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Overall Systemically Important Financial Institutions (discussed at g20)

 

 I.    Definition of Systemically Important Financial Institutions (SIFI)

      Systemically Important Financial Institutions or SIFI refers to the gigantic institutions which cannot be failed or go bankruptcy as it is too big to fail.   It is basically because those institutions influence on so many parts of the world and people living there.   As it can bring an enormous chaos if those institutions fail, governmental authorities are compelled to pour money on them when those institutions are insolvent.

    Due to this financial crisis compatible with the Great Depression in the 1920s in the United States, a number of investment banks such as Merrill Lynch or Lehman Brothers despite the governmental aid.   Because of this outbreak, not only the United States but also other countries around the world especially the ones dependent on foreign trade were heavily damaged.   In response to this, the countries belonged to G20 consented that specific global and national economic regulations are definitely needed.  That is the reason why the heads of the G20 countries and International organizations including FSB (Financial Stability Board, founded to solve this financial crisis).   At this conference, standards for national and global SIFIs and detailed supervision plans were also confirmed.

  

Classification of SIFIs

      SIFIs are divided into two groups.   One is global SIFIs which are big in size and affecting the world not only its home country and the other is national SIFIs. Specifically, Global-SIFIs are to be designated by FSB (Financial Stability Board) and National-SIFIs are to be designated by each countries’ own financial authorities.

     To distinguish G-SIFIs from various financial institutions, BCBS (Basel Committee on Banking Stability) introduced MPG( Macroprudential Supervision Group).   This method is to estimate systemic importance.  By estimating systemic importance, the committee buckets the financial institutions into several groups according to quantitative measures (asset size, interconnectedness and substitutability) and qualitative measures (resolution regime and supervisory system).   Then, different policies or regulations are applied to each bucket.  This method is called Bucketing approach.

All SIFIs (Global + National)

Global SIFIs

– Higher loss absorbency capacity with application to G-SIFI initially- Effective resolution framework- Intensive supervision- Robust core financial market infrastructures to reduce contagion risk

– Supplementary prudential regulations by national authorities

 – Development of Recovery and Resolution Plans – Firm-specific cooperation agreement for X-       border resolution- Peer Review Council(PRC) to monitor   implementation

 

 

Ⅱ.  Detailed Regulations Confirmed at G20 Seoul Summit

 

  Enhancement of Loss Absorbency Capacity

    All SIFIs, but G-SIFIs are charged with higher loss absorbency capacities.   FSB and BCBS are still investigating level or magnitude of additional loss absorbency required for G-SIFIs but, general features of regulations are capital surcharge, contingent capital and bail-in-debt instruments.

   Those measures are decided to be taken as the G20 countries and International Organizations such as IMF or FSB expected that banks would be reluctant to lend money or reduce the amount of the capital allocated for loans.   This might result in reduced risk weighted assets. 

 

Arrangement of Cross-Border Resolutions

     Some of the events happened to multinational financial institutions during the crisis were especially complicated to solve because there were no resolution tools or consensus between the institution’s home country and host country.  The measures taken were not firmly organized and tended to be ad hoc.

    Thus, the BCBS suggested recommendations to strengthen national resolution powers and cross-border implementation.   By suggesting guidelines, the BCBS hopes that this measure would limit the market impact of a bank failure and reduce contagion by supporting the use of risk mitigation mechanisms such as collateralization practices.

 

Reinforcement of Supervision and Financial Infrastructure

    International standards or laws regarding OTC(Over the counter) derivatives or main risks of SIFIs will be improved or revised.  OTC derivative will be supervised by CCP(Central Counter Party) as sellers and buyers have to trade through CCP.   All OTC derivatives should be reported to trade repositories and clearing of settlement will also be done by CCP.   Domestic financial authorities would examine its implementation by the end of 2011.

 

 

III.  Status quo

 

 In Korea

   There is only a slight possibility that Korean financial institutions are classified as G-SIFIs.  Thus, Korean government will consider whether to apply SIFI regulation proposal after examining it.   Financial Services Commission already had a Task Force (TF) meeting at the start of this year and is trying to lay a bill in this year. 

 Contents of the bill regarding measure taken at G20
 1. Legislation of definition of SIFI and its designating procedure.
 2. Examination of soundness regulation on SIFI.
 3. Establishment of cross-border resolution policy.
 4. Solidification of supervision system on SIFIs.

 

 Outside Korea

    On 18th and 19th in February this year, a G20 conference for financial prime ministers was held.  At this conference, it was initially intended to designate G-SIFIs but could not reach an agreement.   Once a financial institution is designated as a G-SIFI, this institution has to be supervised and controlled by global authorities.   Add to this, problems regarding liquidity or domestic real economy downturn could be ensued.   So, there are controversies over setting boundaries for SIFIs though SIFI supervision could bring financial stability and reduce chance of any economic crisis or loss.  

   More or less 20 financial institutions are to be designated as G-SIFIs in this summer.   When the list of SIFIs is confirmed and regulation plans are in effect, global financial market would be stable as the financial institutions would not compete unreasonably. 

So young Lee (hello_d@naver.com)

The FSB Conference of Financial Reform in Seoul

The importance of FSB conference in Seoul

It is significant that the FSB conference was held in Seoul, because it is the first meeting in the emerging country. Korea dealt with Asian financial crisis in 1997, and managed the global financial crisis in 2008 efficiently. In addition, member states expect that Korea will have the leading role in the financial reform as a chairman country of G20.

Topics come up for discussion by Korea

Korea selected items for an agenda mainly from the perspective of the chair position of G20 and emerging country. As chair position of G20, Korea focused on the agreement of several topics related to the financial regulation among member states. Furthermore, as an emerging country, Korea poses a question regarding the importance of global safety net.

There are several issues suggested by Korea. The global SIFI would be separated from the domestic SIFI, leading to the heavy regulation. In order to increase the participation of emerging states, it is necessary to share the information between the home and host country. In terms of the establishment of IFRS and the dependence on the credit agency, the opinion of emerging states should be included.

The results of the FSB conference

1.      The regulation on the asset of banking industry

After the global financial crisis in 2008, the banking industry would extensively recover. Thus, the liquidity risks should be prepared. At Sep. 12, each country reached to the agreement of calibration and phase-in arrangement in BCBS meeting. The asset regulation will be implemented in 2013, and the degree of regulation will be gradually increased until 2018.

 

2.      The heavy regulation on SIFI

The real economy in the large number of countries is affected by SIFI. This is why the liquidation of the huge SIFI is difficult. Instead of that the public funds will be provided. This might lead to the moral hazard in financial sector. Thus, the resolution would be the higher loss absorption capacity. It should be implemented in global SIFI first. Due to the huge impact on many institutes and even whole country, it is essential for SIFI to have the capacity of liquidation. On top of that, other regulation should concentrate on lower the possibility of failure base on the intensity of SIFI supervision. Peer review council will confirm the consistency and effectiveness in SIFI supervision.  

 

3.      The standardization and transparency of derivatives traded through over-the-counter

The weak regulation on OTC derivative market leads to the severe financial crisis in 2008. The central clearing with standardized derivatives is encouraged. In addition, the regulation on the central counterparties will be increased.

 

4.      The decrease in the dependence on the credit agencies

The FSB approved the principles regarding the decrease in the dependence on credit agencies. Accordingly, legal codes should not be based on the rating given by credit agencies. The credit rating conducted by banks, institutional investors and market participants will be encouraged.

 

5.      FSB outreach program

The FSB encourage the participation of member states and non-member states by setting up the regional groups. This leads to the active implementation of global regulation. The outreach program will be specified with extra discussion.

The summary and expected effect of financial reform in FSB conference

The financial reform will contribute to the recovery of financial system. The regulation on the soundness of banking industry will result in the higher loss absorption capacity with superior financial structure. The heavy supervision on SIFI will lead to decrease the problems of moral hazard caused by too-big-to-fail. The transparency in the OTC derivative market, which is one of the causes of financial crisis, will be improved. Lastly, the real economy will have the positive impact regarding sustainable growth, thanks to the stability in financial system.

Min Gyo Jeong (misomk@naver.com)

Financial Stability Board’s strong outreach in Global Financial resilience is expected

Korea will be the first emerging economy to host the Financial Stability Board meeting on the 20th of October, 2010. In its third plenary meeting in Basel, Switzerland, the board decided to have the fourth event in Seoul before the G20 summit. Since Korea is also the chair country of upcoming G20 forum, a Financial Services Commission official said that Korea will be able to take the lead in reforming the financial framework.

 The Financial Stability Board (FSB) was established in April 2009 as the successor to the Financial Stability Forum (FSF). The FSF was founded in 1999 by the G7 Finance Ministers and Central Bank Governors to promote stability in the international financial system. Yet, among the leaders of G20 countries, there had been a broad consensus on stronger institutional ground with an expanded membership. And this movement resulted in the creation of FSB, an extended form of FSF. In an attempt to strengthen its effectiveness, financial authorities from the G20 nations, international financial institutions and several global standard setting bodies joined the FSB as the new members. The FSB performs the initiative role to develop and implement strong regulatory, supervisory and other policies in pursuit of financial stability. 

 As a member of FSB, Korea, especially the Bank of Korea and Financial Services Commission came to have an even more crucial role. FSC is involved in FSB Steering Committee which provides operational guidance and sets the agenda in general. So FSC has been trying to boost regular meetings among the FSB leaders and to continue active discussions. One of them was the financial reform conference called “Envisioning a New Financial System: An Emerging Market Perspective” which Dong-Soo Chin, the chairman of FSC held on Sep.2 in Seoul. The conference called attention to the increasing impact of emerging markets to the world economy, paving the way for more balanced participation of emerging countries in the global finance sector.

 

 

(Sep.2th Korea-FSB Financial Reform Conference, taken from Herald Media)

In fact, a decade ago, Korea felt the tremendous pain due to 1997 Asian Financial Crisis. In the wake of 1997 crisis, Korea had no choice but to strongly restructure corporate and financial field, dealing with long-neglected structural problems hidden behind rapid growth. Passing a time of economic revitalization and renewal, Korea learned valuable lessons and now, it is positioned as one of the competitive global economies. This unique experience enables Korea to serve as a potential broker that can bridge the gap between the emerging and the advanced markets.

 Sharing Korea’s pre-experience and know-how, particularly on financial regulation reform, perspectives of emerging economies can be brought into the global reform process. Many experts admit that Asia will be the engine of future global economic growth. In order to make the emerging markets less vulnerable to external shocks, global financial safety net is strongly required and in this sense, international standards will help them free from poor financial infrastructure.

 Currently, a lot of critical financial agenda are on the FSB table. For instance, to enhance transparency among market participants, prudent oversight of capital, liquidity, leverage and risk management is necessary. Along with Basel III, which delineates the rate of bank capital buffer, Bank Levy is considered a possible measure to increase banks’ crisis management capability, although the feasibility of the proposal still remains to be seen. Furthermore, efforts to reduce systemic risk generated by interconnectedness among financial institutions worldwide led to global coordination to devise measures that cover broader range of financial markets and instruments. Systemically important financial institutions will be strictly monitored and the size of “shadow banking” such as hedge funds and off-balance sheet entities will be shrunk. New international controlling standards on hedge funds will emerge and Central Counter Parties will be installed for over-the-counter (OTC) derivatives. In addition, more standardized forms of OTC products will be used and regulation on credit rating agencies will be intensified. 

                                                                                               (Picture from the Korea Times)

The FSB will take up a vital role of making these regulatory reform recommendations to the G20 summit. Once a certain regulatory reform is approved and adopted through the Financial Stability Board and G20 forum, those international standards are to be implemented by each country. Throughout this highly critical process, Korea is anticipated to undertake a number of initiatives to assess each regulation across sectors, identify regulatory gaps and examine related issues, and reflect emerging Asian market perspective. Gearing up for the G20 summit, FSB activities are an important step in facilitating G20 reform agenda. Everyone hopes to see successful outcome from the impending FSB meeting in Seoul.

Lee, Ki Yeon (kiyeon.m.lee@gmail.com)

FSC Press Release_ January 11th

Progress on Improving Banks’ Corporate Governance

The global financial crisis has shed light on the importance of corporate governance in financial institutions. In particular, banks have been the major beneficiaries of government relief programs* such as government guarantee for bank deposits and foreign debts. However, as the OECD and the BCBS noted, banks’ board of directors often neglected their social responsibility by failing in risk management, pursuing short-term profits, and paying out excessive compensation.   Please Click Here for details.

FSC Press Release_January 10th

The 3rd FSB Plenary Meeting Report

The FSC Chairman Chin Dong-Soo attended the 3rd FSB Plenary Meeting in Basel, Switzerland, on Saturday January 9. Chairman Chin checked how financial reform recommendations the G20 leaders mandated the FSB to make have been implemented and reaffirmed future directions and implementation schedules for financial reforms that will be taken by the FSB in 2010.       CLICK HERE

Chairman Chin’s briefing

Excessive foreign-currency borrowing will be restricted.” Chin Dong-soo, the chairman of FSC  told on Friday, 25th September.

FSC Chairman Chin Dong-soo

 

 

 

 

 

 

 

Looking back what  happened after Lehman Brothers’ crisis, the foreign currency liquidity lacked with the high suspicion in the  foreign borrowing affordability of domestic banks , which ultimately impacted to the overall financial systemic risk.  Aligning with  Financial Stability Board, FSC decided to strengthen foreign borrowing policies for no more repeat  in the future.

 So, these are the points that have been currently being considered.

1) Revision on the Foreign liquidity ratio regulation 2) New Foreign liquidity Risk standards  3) Develop Foreign currency financial derivatives transaction risk standards 4) Strengthen the mid-term, long-term foreign currency loans funding ratio 5) Limit on the foreign asset 6) Reasonable foreign exchange hedge

Also monitoring for macroeconomic soundness will be tighten. Task Force, which are composed of relevant officers and banks and expertise, has been currently working on this issue. The plan will be announced within October.