounting StandardsBoard havewrittenyou on their work onconvergenceof accountingstandards.ThetwoBoardsexpect tomake progresson the twokey outstandingissuesof impairment of loans,wheretheyexpect to completetheirdeliberationsin 2013, and insurancecontracts, whereboth Boards will beholdingpublic consultationsthis year.Of thesetwooutstandingissues,the need for convergence on a newforward-lookingexpectedlossapproach to provisioningis of mostimmediateconcern for end-usersand from a financial stabilityperspective.We note withconcern thedelaysin convergencetodate.We thereforerecommendthat theG20asktheIASB and FASB topreparebyend-2013a roadmapfor converging to a common approach forimpairment and for achievingthe G20objectiveof a singleset of highqualityaccountingstandards.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  26. 26. P a g e | 262. Priorities and work plansa. Creating continuousmarketsTheFSB remainsfullycommittedtotherapid completionof the G20‘sagreedreformsto OTC derivativesmarkets.As you are aware, thesecomplex reformsaretakingsomewhat longerthan originallyplanned.TheFSB will submit for your April meetingits latestprogressreport onimplementation, includinga comprehensivestock-takeof reformsasofend-2012,estimatesof theextent towhichtransactionsarebeingcentrallyclearedand reportedto trade repositories, and an overview of theremainingissuestobe resolved.It is important that all jurisdictionspromptlycompletethenecessarychangestolegislativeand regulatoryframeworksto put thesereformsintopractice.Tomaintain momentum, I have asked FSBmember jurisdictionstoconfirm beforetheSeptember Summit that the legislationand regulationfor reportingto traderepositoriesare in place,and alsothestepstheyaretakingtocompletetheimplementationof other OTC derivativesreforms.Ministersmay wishtotake a particular interest in progressin theirjurisdictionsto ensure timely compliance withtheseimportant reforms.TheFSB haspreviouslyidentified regulatoryuncertaintyasthemostsignificant impediment tofull and timelyimplementationof the OTCderivativesreforms.Toreducethis uncertainty, regulatorsareworkingtogether toidentifyand addressconflicts,duplication and gapsin thecross-borderapplication of rules.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  27. 27. P a g e | 27Theywill provideanupdateinApril ontheir progressand next steps,anda report totheSummit on how theidentified cross-border issueshavebeen resolved.Internationalpoliciesin remainingimportant areaswill alsobepublishedbytheSummit.Theseincludecapital requirementsfor exposurestocentralcounterparties, marginingstandardsfor non-centrallyclearedtransactionsand guidance on resolutionof central counterparties.Standard settersareundertakingan assessment of the incentivestocentrallyclear transactionsthat thesestandardscreateand will adjustthem asnecessarytoensure a robust system.TheFSB will alsoreport at the Summit the findingsof a newmacroeconomicimpact assessment of theOTC derivativesregulatoryreforms.Standard settersarealsodeveloping international guidanceon authorities‘accesstotraderepositorydata, includingin suchawaythat it can beaggregatedacrosstrade repositories.This guidance, whichwill be issuedfor consultationshortly and finalisedbytheSummit, will be important for ensuring that authoritiescan useinformation from traderepositoriesin their oversight of OTC derivativesmarketsand assessment of systemic risk.MinistersandGovernorswillwishtoensurethereiseffectivecross-borderaccessto thisinformation, whichisvital tothemonitoringof emergingfinancial vulnerabilities.The global Legal Entity Identifier (LEI) system will enhance the usabilityof the data; the Regulatory Oversight Committee as the governance bodyof the global LEI system wasestablishedin January 2013.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  28. 28. P a g e | 28EstablishingtheGlobalLEI Foundationisthekeynext steptolaunchthesystem in March2013.TheFSB continuestooffer strong support to theLEI initiativeand theFSB Secretariat will serve asROC LEI Secretariat for theinitial period.b. Strengthening the oversight and regulation of shadowbankingAs you will recall, theFSB deliveredtoyou lastNovember an initial set ofrecommendationstostrengthenthe oversight and regulationof shadowbanking.We have receiveduseful feedback through a public consultationon theinitial recommendations.TheFSB isrefiningthe recommendationsrelatingto securities lendingand repos, and thoserelatingto the policymeasuresfor shadowbankingentitiesother than money market funds.The recommendations will address bank-like risks to financial stabilityemerging from outside the regular banking system while not inhibitingsustainablenon-bank financingmodelsthat do not posesuch risks.Theapproach is designed tobe proportionateto financial stabilityrisksbyfocusing on thoseactivitiesthat are material to the system, using asastartingpoint thosethat werea sourceof systemic risk duringthe crisis.We will deliver certain recommendationsto the St Petersburg Summit.Thesemeasuresshould be viewed asthe start of a broader processsincetheyaddressthespecific risksthat aroseduring thecrisis and weallrecognisethe ability of the shadow bankingsector toinnovate.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  29. 29. P a g e | 29c. Building resilient financial institutionsIn January, agreement wasreachedbytheGroupofGovernorsandHeadsof Supervision on theLiquidityCoverage Ratio(LCR) to beapplied tobanks.Theagreement expandsthe rangeof high-qualityliquid assetsthat canbeincluded in theLCR and incorporatesevidence-basedassumptionsabout liquidityoutflowsin timesof stress.TheLCR will be introducedin 2015asplanned, withthe minimumrequirementsbeginningat 60% and reaching100%by 2019toallowtheglobal banking system sufficient time toadjust.d.Ending ―too-big-to-fail‖Progressisbeing madeby the IAIS in developingand testing amethodologyfor identificationof global systemically important insurers(G-SIIs), and in developing appropriatepolicy measures.This work should becompleted in the second quarter of 2013.An identificationmethodology for non-bank G-SIFIs will be issuedforconsultationin the secondhalf of 2013.Although implementationof theG-SIFI frameworkhasmuch farther togo, wewill deliver an assessment totheSt. Petersburg Summit of theprogressmade in developing crediblepoliciesfor ending too-big-to-fail(TBTF).3. Implementation of reformsBasel IIIConsistent implementationof Basel III is fundamental to strengtheningtheresilienceof theglobal banking system, maintainingmarketBasel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  30. 30. P a g e | 30confidencein theregulatory reformsand providinga level playing fieldfor internationallyactivebanks.The27member jurisdictionsof the Basel Committeeon BankingSupervision(BCBS) continuetomake progresstowardimplementation;11had issued final regulationsby12 February 2013and theremaining 16jurisdictionshave tableddraft regulations.TheEuropeanUnion andtheUnitedStatespublisheddraft regulationsin2012and intend tofinalisethem over thecourse of 2013.TheFSB and BCBSwill prepare a full update on countries‘adoption ofBasel III in domesticregulationfor your April meeting.Thecountriesthat havemissedtheJanuary 2013start date are workingtofinalisetheir regulationsand are expected to meet the2019timelineforfull implementation.Several more memberswill undergoa consistencyassessment of theirfinal regulationsby theBCBS in 2013.By end-2013,all jurisdictionsthat are the home regulatortoglobalsystemicallyimportant banks(G-SIBs) will have been subject to anassessment of their Basel III implementation.Other jurisdictionswill be subject to regulatory consistencyassessmentsshortlythereafter.TheBCBS hasconcluded an initial examination of the internationalconsistencyin the application of theBasel III risk weightingschemefortradingbook assets.Asimilar review is underwayregarding the banking book.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  31. 31. P a g e | 31Theanalysisforbanks‘tradingbooksindicatesthat supervisorydecisionsandvariationsin banks‘models contributetothe substantial differencesinbanks‘calculationsof market risk.(Theaveragerisk weightingof tradingassetsfor most banksin thestudyvaried between15% and 45%.)Thestudyalsoshowsthat banks‘public disclosuresare insufficient forunderstandinghow much of thesevariationsin banks‘reportedriskweightingsof assetsare owingtodifferinglevelsof actual risk versusthatowingtoother factors.This situation is unacceptable, and the studyhighlightsthreepolicyoptionswhichare beingaddressed in the BaselCommittee‘songoingwork:(i)Improving banks‘public disclosures, buildingon therecommendationsof theEnhanced DisclosureTaskForce;(ii) Narrowingdown modellingchoicesfor banks;and(iii) Further harmonisingsupervisorypracticesover approval of models.Resolution regimes and G-SIFI resolution plansAn effectiveand credibleresolution regime for SIFIs is a criticalcomponent of the policy framework for ending TBTF.Full implementationof theFSBKeyAttributesof EffectiveResolutionRegimeswill provideauthoritieswiththepowersand toolsnecessaryforthispurpose.We will shortlyconcludethefirst peer review of FSB members‘implementationof theKeyAttributes.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  32. 32. P a g e | 32Theworkunder thereview confirmsthat reformsare underwayin manyjurisdictionsto align national statutoryregimes withthe FSB KeyAttributes, but that significant work remains.We are developingan assessment methodology to assist countrieswiththeir implementation, and toprovidea basisfor future peer reviewsandIM F and World Bank assessments.Themethodology will be testedin pilot assessmentsbythe IMF andWorld Bank later thisyear and publishedin the second half of 2013.TheFSB and itsmemberswill alsothis year addressthe specific aspectsof resolutionof insurersand financial market infrastructuresand theprotectionof client assetsin resolution.By June 2013, resolution strategiesand plansshould be in placefor allG-SIFIs designated in November 2011.Toassist this processthe FSB haspubliclyconsulted on specific aspectsof recovery and resolutionplanningand isnow finalisingitsguidance.Progressin ending TBTF is contingent on the feasibilityand credibilityof putting theseresolutionplansintooperation.We will launchin thesecond half of 2013a first round of assessmentsunder the G-SIFI ResolvabilityAssessment Processtoevaluatetheprogressmade.Reducing the reliance on Credit Rating Agency (CRA) ratingsTheFSB hasrecentlylaunched a thematic peer review to assistitsmembersto fulfil their commitmentsunder the roadmap forimplementingthe FSBprinciplesfor reducingreliance on CRA ratings.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  33. 33. P a g e | 33This will includea stock-take of referencestoCRA ratingsin nationalauthorities‘lawsand regulationsand of actionsbeing taken toremove orreplace thesereferences.Thefindingswill feed intotheprogressreport on CRAs for theSummit,while thepeer review will be completed by early2014.Monitoring the impact of reformson EMDEsTheFSB will organisea workshopfor EMDEs in the first half of 2013tosharelessonsand experienceson implementingagreed financial reformsand on undertakingex anteassessmentsof their impact.FSB members withsignificant experiencein undertakingsuchassessmentswill be asked topresent their methodologies.TheFSB will report the findingsof theworkshopand other relevantmonitoring processesat theSt. Petersburg Summit.4. FSB resources, capacity and governanceFinally, I am pleasedto report that theFSB hasnow been establishedwith a legal personality.Alongside this,a rollingfive-year agreement under which theBISwillhost and provideresourcesfor theFSB hasbeen activated, and aninstitutional mechanism for theFSB‘sfinancial and resourcegovernanceestablished.TheFSB hasalsoadoptedProcedural Guidelinesfor itsoperational andadministrativeactivitiesand practices.Theseareimportant stepstowardsimplementationof the G20recommendationsat Cannesand Los Cabostoplace theFSB on anenduringorganisational footing, withstrengthenedgovernance, greaterBasel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  34. 34. P a g e | 34autonomy in resource use and enhanced capacitytocoordinatethedevelopment and implementation of financial regulatorypolicies,whilemaintainingstrong linkswiththe BIS.TheFSB will next elect new chairs for three of its Standing Committeesandbegin a review of the composition of their memberships.FollowingtheSt. PetersburgSummit, the FSB will set in train areview of the structure of itsrepresentation, whichweenvisage tobecompleted under theAustralianPresidencyof the G20.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  35. 35. P a g e | 35Dodd-Frank Act StressTest2013TheDodd-Frank Act requires allfinancial companiesthat havemore than $10 billionin totalconsolidatedassetsand areregulated by a Federal financialregulatoryagencytoconductcapital stresstestsat leastannually.TheFederalReservefinalizedthoserequirementsforBHCswithbetween$10 billion and $50 billion in assetsand state member banks and savingsand loan holding companies with over $10 billion in assets on October9, 2012.TheFederal Reserve expectslarge, complex bank holding companies(BHCs) to hold sufficient capital tocontinue lendingto support realeconomicactivity, evenunder adverseeconomic conditions.Stress testing is one tool that helps bank supervisors measure whether aBHC has enough capital to support its operations throughout periods ofstress.TheFederal Reserve previouslyhighlightedthe useof stresstestsasameansof assessingcapital sufficiencyunder stressduring the 2009SupervisoryCapitalAssessment Program (SCAP) and the 2011and 2012Comprehensive CapitalAnalysis and Review (CCAR) exercises.In the wakeof thefinancial crisis,theCongressenacted theDodd -FrankWall Street Reform and Consumer ProtectionAct (Dodd-FrankAct), which requires the Federal Reserve to conduct an annual stresstestof largeBHCs and all nonbank financial companies designatedby theFinancial Stability Oversight Council (FSOC) for Federal ReserveBasel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  36. 36. P a g e | 36supervision to evaluate whetherthey have sufficient capital toabsorblossesresultingfrom adverseeconomic conditions.TheDodd-Frank Act alsorequiresBHCs and other financial companiessupervised by the Federal Reserve to conduct their own stresstests.TheFederal Reserve adopted rulesimplementingtheserequirementsinOctober 2012.Under the rules,18BHCs arepart of theDodd-FrankAct supervisorystressteststhis year (DFAST 2013).This report describesthe hypothetical, severelyadversescenario designedbythe Federal Reserve;providesan overview of the analytical frameworkand methodsusedtogeneratethe projectionsof revenues,expenses,losses, andtheresultingpost-stresscapitalratiosforeachofthe18BHCs;and disclosesthe resultsof the2013Dodd-Frank Act supervisorystresstest.TheFederalReservebelievesthat disclosure ofstresstestresultsprovidesvaluableinformationtomarket participantsand the public, enhancestransparency, and promotes market discipline.Theprojectionsprovide a uniqueperspectiveon the robustnessof thecapital positionsof these firms becausetheyincorporatedetailedinformation about therisk characteristicsand businessactivitiesof eachBHC and because theyare estimatedusinga consistent approachacrossall the BHCs, providingcomparable resultsacrossfirms.TheFederal Reserve alsobelievesthat providinginformation about themethodologyusedtoproducethe resultswill offer useful context tointerpret thoseresults.Theprojectionswerecalculatedusing input data provided bythe 18BHCsand a set of modelsdeveloped or selectedby theFederal Reserve,based on a hypothetical, severelyadverse macroeconomic and financialBasel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  37. 37. P a g e | 37market scenario developed by the Federal Reserve.Theseverelyadversescenario featuresa deep recessionin theUnitedStates,Europe, and Japan, significant declinesin asset pricesandincreasesinriskpremia, andamarkedeconomicslowdownindevelopingAsia.TheFederal Reserve alsoapplied a separate global market shock to sixBHCswithlargetrading, privateequity, andcounterpartyexposuresfromderivativesand financingtransactions.Themodels project revenues, expenses,losses,and the resultingpost-stresscapital ratios for each BHC over a nine-quarter planninghorizon extendingthrough the end of 2014.TheFederal Reserve‘s projectionsshould not be interpretedasexpectedor likelyoutcomesfor thesefirms, but rather aspossibleresultsunderhypothetical, severelyadverseconditions.Theseprojectionsincorporatea number of conservative modelingassumptions, but donot make explicit behavioral assumptionsabout thepossibleactionsof a BHC‘s creditorsand counterpartiesin the scenario,except through the severelyadversescenario‘s characterizationsoffinancial asset pricesand economic activity.Tomake theprojectionsof post-stresscapital ratiosmore comparableacrossBHCs, theprojectionsreflect assumptionsabout capitaldistributionsprescribedin the Dodd-Frank Act stresstest rule.Over thenine-quarter planninghorizon, each BHC maintainsitscommon stock dividend paymentsat thesame level asthe previousyear,but repurchasesand issuanceof common stock is assumed tobe zeroexcept for common stock issuanceassociatedwith expensed employeecompensation.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  38. 38. P a g e | 38Theresultsof theseprojectionssuggest that, in the aggregate, the 18BHCswouldexperiencesubstantial lossesunder the severelyadversescenario.Over thenine quartersof theplanninghorizon, lossesat the 18 BHCsunder the severely adversescenarioareprojectedtobe $462billion, includinglossesacrossloanportfolios,losseson securitiesheld intheBHCs‘investment portfolios, tradingand counterpartycredit lossesfrom the global market shock, and other losses.Projected net revenuebeforeprovisionsfor loanand leaselosses(pre-provision net revenue, or PPNR) at the 18BHCsover the ninequartersof theplanninghorizon under theseverelyadverse scenariois$268billion, whichisnet of lossesrelatedtooperational-riskeventsandmortgagerepurchases,aswellasexpensesrelatedtodispositionofownedreal estateof $101billion.Taken together, thehigh projected lossesand lowprojectedPPNR at the18BHCs resultsin projectednet income beforetaxesof -$194billion.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  39. 39. P a g e | 39Thesenet incomeprojectionsresult in substantial projected declinesinregulatorycapital ratios for nearlyall of the BHCsunder theseverelyadversescenario.As illustrated in figure 1,the aggregate tier 1common ratiowouldfallfromanactual11.1percent in thethirdquarterof2012toapost-stresslevelBasel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  40. 40. P a g e | 40of 7.7 percent in thefourth quarter of 2014, includingassumed capitalactionsfor the18 BHCs.TheDodd-Frank Act requires the Federal Reserve to conduct an annualsupervisorystresstest of BHCs with$50billion or more in totalconsolidatedassetsand nonbank financial companiesdesignatedby theFSOC for Federal Reserve supervision(collectively, ―coveredcompanies‖).TheDodd-Frank Act alsorequirescoveredcompaniestoconduct theirownstresstests(company-run stresstests) semiannually.Together, the Dodd-FrankAct supervisory stresstestsand thecompany-run stresstestsare intended to provide BHC management andboardsof directors, the public, and supervisorswithforward-lookinginformation tohelp identify downsiderisksand the potential effect ofadverseconditionson capital adequacyof these largebankingorganizations.TheFederal Reserve adopted rulesimplementingthese requirementsinOctober 2012.Under the implementationphase-in provisionsof the Federal Reserve‘sDodd-Frank stresstest rules,only the 18BHCs that previouslyparticipated in the SCAP are required to conduct company-run stresstestsduring the current stresstest cycle that began in October 2012.Similarly, the Federal Reserve hasconducted supervisorystresstestsononlythese18 BHCsfor DFAST 2013.Both setsof stresstestsare alsointegrated intothe Federal Reserve‘sassessment of capital adequacy under CCAR.Important differencesbetweenthe Dodd-Frank Act supervisorystresstestsand the CCAR post-stresscapital analysisare outlinedin box 1.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  41. 41. P a g e | 41Toprovide context totheFederal Reserve‘sDodd-Frank Act supervisorystresstest results,thefollowingsectionscontain an overview of theFederalReserve‘s Dodd-FrankAct stresstest rules,focusing on theprocessfor the supervisorystresstestsand the requirementsforcompany-run stresstestsfor covered companies.Supervisory StressTestsUndertheDodd-Frank Act stresstest rules, theFederalReserveconductsannual supervisorystressteststoevaluatewhethera coveredcompanyhasthecapital, on a total consolidatedbasis, necessaryto absorblossesandcontinueitsoperations bymaintainingready accessto funding, meetingitsobligationsto creditorsand other counterparties, and continuing toserveasa credit intermediaryunder adverseeconomicand financialconditions.As part of this supervisorystresstest for each covered company, theFederal Reserve projectsrevenue, expenses,losses,and resultingpost-stresscapital levels, regulatorycapital ratios, and the tier 1commonratio under three scenarios (baseline, adverse, and severelyadverse),usingdata asof September 30.TheFederal Reserve generallyusesa common set of scenariosfor allcoveredcompaniesin the supervisory stresstest.However,the Federal Reserve may use additional scenariosorcomponentsof scenarios for all or a subset of the covered companiestocapture salient sourcesof risk, and thesescenariosmay usedata fromdatesother than theend of thethird quarter.In DFAST 2013, large, complex BHCswithsignificant tradingactivitiesare subjecttoa global market shock that reflectsgeneral market stressandheightened uncertainty, which affectstradingpositionsand elevatescounterpartycredit risk.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  42. 42. P a g e | 42TheDodd-FrankAct codified theFederal Reserve‘spracticeof disclosinga summary of theresultsof itssupervisory stresstest.In this paper, theFederal Reserve is disclosingthe resultsof the 2013Dodd-FrankAct supervisorystresstestsconducted under theseverelyadversescenario, includingfirm-specificresultsbasedon theprojectionsmadeby the Federal Reserve of each BHC‘srevenues, expenses, losses,andpost-stresscapital ratiosover the planning horizon.Box 1. Dodd-Frank Act Supervisory StressTests andthe CCAR Post-StressCapital AnalysisWhile closelyrelated, there are some important differencesbetweentheDodd-FrankAct supervisorystresstestsandtheCCAR post-stresscapitalanalysis.Theprojectionsof pre-tax net income from the Dodd-Frank Actsupervisorystresstestsaredirect inputstothe CCAR post-stresscapitalanalysis.Theprimary differencebetweenthe Dodd-FrankAct supervisorystresstestsand the CCAR post-stresscapital analysisis thecapital actionassumptionsthat arecombined with theseprojectionsto estimatepost-stresscapital levelsand ratios.Capital ActionAssumptionsfor theDodd-Frank Act Supervisory StressTestsToproject post-stresscapital ratiosfor theDodd-FrankAct supervisorystresstests, the Federal Reserve usesa standardizedset of capital actionassumptionsthat are specified in the Dodd-FrankAct stresstest rules.Common stock dividend paymentsare assumed to continueat the samelevel asthe previousyear.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  43. 43. P a g e | 43Scheduled dividend, interest, or principal payments on any other capitalinstrument eligible for inclusion in the numerator of a regulatory capitalratio are assumed to be paid.Theassumptionsare that repurchasesof common stock are zero.Thecapital action assumptionsdonot include issuanceof new commonstock, preferred stock, or other instrument that wouldbe includedinregulatory capital, except for common stock issuanceassociatedwithexpensed employee compensation.Capital ActionsforCCARIn contrast, for theCCAR post-stresscapitalanalysis, theFederalReserveusesBHCs‘planned capital actions,and assesseswhethera BHC wouldbe capableof meeting supervisoryexpectationsfor minimum capitalratios even if stressful conditionsemergedand theBHC did not reduceplannedcapital distributions.As a result, post-stress capital ratios projected for the Dodd-Frank Actsupervisory stress tests should be expected to differ significantly fromthosefor the CCAR post-stresscapital analysis.For example, if a BHC includesa dividendcut in itsplanned capitalactions,itspost-stresscapital ratiosprojected for the CCAR capitalanalysiscould be higher than thoseprojected for the Dodd-FrankActsupervisorystresstests.Conversely, if a BHC includessignificant dividend increases,repurchases, or other actionsthat depletecapital in itsplannedcapitalactions,thepost-stresscapital ratiosfor the CCAR could be lower.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  44. 44. P a g e | 44Company-Run StressTestsAs required by the Dodd-Frank Act, the Federal Reserve‘s stresstest rulesrequire covered companies to conduct two company-run stress tests eachyear.In conducting the―annual‖ test, a coveredcompany usesdata asofSeptember 30 and reportsitsstresstest resultsto theFederal Reserve byJanuary 5.In addition, a covered company must conduct a ―midcycle‖ test andreport the resultsto the Federal Reserveby July5.TheDodd-Frank Act stresstest rulesalign the timingof annualcompany-run stresstestswiththe annual supervisorystresstestsofcoveredcompanies.In theirannualstresstests,coveredcompaniessubject totheDodd-FrankAct stresstest rulesmust usethe scenariosprovidedby the FederalReserve.Each year, theFederal Reserve will provide at least three scenarios—baseline, adverse, and severelyadverse—that are identical tothescenariostheFederal Reserve usesin theannual supervisorystresstestsof covered companiesBy providinga common set of scenariosto allfirms, the resultsof company-run and supervisory stresstestsfor all 18BHCswill be based on comparable underlying assumptions.Tofurther enhancecomparability, the supervisory stresstestsandcompany-run stresstestsconducted under the Dodd-Frank stresstestrules usethe same set of capital action assumptions.According to these assumptions,over thenine-quarterplanninghorizon, each BHC maintainsitscommon stock dividend paymentsatthesamelevel asthe previousyear; scheduleddividend, interestorprincipal paymentson any other capital instrument eligiblefor inclusionin theBasel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  45. 45. P a g e | 45numeratorof a regulatory capital ratioare assumed tobepaid; butrepurchasesof suchcapital instrumentsandissuanceof stock is assumedtobe zero.Finally, each covered company must publicly disclose a summary of theresults of its company-run stress test under the severely adverse scenarioprovided by the Federal Reserve.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
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  58. 58. P a g e | 58GovernorDaniel K. TarulloAt the Cornell International Law JournalSymposium: The ChangingPoliticsof CentralBanks, New York, New YorkInternational Cooperation in FinancialRegulationNext month marks the fifth anniversary of thefailure of Bear Stearns--inretrospect, thebeginningof themost acutephaseof thefinancialcrisis.Thecross-borderdimensionsof the crisisitselfand theglobaleffectsof the GreatRecessionthat followedprovokeda major efforttostrengtheninternational cooperationin financial regulation.While a good deal hasalready beenaccomplished, thiseveningI will suggest the next stepsthat wouldbe mostuseful inadvancingglobal financial stability.Of course, the fashioning of an international agenda requires a clearunderstanding of the overall regulatory aims of participating nationalauthorities.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  59. 59. P a g e | 59Here is whereinternational regulatory cooperation linkstothesubject ofthisconference--if not quite thechangingpoliticsof central banks, thenatleasttheir changingpolicy goalsin thewakeof thefinancial crisis.Almostbydefinition, systemic crisesreveal failures acrossthefinancial system,from breakdownsin risk management at many financial firms toseriousdeficienciesingovernment regulationof financialinstitutionsandmarkets.While the recent crisiswasnoexception, it haspresented particularchallengestothepolicyfoundationsofcentralbanks,especiallythoseliketheFederal Reservethat carry out regulatory mandatesalongsidetheirmonetarypolicy missions.SoI begin withsome remarkson thenature of thosechallenges,beforeturningtoa discussionof how changesin approach should informinternational cooperationin financial regulation.Central Banks and the Financial CrisisIn surveying the failings of financial authorities, both here and abroad,onecan certainlyidentify some specific characteristicsof pre-crisisregulation that look todayto have been significantlymisguided, ratherthan the advancestheywereformerly thought tobe.So, for example, regulatorsbecame prone to placetoo much confidencein thecapacityof firms to measure and managetheir risks.Indeed, thedecadeorsoprior tothecrisishad seen anaccelerationof theshift from a dominantlyregulatory approach toachievingprudential aims--onethat restson activitiesand affiliationrestrictions,and otherreasonablytransparent rules--towardgreater emphasison a supervisoryapproach, whichrelieson a more opaque, firm-specific processofwatchingover banks ownrisk-management and compliancesystems.Yet thebreadth and depth of the financial breakdownsuggest that it hasmuch deeper roots.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  60. 60. P a g e | 60In many respects,this crisiswasthe culminationof fundamental shiftsinboth theorganization and regulation of financial marketsthat began inthe1970s.TheNew Deal reforms of financial regulation, themselvesspawnedby asystemic crisis, had separated commercial banking from investmentbanking, cured theproblem of commercial bank runsby providingfederal deposit insurance,and brought transparencyand investorprotectionsto tradingand other capital marketsactivities.This regulatory approach fostered a commercial banking system thatwas,for thebetter part of 40years, quitestableand reasonablyprofitable,though not particularlyinnovativein meetingtheneedsofdepositorsand borrowers.In the1970s, however, turbulent macroeconomicdevelopmentscombinedwith technological and businessinnovationsto produceanincreasinglytight squeezeon thetraditional commercial bankingbusinessmodel.Thesqueezecamefrom boththeliabilitysideof banks balancesheets,intheform of more attractivesavingsvehiclessuchasmoneymarketfunds,and from the asset side, with thegrowthof public capital marketsand international competition.Thelargecommercial banking industrythat saw both its fundingand itscustomer basesunder attack sought removal or relaxation of theregulationsthat confinedbank activities,affiliations, and geographicreach.While supervisors differed with banks on some importantparticulars, they were sympathetic to this industry request, in partbecause of the potential threat to the viability of the traditionalcommercial bankingsystem.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  61. 61. P a g e | 61Theperiod of relativelegal and industry stabilitythat had followedtheNew Deal thusgavewayin the 1970stoa nearly 30-year period duringwhichmanyprevailingrestrictionson bankswererelaxed.Agood number wereloosenedthrough administrativeaction bythebankingagencies,but important statutory measuresheaded in the samedirection.This legislativetrend culminated in the Gramm-Leach-BlileyAct of1999, which consolidated and extended the administrativechangesthathad allowedmore extensiveaffiliationsof commercial bankswithinvestment banks, broker-dealers,private equity firms, and other financialentities.But in sweepingawaytheremnantsof one key element of theNew Dealregulatorysystem, neither Gramm-Leach-Bliley nor financial regulatorssubstituted new regulatory mechanismstomatch the wholesalechangesin thestructure of thefinancial servicesindustry and thedramaticgrowthof novel financial instruments.In fact, I wouldgeneralize this last observation tosaythat theneed toaddressthe consequencesof theprogressiveintegrationof traditionallending, tradingactivities,and capital marketslies at theheart of threepost-crisischallengesto thepolicy foundationsof the Federal Reserveand, to a greater or lesser degree, manyother central banks.Microprudential RegulationThefirst challengeposed by the crisiswasto traditional, microprudentialregulation, whichfocuseson the safetyand soundnessof eachprudentiallyregulated firm.Not all central bankshave microprudential regulatory authority, ofcourse, and--asin theUnited States--thosethat dosometimesshare itwith other agencies.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  62. 62. P a g e | 62But the shortcomingsof pre-crisisregulatory regimeshavebeen ofconcern toall central banks.Most notably, capital requirementsfor bankingorganizations,particularlythe largeonesthat might be regarded astoo-big-to-fail,simplywerenot strong enough.Risk-weightsweretoolowfor certain traded assetsthat had proliferatedascredit and capital marketsintegratedmore thoroughly.In some cases,thearbitrageopportunitiespresented by existingcapitalrequirementswerean incentivefor securitizationand other capitalmarketsactivities.Theexposurescreated by off-balance-sheetactivitiessuch asstructuredinvestment vehicles (SIVs) werebadly underweighted.Minimum capitalratioswerenot high enoughand, in meetingeven thoseinadequaterequirements,firmswereallowedtocount liabilitiesthat didnot reallyprovidetheabilityto absorb lossesand still maintain the firmsasviable, functioningintermediaries.There hasalreadybeen a substantial responsetothis challenge.With the support of the Federal Reserve and other U.S. bank regulators,theBasel Committeeon Banking Supervisionhasstrengthenedcapitalrequirementsby raisingrisk-weightingsfor traded assetsand improvedthequalityof loss-absorbingcapital through a new minimum commonequityratio.Thecommittee alsohascreated a capital conservation buffer andintroduced an international leverageratio.TheseBasel2.5and Basel III reforms either havebeen, or soon will be,implementedintheUnitedStatesandmostother countriesthat arehometointernationallyactivebankingfirms.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  63. 63. P a g e | 63Also, theBasel Committeehasjust recentlyadoptedthe LiquidityCoverageRatio(LCR), a first step in addressingliquidityproblems.In theUnited States, some important additional stepshavebeen taken.Beginningat thepeak of the crisis, theFederal Reserve hasconductedstresstestsof largebankingorganizations, making capital requirementsmore forward-lookingby estimatingthe effect of an adverseeconomicscenario on firm capital levelsin a manner lessdependent on firmsinternalrisk-measurement infrastructure.And the provision of theDodd-FrankAct popularly knownasthe CollinsAmendment ensuresthat banking organizationscannot usemodels-basedapproachesto reducetheir minimum capital belowgenerallyapplicable, more standardized risk-based ratios.Macroprudential RegulationAsecond challengefor central banksis that the crisisrevealed the needfor a much more activeset of macroprudential monitoring and regulatorypolicies--that is, a reorientationtowardsafeguarding financial stabilitythrough thecontainment of systemic risk.Thefailure to attendto, or even recognize, financial stabilityriskswasperhapsthemost glaring public sector deficiencyin the pre-crisisperiod.This wasa fault by nomeanslimitedto central banks.On the contrary, systemic risk had alsocome toseem more theoreticalthan real to manyacademicsand financial market participants.Even most of thoseinsideand outsidetheofficial sector whoargued forstronger capital or other prudential standardsdid not appreciatethedegreetowhichthesecondary mortgage market had turned intoa houseof cards.Still, regardlessof formal mandates, central banks arebetter positionedthan most other government agenciestoseeand evaluatetheemergenceBasel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  64. 64. P a g e | 64of asset bubbles,excessiveleverage,and other signsof potential systemicvulnerability.In some respectsthis second challengeisan extension of the first, sincethesafetyand soundnessof largeinstitutionsmust take account of therelativecorrelationof their asset holdings,interconnectedness,commonliquidityconstraints,and other characteristicsof largebankingorganizationsasa group.Similarly, systemic risks and too-big-to-fail problems can increaseiflarge, highly leveragedfirms may operateoutsidethe perimeter ofstatutorymicroprudential oversight, aswasthecasepriorto2008withthelarge, free-standinginvestment banksin theUnited States.And market disciplinewill be badlycompromised if financial marketparticipantsbelievethat an insolvent counterparty cannot beresolved inan orderly fashionand thusis likely toreceivegovernment assistanceunder stress.Here again, domestic and international efforts have already producedsignificant reform programs, though implementation of some of theseprogramsislessadvanced than Basel2.5and Basel III.Domestically, theFederal Reserves annual stresstestsexaminetheeffectsof unexpectedmacroeconomicshockson asset classesheldwithinall major regulated firms.TheDodd-Frank Act gave theFinancial StabilityOversight Council(FSOC) authority tobring systemically important firms that are notalready bank holding companieswithintheperimeter of Federal Reserveregulation and supervision.TheFSOC is activelyconsideringseveral firms for possibledesignation.Finally, theDodd-Frank Act gavethe Federal Deposit InsuranceCorporation orderlyliquidationauthority for systemicallyimportantBasel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  65. 65. P a g e | 65financial firms, therebycreatingan alternativeto the Hobsonschoiceofbailout or bankruptcythat authoritiesfaced in 2008.Internationally, the Basel Committeehasagreed toa regimeof capitalsurchargesfor largebanksbasedon their systemic importance.There is alsoan initiativeto parallel U.S. effortsto identifynon-banksystemicallyimportant firms.TheBasel Committee and the Financial Stability Board havedevelopedinternationalprinciplesforresolutionauthority, thoughmost oftherestoftheworldis behind the UnitedStatesin actuallyimplementingthoseprinciples.But meetingthemacroprudential challengewillrequire measuresbeyonda more comprehensive, cross-firm approach tomicroprudentialregulation.Much academicand policy work of thepast several yearshasrevived andelaborated thepreviouslysomewhat heterodox view that financialinstabilityisendogenousto the financial system, or at least thekind offinancial system wenowhave.Consider,for example,how the intertwiningof traditional lendingandcapital marketsgaverise to what hasbecome knownasthe shadowbankingsystem.Shadowbanking, whichrefers tocredit intermediation partly or whollyoutsidethe limitsof thetraditional banking system, involvesnot onlysizeablecommercial and investment banks, but many firms of varyingsizesacrossa rangeof markets.While some of themore notoriouspre-crisiscomponentsof theshadowbankingsystem are probablygone forever, current examplesincludemoneymarket funds, thetripartyrepomarket, and securities lending.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  66. 66. P a g e | 66From the perspectiveof financial stability, theparts of theshadowbankingsystem ofmostconcernarethosethat createassetsthought tobesafe,short-term, and liquid--ineffect, cash equivalents.For a varietyof reasons, demand for such assetshasgrownsteadily inrecent years,andisnot likelytoreversedirectionintheforeseeablefuture.Yet theseare the assetswhosefunding is most likelytorun in periodsofstress,asinvestorsrealize that their resemblancetocash or insureddepositsin normal timeshasdisappearedin thefaceof uncertaintyabouttheir underlying value.And, as was graphically illustrated during the crisis, the resulting forcedsales of assetswhose valuesare already under pressure can accelerate anadversefeedback loop, in whichall firmswithsimilar assetssuffermark-to-market losses,which, in turn, can lead tomore fire sales.Thiskindof contagionlayat theheart ofthefinancialstressesof2007and2008.As alreadynoted, pre-crisisshortcomingsat the intersection ofmicroprudential andmacroprudential regulationhavemotivatedavarietyof reforms, many explicitlydirected at the problem of too-big-to-failinstitutions.While some of thesereforms remain unfinished, and some additionalmeasuresareneeded, therehasbeen considerableprogress.Unfortunately, thesame cannot be saidwith respect to shadowbankingand, more generally, thevulnerabilitiesassociatedwithwholesaleshort-term funding.Thesevulnerabilitiesinvolveboth large, prudentiallyregulatedinstitutions,and thustoo-big-to-fail concerns, and thebroader financialsystem.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  67. 67. P a g e | 67Except for the liquidityrequirementsagreedtoin theBasel Committee,however, theliabilitysideof the balancesheetsof financial firmshasbarelybeen addressedin the reform agenda.Yet here is wherethesystemic problemsof interconnectednessandcontagion are most apparent.And, asevidencedby the funding stressesexperiencedby a number ofEuropean banksprior tothe stabilizingmeasurestaken by the EuropeanCentral Bank, theseproblemsare still verymuch withus.Within theUnited States, reform effortsare underwayin some discrete,but important, areas.Theprovisionsof Dodd-Frank requiringmore central clearingofderivativesand minimum marginsfor thosethat remain uncleared aredesignedtoprovidemore systemic stability.As to shadowbanking itself, theFSOC recentlyproposed optionstoaddressthestructural vulnerabilitiesin moneymarket mutual funds,withan eye towardrecommendingactionby the Securitiesand ExchangeCommission.And the Federal Reserve hasbegun usingits supervisoryauthoritytopressfor a reductionin intradaycredit risk in thetripartyrepomarket.But thesemeasuresare incomplete, and donot extend to all forms ofshort-term funding that can poserun risks, a universe that is likely toexpand asprudential constraintsbegin toapplytolargeexistingshadowbankingchannels.Monetary PolicyWhile the first twopolicy challengesare shared among regulatoryandfinancial agencies, the third liessolely withcentral banks.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  68. 68. P a g e | 68In the wakeof thecrisis,weneed to consider carefullytheview thatcentral banksshould assessthe effect of monetary policy on financialstability and, in someinstances, adjust their policy decisionsto takeaccount of theseeffects.The dramatic rise in housing prices, and the associated high amounts ofleverage taken on by both households and investors, occurred during anextendedperiod of lowinflation.Somehave suggested that, by not raisingratesbecauseinflationremainedsubdued, monetary policy in theUnitedStatesand elsewheremay have contributed to themagnitudeof thehousing bubble.Whatever the meritsof that much-contestedpoint, it seemswisetoaddressthisissueaswefacewhat could well be another extended periodof low inflationand lowinterestrates.It is important tonote that incorporatingfinancial stabilityconsiderationsintomonetarypolicydecisionsneednot implythecreation of an additionalmandate for monetary policy.Thepotentiallyhugeeffect on price stability and employment associatedwith boutsof seriousfinancial instabilitygivesamplejustification.Here I want tomention some commentsby my colleagueJeremy Stein acoupleof weeksago.After reviewingthe traditional argumentsagainst usingmonetary policyin responsetofinancial stabilityconcernsand relying instead onsupervisorypolicies,Governor Stein offeredseveral reasonsfor keepingamore open mind on thesubject.First, regulation hasitsown limits,not theleast of which is theopportunityfor arbitrageoutsidethe regulated sector.Second, whateveritsbluntness, monetary policy hasthe advantageofbeingable to"get in all the cracks" of thefinancial system, an attributeBasel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  69. 69. P a g e | 69that is especiallyuseful if imbalancesarebuildingacrossthefinancialsectorand not just in a particular area.Finally, by alteringthe composition of itsbalancesheet, central banksmayhaveasecond policyinstrument inadditiontochangingthetargetedinterest rate.So, for example, it ispossiblethat a central bank might under someconditionswant tousea combination of thetwoinstrumentstorespondtoconcurrent concernsabout macroeconomicsluggishnessandexcessivematuritytransformation by loweringthe target (short-term) interest rateand simultaneouslyflatteningthe yield curve through swappingshorterduration assetsfor longer-term ones.Tobe clear, I donot think that weareat present confronted with asituationthat wouldwarrant thesekindsof monetarypolicy action.But for that very reason, it seemsthat now is a good timetodiscusstheseissuesmore actively, sothat if and whenwedo facefinancialstabilityconcernsassociatedwith asset bubblesbackedby excessiveleverage, wewill havea well-consideredview of therolemonetarypolicymight playinmitigatingthoseconcerns.Advancing the International Reform AgendaLet me turn nowtothewayin whichour shiftsinpolicy approachshouldinform theagenda for international cooperation in financial regulation.For obviousreasons,themonetarypolicy issuesarenot directlyrelatedtothisagenda, though our understandingof these issuesmay profit fromdiscussionswithour central bank colleaguesfrom around the world.It is equallyobviousthat the other twosetsof policy changesare quitecloselyrelated to theinternational agenda.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  70. 70. P a g e | 70Morethan in most other areas,thefinancial sphere suffers from a basiclack of congruencebetweenthe authorityto regulateand theobject ofregulation.Thuswehave a significantlyinternationalizedfinancial system, in whichshocksare quickly transmittedacrossborders, but a nationally-basedstructure of regulation.Withincountries, responsibilitiesmay be dividedbetweenprudentialregulatorsand market regulators,among regulatorswith similarmandates,or both.Central banksmayhaveexclusiveprudential authority, shareit withotheragencies,or have none at all.International arrangementsboth reflect, and try tocompensatefor, thiswebof divided and overlapping domesticauthority.Thusthere are sectoral standardssetters like theBaselCommittee, theInternational Organizationof SecuritiesCommissions(IOSCO), and theInternationalAssociation of InsuranceSupervisors(IAIS) on theonehand, but alsobroader groupingssuch asthe Group of Twenty, theFinancial Stability Board (FSB), and theInternational MonetaryFund ontheother.In addition, under theumbrella of the international home of centralbankers,the Bank for International Settlements,numerousothercommitteesworkacrossfieldsalsocoveredbyoneormoreofthegroupsIhavejustmentioned.There are some obvious weaknesses with such an assortment ofinternational arrangements, notably the difficulty of coordinatinginitiativeswheremore than one group is workingon an issue.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  71. 71. P a g e | 71This kind of coordination challengecan be further complicatedby theparticipationin international discussionsof variousnational officialswithout domesticauthority in a particular area.The sheer proliferation of international arrangements, each with its ownstaff, has at times also led to a proliferation of studies and initiatives thatbecome burdensome to the national regulators and supervisors who havebeen overtaxed at home since the onset of the crisisand ensuing domesticreform efforts.Yet thereare alsosome strengthsderived from thecrowdedinternationalfieldof organizationsand committees.Onesuchvirtue is that issuesnot fallingsquarely within theremit of aparticular kind of standardssetter can nonethelessbe dealt withinternationally.This, in fact, hasbeen theexperiencewiththe ongoing internationaleffort to agree on minimum margin requirementsfor derivativesthat arenot centrallycleared.Another is that different perspectivesarefrequentlybrought tobear on asingleset of problems.At some point, it likelywill be beneficial to rationalize somewhat theoverlapping, sometimescompetingeffortsof thesevariousinternationalarrangements.For thenear tomedium term, though, it is important to havesomeprinciplesfor decidingupon the international agenda that should governtheeffortsof these arrangementsasa whole.First, initiativesshould be prioritized.Onepoint of emphasisshould be completing, and ensuringimplementationof, the internationallyagreed-upon framework forBasel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  72. 72. P a g e | 72containingthetoo-big-to-fail risksassociatedwithsystemicallyimportantfirms.Another shouldbe distillingthevariousideasrelatingtoshort-termfundingvulnerabilitiesintoa few that have promiseasdiscrete, relativelynear-term initiatives, whilecontinuingstudyof other, morecomprehensivemeasures.Asecond, relatedprincipleis that initiativesshould be focused andmanageable,reflectingnot onlythe limitedcapacityof participatingnational authorities, but alsothe desirabilityof reachingat least atemporaryequilibrium at whichfirms can get on withthebusinessofplanningtheir strategiesin a clearerregulatory environment, andregulatorscan begin to take stockof the cumulativeeffectsandeffectivenessof thechangesthat have takenplacein that environment.Athird principleisthat,inmostinstancesat least, internationaleffortstodevelop new regulatorymechanismsor approachesshould build onexperiencederived from national practicein one or more jurisdictions.Thechallengesencountered during the initial effort to devise an LCR intheBasel Committee, withlittleor noprecedent of national quantitativeliquidityrequirementsfrom whichto learn, should counselcaution intryingtoconstruct new regulatorymechanismsfrom scratchat theinternational level.There will doubtlessbe exceptionstothisgeneral principle, such aswherethe transnational arbitrageincentivesof a regulatory measure aresostrong asto make national effortsdifficult toinitiateand sustainwithout substantial lossof financial activitytoother countries.And, in theimmediateaftermath of thecrisis, there wasaneedtoharnessthebroad-based demandsfor reform and move forwardon some priorityreforms without benefit of learningfrom national initiatives.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  73. 73. P a g e | 73On the other hand, there may alsobe areaswhere, notwithstandingtheimportanceof a particularregulatoryobjectivefor international financialstability, it may be preferable to maintain a varietyof approachestoachievingthat objective.Bearing in mind both these principles and the key areas for policychange at central banks and other financial regulators, let me nowsuggest some specific subjectsfor near-term emphasis.As to the frameworkfor systemically important financial institutions(SIFIs), I wouldurge that twoongoing initiativesbe completedover thenext year and twoideasthat have been in the discussionstagebedeveloped intoconcrete proposals.First, the proposal for a capital surcharge for systemically importantbankingorganizationsis nearing completion.TheBasel Committeecontinuestorefinethemethodology tobe used inidentifying the firmsand calibratingthesurchargeamount--perhapsabyproduct of the fact that this methodology had tobe developedin theBasel Committeewithout benefit of prior precedent.But I have confidencethat thisworkwill be successfullycompleted.Thesecond ongoinginitiative--workon designatingnon-bankSIFIs--hastodatebeen pursued mostlyin theIAIS and thushasconcentrated on insurancecompanies.It is important to take the time to evaluate carefully the actual systemicrisk associated with these companies, and to understand the amount ofsuch risk relative to other financial firms, before fixing on a list of firmsand surcharges.But thisseemstome a realisticgoal over the next six months.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  74. 74. P a g e | 74Third, weshould build on the very good analytic work in theBaselCommittee, both on simplifying capital requirementsfor credit risk andon fashioningstandardized capital requirementsfor market risk, toapplystandardizedcredit andmarket riskcapitalmeasurestoall internationallyactivebanking firms.As I mentioned earlier, the United Stateshas alreadyadoptedsuch arequirement for capital requirementson credit risk.Thesestandardizedmeasuresserve asa floor toguard against thepotential for models-based capital measurestounderstate capital needsunder some circumstances.Theyare alsosubstantiallylessopaquethan, for example, theadvancedinternalratings-basedapproachof BaselII, and thuswouldprovide morecomparable measuresthat are alsomore amenabletointernationalmonitoring.Fourth, I wouldhope to see a requirement proposed for largeinternationallyactivefinancial institutionsto have minimum amountsoflong-term unsecured debt, which wouldbe available toabsorb lossesintheevent of insolvency.As I mentioned earlier,workon resolution continues,albeit at differentpacesin different jurisdictions.Given the complexitiesarisingfrom the independent, often differingnational bankruptcyand insolvencylaws,the goal of achievinga fullyintegratedresolution regime for internationallyactivefinancial firms maytake a good deal of time.But a minimum long-term debt requirement wouldat least providenational authoritieswith sufficient equityand long-term debt in thesefirmsto bear all lossesin theevent of insolvency, and therebycounteractthemoral hazard associatedwith taxpayer bailoutswithout riskingdisorderlyfailure.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  75. 75. P a g e | 75This requirement wouldnot break brand new regulatoryground, sinceitwouldreallybe a modification of existingTier 2gone-concern capitalconcepts,and wouldcomplement the requirement for minimum equitylevelsincludedin BaselIII.As implied in my identification of short-term fundingvulnerabilitiesasapriorityarea, thebest wayforward here is considerablylesseasytospecify.Short-term initiativeson money market fundsand tripartyrepoarebothpossibleand desirable.In truth, though, becausemoney market fundsare largelyAmerican and,toa somewhat lesser extent, European, the UnitedStatesand theEuropean Union together have the abilityto addressthe global run risksassociated withthese products.I think wealsohave the responsibilitytodo so, but not necessarilyinidenticalways.Accordingly, I wouldhope that both theUnitedStatesand the EuropeanUnion wouldeachtake effectiveactiontocounter therun risk, tailoredasappropriateto their regulatory environments,and then explain thoseactionsat IOSCO and theFSB, wheretheir efficacy can be reviewed.Similarly, sincethesettlement processfor tripartyrepothat remainsofconcern iscenteredat twoinstitutions,both of whichare regulatedAmerican banks, theUnitedStatescan take effectiveaction without needof an international agreementAs to broader initiatives, proposals to require minimum haircuts for allsecurities financing transactions have been tentatively discussed in theFSB.This is certainlya ripe subject for discussion, insofarassecuritiesfinancingtransactionsfacilitateleverage, enablematuritytransformation,Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  76. 76. P a g e | 76andproduce the kind of interconnectednessthat can spawnrunsandcontagion.At present, noset of generallyapplicableprudential standardsgovernstheseactivities.Even within regulatedfirms, microprudential risk-weightedcapitalstandardshavelittleeffect, sincetheyarecalibrated against credit riskandmost suchtransactionsareshort-term and fully(or over)collateralized.Thusrequirementsthat wouldattachtoinstrumentsand transactions,asopposedto firms that happen tobe prudentiallyregulatedfor otherreasons, have considerable attraction.On theother hand, universal haircut requirementsare thetype ofregulatoryinnovation that I suggestedearlier wasbest developedinternationallyfollowingsome experiencewithinfinanciallysignificantcountries.Onemay, for example,have significant concern about some of theunintended consequencesthat wouldensue.My instinct, then, is that the analysisof this idea should continuewithintheFSBand, one hopes, in other venuesboth in and out of theofficialsector.There should alsobe concerted effortsinternationallyto gather relevantdata, some of whichis at present uncollected.But weare not goingto be in a positiontoestablishan internationalsecuritiestransactionfinancingregime in thenear term.However, oneproposal already on the international agendamight bereconsidered, soastoaddressmore directlythe short-term fundingproblem.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  77. 77. P a g e | 77FollowingcompletionoftheLCR earlierthisyear, theBaselCommitteeisturningitsattentionback tothe Net Stable Funding Ratio (NSFR), aproposalthat wasintended to complement the LCR by regulatingliquiditylevelsbeyond the 30-day LCR horizon.Like theLCR, the NSFR proposal raisedmany questionseven amongthosefavoring robust measuresto deal withthe liabilitysideof firmbalancesheets.There is some appeal to moving forwardwiththis complementarymeasure fairlyquicklyby simplymakingsome incremental changestotheNSFR while keepingitscurrent structure.But I think wemaybebetteradvisedtotaketheopportunityofthisreviewtoexaminewhetherthere are approachesthat might addressmoredirectlythe vulnerabilitiesfor the financial system created by largenon-deposit, short-term funding dependence at major financialinstitutions.I donot mean to prejudgethe outcomeof suchan examination, or thedegreetowhichwemight build on measuresbeingconsidered in variousjurisdictionsto addressthesevulnerabilities. But I do think it worththeeffort.ConclusionResponsesto what I have describedasthe three challengestopre-crisiscentral bank policieswill continueto evolve.Sowill the reenergizedinternational agenda for cooperationininternational financial regulation.My aim tonight hasnot been to layout a comprehensiveprogram foreither,but tosuggest that thesechangingagendasare neither completelycorrelatednor completelyindependent.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  78. 78. P a g e | 78In suggestingsomeconcretenext steps,I havetriedtodefinesomeusefuland important pointsof intersectionbetweenthe two.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  79. 79. P a g e | 79ContagiousnessandVulnerability in theAustrianInterbank MarketClausPuhr, Reinhardt Seliger,MichaelSigmund, OesterreichischeNationalbank, Financial MarketsAnalysis and SurveillanceDivisionThepurposeof this paper is toanalyze (hypothetical) contagiousbankdefaults,i.e. defaultsnot causedby thefundamental weaknessof a givenbank but triggeredby failures in thebanking system.As failing banksbecome unableto honor their commitmentson theinterbank market, theymay causeother banksto default, which may inturn push even more banksover the edgein so-calleddefault cascades.In our paper wedistinguishbetweencontagiousness(theshare of totalbankingassetsrepresented by thosebanksthat a specificbank bringsdownby contagion) and vulnerability (thenumber of banks bywhichabank isbrought down by cascadingfailures).Our analysisconsistsof three steps:first, weanalyze the structure of theAustrian interbank market from end-2008toend-2011.Second, werun (hypothetical) default simulationsbased onEisenbergandNoe (2001)for the same set of banks.Finally, weestimatea panel data model toexplain the(hypothetical)defaultsgenerated by thesesimulationswith the underlying structure ofthenetworkusingnetworkindicatorsthat reflect(i) thenetwork asa whole,(ii) a subnetworkor cluster, andBasel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  80. 80. P a g e | 80(iii) thenode level basedon banks‘interbank lendingrelationships.As a result wefind strong correlationsbetweena bank‘spositionin theAustrian interbank market and itslikelihoodof either causingcontagionor being affected by contagion.Although our analysis is based on a dataset constrained to theinterbankmarket of unconsolidatedAustrian banks, webelieveour findingscouldbeverified by analyzing other banking systems (albeit witha differentmodel calibration).Given the importanceof identifying systemically important banksfor theformulation of macroprudential policy, webelievethat our analysishasthepotential toimprove our assessment with regard tosecond-roundeffectsand default cascadesin theinterbank market.1Introduction1.1MotivationThe financial crisis has revealed the danger of systemic risk due tocontagion effects given the interconnectedness of modern bankingsystems.Identifyingsystemicallyimportant bankshassincebecomeoneofthekeyobjectivesof systemic risk assessment and a necessaryprecondition fortheformulation of macroprudential policy.Systemically important bankscan be identifiedin manydifferent ways.We wouldlike tocontribute tothis important discussionby applyingtechniquesfrom networkeconomics.In general, networkanalysisrequirestwoinput arguments.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  81. 81. P a g e | 81First, it takesanetwork, whichcould either begiven or derivedthrough anetworkformation process.Second, eachnetwork analysisneedsan objective.In our paper weconsiderthe interbank lendingnetworkasgiven andleavethetheoryon network formation aside, sincetheAustrianinterbank lendingrelationshipsare the very network wesupervise.We view theinterbank lendingmarket asa networkwhere eachparticipatingbank is a node and each credit a link.The objective of our paper is analyzing one important contagionmechanism within this network, namely counterparty credit riskassociated withinterbank lending.Ex ante it is unknown whetherdifficultiesat even a relatively small (butinterconnected) institutionmight trigger problemsat another bank.In the context of macroprudential analysis such an institutioncould beconsideredasa systemically important bank (alsoknown asa key playerin network economics).Specifically, weanalyze twovariantsof (hypothetical) contagiousdefaultfor theAustrian networkof interbank lendingrelationships.First, westudy a bank‘scontagiousnessin termsof the share of totalbankingassetsrepresentedby other banksthat it will causetodefault given itsowndefault.Second westudy a bank‘svulnerabilityin termsof thenumber of banksbywhichit isbrought down if defaultscascadethrough the bankingsector.In the remainderof the paper wetry toidentify keynetworkpropertiesthat influenceour twovariantsof contagiousdefault.Basel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com
  82. 82. P a g e | 82Our main motivation is finding out whethersimulatedcontagiousnessandvulnerability isdriven by(i) banks‘idiosyncratic characteristics(i.e. a thin capital buffer) or(ii) networkeffects/positions, or (iii) by both.Tothisendweestimatepaneldatamodelsthat exploit networkindicatorstopredict potential default cascadesfollowingindividual bank failureswhile wecontrol for idiosyncraticvariables(i.e. the traditional measuresofriskbearingcapacitylike capitalizationratiosetc.).If supervisorsareabletoidentify networkindicatorsthat addsignificantlytothe analysisof thesemodels, macroprudential policywill be ableto(i)analyze the characteristics/ driversof individual indicatorsto get abetter understandingof default dynamicsand(ii)potentiallytarget selectedvariablestoaddresscontagiousnessandvulnerabilityin the interbank market ―indirectly.‖Our resultsshould thereforeprovide potential novel meansforpolicymakers todesign and/ or complement macroprudential tools.If you are good in mathematics, you can read it:Financial Stability Report 24 athttp:/ / www.oenb.at/ en/ welcome_to_the_oenb.jspBasel iii ComplianceProfessionalsAssociation (BiiiCPA)www.basel-iii-association.com

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