resolution of FIs with cross-border operations. It covers:
- ways in which resolution actions can be coordinated cross-border;
- information sharing for the purposes of resolution.
Cross-border resolution
Statutory approaches to support cross-border resolution
231. CP1 described how, in a majority of cases, coordinated and cooperative approaches to the resolution of cross-border FIs are likely to deliver better outcomes for both home and host authorities. Such approaches could result in a significant share of a failing group’s activities being restored to a “going concern”
which may better preserve critical financial services and financial stability across multiple jurisdictions and preserve, rather than destroy, value. In contrast, if home and host authorities were to take unilateral actions to protect their own domestic interests, including by ring-fencing local assets within each of their jurisdictions, this could precipitate the disorderly break-up of a group and amplify value destruction as significant parts of the business could become very much a
“gone concern”.
232. The high-level standards set by the Key Attributes in relation to cross-border cooperation, and early thinking on how the resolution regime proposed for Hong Kong could meet those standards, were outlined in CP1. It was noted that local implementation needs to take into account work being undertaken by the FSB on ensuring the effectiveness of cross-border resolution measures. In September 2014, the FSB initiated a three-month consultation exercise on the “Cross border recognition of resolution action” (“FSB cross-border CP”) and is reviewing responses with a view to finalising guidance on this matter during 2015.128 The authorities intend to provide further details on this aspect of the regime in due
128 See Footnote 57 for reference.
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course, but meanwhile outline below responses received to CP1 and how the authorities’ early thinking maps to the FSB cross-border CP.
233. All respondents agreed that it was important that the local resolution regime supports, and is seen to support, cooperative and coordinated approaches to the resolution of cross-border groups, given Hong Kong’s status as a major financial centre playing host to a significant number of global financial services groups.
Recognising that orderly resolution of such groups would, in many cases, be led by a foreign resolution authority, many stressed the importance of ensuring that the regime provided for the resolution authority in Hong Kong to recognise and/or support resolution actions being taken by a home authority to resolve a group.
Several respondents questioned whether it was appropriate for the local resolution authority to be able to act independently to resolve a branch, or even a subsidiary, of a cross-border FI, but others stressed that retaining such discretion was important. As outlined in CP1, the authorities continue to consider it important that the local resolution authority can act independently to resolve the local operations of an FI, whether the FI operates in Hong Kong as a branch or a subsidiary, in the event that it is assessed that action, or the absence of action, by foreign authorities will not adequately protect local creditors or financial stability.
The Key Attributes clearly recognise this also.129
234. The authorities note that the FSB cross-border CP stresses the importance of all member jurisdictions establishing resolution regimes which are compliant with the standards set out in the Key Attributes. As described in paragraphs 244 to 247 below, such statutory frameworks may be underpinned by contractual arrangements (designed to bind contractual counterparties into recognising and giving effect to resolution actions), which could also play an important role as an
129 For example, in relation to branches, Key Attribute 7.3 states “[t]he resolution authority should have resolution powers over local branches of foreign firms and the capacity to use its powers either to support a resolution carried out by a foreign home authority (for example, by ordering a transfer of property located in its jurisdiction to a bridge institution established by the foreign home authority) or, in exceptional cases, to take measures on its own initiative where the home jurisdiction is not taking action or acts in a manner that does not take sufficient account of the need to preserve the local jurisdiction’s financial stability”.
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interim solution during the period in which home and key host authorities complete the legislative reform to provide for statutory powers. The FSB is clear, however, that contractual arrangements are not a substitute for a statutory framework.
235. The FSB cross-border CP describes three scenarios, taking into account different group structures, in which cross-border resolution measures may need to be taken and these are set out in Box H below. The scenarios identify the broad concerns a host authority, such as Hong Kong, might have, as well as the actions it might take, including where cross-border FIs operate locally as either branches and/or subsidiaries. In addition to these two scenarios, which were considered in CP1, the FSB identifies a third case where assets, liabilities or contracts of a foreign firm are located or booked in, or subject to the law of, Hong Kong (but where otherwise the firm has no physical presence locally). The authorities consider that the local regime will need to be effective in supporting cross-border resolution across each of these three scenarios.
Box H: Scenarios identified by FSB for cross-border resolution130
1. “a foreign bank undergoing resolution in its home jurisdiction operates a foreign branch. Home resolution measures need to have effect throughout the whole legal entity, including the branches in host jurisdictions. In this scenario, the protection of the domestic creditors and local financial stability will generally be primary considerations for the host authorities;
2. a foreign financial institution undergoing resolution in its home jurisdiction controls a subsidiary in another jurisdiction. In order for home resolution measures to be effective, host jurisdictions may, in particular, need to provide a process to allow the transfer of shares in the subsidiary to another institution or to require local subsidiaries to continue to provide essential services to the parent company or other group entities. Particular concerns of host authorities may relate to local financial stability given the
130 See pages 4-5 of the FSB cross-border CP. See Footnote 57 for reference.
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potential spill-over between entities of the same group, and prudential matters (for example, ‘fit and proper’ test for the acquirer of the subsidiary); and 3. assets, liabilities or contracts of a foreign firm in resolution are located or
booked in, or subject to the law of, another jurisdiction in which the firm is not established. In order for home resolution measures to be effective, the relevant jurisdiction would need to allow the implementation of the resolution measures adopted by a foreign authority.”
236. Some respondents agreed with the early thinking set out in CP1 that the resolution regime would need to provide for recognition procedures and/or the taking of supportive measures in Hong Kong. It was clear from responses, however, that ahead of the work being undertaken by the FSB, there remained some uncertainty on how to proceed with implementation, both locally and internationally, in this regard. The FSB cross-border CP includes a useful summary which provides further detail on what constitutes recognition as opposed to support measures, stating that:
(i) “Recognition implies that, at the request of a foreign party, a jurisdiction would accept the commencement of a foreign resolution proceeding domestically and thereby empower the relevant domestic authority…to enforce the foreign resolution measure or grant other forms of domestic relief, such as a stay on domestic creditor proceedings” and that
(ii) “Supportive measures involve the domestic resolution authority taking resolution measures, usually but not exclusively in the context of its own domestic resolution proceedings, that help implement and support resolution measures taken by the foreign resolution authority”.
237. The FSB also explains that “recognition and supportive measures complement each other and in some cases both may be required to achieve the desired outcome”
and furthermore that it may be that “recognition procedures are more suitable for certain resolution actions or certain situations, while supportive measures may be the preferred approach for others”. Further details are provided in an Annex to the FSB cross-border CP on how different group structures (including whether foreign FIs have a presence as subsidiaries, branches or not at all) and approaches
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to resolution (in terms of the resolution options used) may require use of either recognition or supportive measures (or indeed both). The authorities consider, therefore, that the local regime would need to allow for the recognition and the taking of measures in support of a resolution being carried out by a foreign resolution authority.
238. It was explained in CP1 that there may be cases where use of the Hong Kong regime to recognise and/or otherwise support foreign resolution measures is in the public interest, but where the conditions set for the resolution of any local FIs (as outlined in paragraph 59 in Chapter 2) which are part of the wider group, have not been met.131 The setting of, and preliminary wording for, “cross-border conditions” which would need to be met before the local regime could be used to recognise and/or support foreign resolution measures was considered in CP1.
These appear to be consistent with the factors that the FSB cross-border CP identified as being most relevant to host jurisdictions in deciding whether to recognise and/or support foreign resolution measures.
239. The authorities confirm, in light of a question raised in relation to CP1, that there is no specific intent to limit use of the local regime to cases where a resolution is led by a “home” resolution authority132 and that it would be more appropriate to make reference, as in the FSB cross-border CP, to a “foreign” resolution authority.133 Adjusted to reflect this specific point, the “cross-border conditions”
for inclusion in the local regime could be that:
131 This may occur in cases where the local entities of the cross-border group appear viable and/or are assessed not to be systemically important or critical in Hong Kong.
132 CP1 defined a “home” jurisdiction as “being one where the operations of a financial firm or, in the case of a G-SIFI, its global operations, are supervised on a consolidated basis. A host jurisdiction is one where a cross-border FI has a presence either as a locally-incorporated subsidiary or as a branch”.
133 Given in some, few, cases it could be, for example, that an agreed resolution strategy, particularly under a multiple point of entry approach, involves the Hong Kong resolution authority acting to recognise or support a resolution action being carried out by another host resolution authority in relation to a subsidiary of a global group which in turn owns other FIs located here in Hong Kong.
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(i) a foreign resolution authority is initiating resolution in relation to a cross-border group with operations in Hong Kong which are themselves within scope of the local regime;
(ii) it is assessed, by the resolution authority in Hong Kong, that the approach which the foreign resolution authority proposes to adopt will deliver outcomes that are consistent with the objectives for resolution and will not disadvantage local creditors relative to foreign creditors.
240. The authorities consider it important to note that the resolution authority in Hong Kong should exercise discretion in assessing whether these cross-border conditions are met. This is clearly preferable to providing for any sort of automatic mechanism, which would not afford a sufficient degree of control locally. The FSB cross-border CP additionally notes that a basis for refusing to recognise or support a cross-border resolution could be an assessment that it
“would have material fiscal implications (for example, by exposing local public authorities or taxpayers to loss)”. The authorities will consider whether to include such a requirement in the local regime, noting that by referencing the objectives set for resolution, as outlined in Chapter 2, the second cross-border condition in paragraph 239(ii) above already implies that any foreign resolution measures should be consistent with seeking to contain the costs of resolution, and implications for public funds.
241. Further consideration will also be given to whether and how to accommodate other scenarios, including where a cross-border group which is likely to be subject to foreign resolution measures has only: (i) operations in Hong Kong which are outside of the scope of the local resolution regime; or (ii) assets, liabilities or contracts located or booked in, or subject to the law of, Hong Kong but otherwise no physical presence here. It is noted in relation to (i) that the proposals set out in Chapter 1 would mean that all local branches and subsidiaries of groups identified as being or containing G-SIFIs would be covered by the local regime.
Question 52
Do you agree that it would be appropriate to set specific “cross-border conditions” which must be met before the local resolution regime may be used
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to support foreign resolution measures?
Question 53
Are the conditions identified in paragraph 239 above appropriate? Do you consider that in addition to being satisfied that foreign resolution measures are consistent with the objectives set for resolution locally, a further requirement should be set with regard to considering the fiscal implications?
Question 54
Do you have any views on how to accommodate the scenarios outlined in Box H above?
242. More generally, the authorities are cognisant of the need to align the approach taken to design of the local regime, and in particular the key resolution options and powers, with the Key Attributes, with a view to minimising any differences with regimes in other major financial centres. Additional statutory provisions needed to support the recognition and taking of supportive measures in the context of cross-border resolutions will be considered and further detail outlined in CP3.
243. In the meantime, the authorities encourage interested stakeholders to review the FSB cross-border CP and would welcome any comments on the issues identified there, and in particular their application in the Hong Kong context.
Contractual approaches to support cross-border resolution
244. Statutory resolution regimes are likely to provide the preferred longer term solution to underpinning cross-border resolution, given the legal certainty they can provide, but the FSB cross-border CP identifies a number of cases where contractual solutions can play an important role.134
134 The FSB assesses that contractual solutions are helpful ahead of implementation of the Key Attributes across home and key host jurisdictions, but note that they have limitations – and specifically may not lead to a sufficient degree of legal certainty – and so should not be considered as substitutes for statutory regimes.
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245. One such area is temporary stays on early termination rights (including as a result of cross-defaults) in financial contracts, in relation to which agreement was reached recently on a draft ISDA Protocol135 designed to support the cross-border enforceability of stays on termination rights (arising from resolution). The authorities will consider the merits, as well as the most effective means, of requiring relevant FIs, and incentivising their counterparts, to adopt the necessary contractual language on stays in resolution.
246. The second area where contractual solutions may support resolution is in relation to bail-in and specifically the write-down, cancellation or conversion of debt instruments in resolution where the relevant instruments are governed by the laws of a jurisdiction other than that of the issuing entity. The authorities will give consideration to adopting measures, as well as the most effective means of, requiring relevant FIs to include contractual provisions of this nature in capital or debt instruments governed by foreign law (and perhaps additionally to demonstrate that any statutory bail-in of such instruments would be enforceable, e.g. through the provision of independent legal opinions, at or prior to the issue of the instrument).136
247. The FSB has said that member jurisdictions should take official action to promote the widespread adoption of contractual clauses recognising stays on early termination rights and exercise of bail-in powers by the end of 2015.
135 The draft Protocol is to the ISDA Master Agreement under which the majority of bilateral OTC derivatives are traded and, if adopted by market participants, would support the cross-border enforceability of a temporary stay in early termination rights with respect to OTC derivatives governed by the Master Agreement between such adopting parties upon specified resolution actions with respect to certain counterparties, relevant group companies or their credit support providers.
136 In so doing, the authorities would be guided by any Key Principles set by the FSB in this regard noting that draft principles were set out in the FSB cross-border CP including those designed to ensure enforceability as a matter of contract law, by virtue of the debt holder having entered into a clear agreement to be bound by the terms of a bail-in under resolution and that statutory powers exercised in this regard would take precedent over other terms and conditions governing the debt instrument (see para 2.2.1).
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Other measures to support cross-border resolution
248. A number of respondents stressed the importance of measures, including under regulatory frameworks and supervisory approaches, to support coordinated and cooperative approaches to the resolution of cross-border FIs. Several asked for more detail on the intended approach to coordinating with foreign counterparts on resolution planning and execution, including under the institution-specific Cross-border Cooperation Agreements (or “COAGs”) that home and key host authorities are required to prepare under the Key Attributes, as well as on measures to ensure effective information sharing (the latter is considered in more detail below).
249. The authorities consider that the proposals outlined for the local resolution regime will provide a firm basis for effective coordination with key counterparts overseas, as will steps taken to implement the statutory framework. Policy measures pursued now and in future, including for domestic recovery and resolution planning requirements will be of central importance. As will ongoing participation in the FSB-led initiative to undertake resolution planning for G-SIFIs, and G-SIBs in the first instance. As previously noted the HKMA is a member of the Crisis Management Groups for the ten G-SIBs whose Hong Kong operations are considered to be material to the group and as outlined by the FSB it is proposed that COAGs would, at a minimum, be signed for those groups setting out an agreed approach to the planning for, and execution of, recovery and resolution measures. More generally, it is recognised that the regime may have some implications for other aspects of the existing regulatory framework and supervisory approach which will need to be considered in due course.
Information sharing
250. CP1 outlined proposals designed to ensure that information sharing137 between the authorities with a role to play in resolution will be effective. It was explained
137 Noting that it is assumed that much of the relevant information to be shared will be non-public relating to individual FIs (and in some cases their customers) as well as the actions which might be taken by the FIs themselves or by the relevant authorities in resolution scenarios.