Development of strategic plans

All of the benchmark countries engage in some type of strategic planning, although the formality of the process and the resulting plan varies. The Netherlands, the UK, and the US have a planning process documented by formal written strategic plans, with timeframes and milestones. Other countries have yet to formalise written strategic plans that detail the bank supervisory agency’s long-term goals, although Australia and Singapore are currently preparing such tools.

In most of the benchmark countries, written strategic plans are internal documents not available to the public. In contrast, the OCC publishes its strategic plan on its website.

Nonetheless, all supervisors recognise the need to explicitly articulate their approach

60 RATE refers to risk assessment, supervisory tools and evaluation. The RATE framework was developed by the Bank of England in 1997 and carried over to the banking supervision activities of the FSA.

61 CAMELBCOM is an evaluation of Capital, Assets, Market risk, Earnings, Liabilities, Business, internal Controls, Organisation, and Management.

and objectives to their staff and the public at large, and have prepared public documents that communicate their strategic vision, goals and objectives. Examples of such documents include:

Ø in the UK, The Objectives, Standards and Processes of Banking Supervision, Supervision and Surveillance Department (Bank of England, February, 1997) and Risk Based Approach to Supervision of Banks – Financial Services Authority (FSA, June 1998); and

Ø in the Netherlands, Supervision of the banking system by the Nederlandsche Bank (Nederlandsche Bank, 1997).

The US, particularly the OCC, provides a good model of a written strategic plan (Office of the Comptroller of the Currency – Strategic Plan FY 1997-2002). The purpose of this document is to communicate the mission and vision of the OCC to all employees and other stakeholders, set strategic goals and objectives over a five-year horizon and establish performance measures to assess the achievement of long-term goals. It addresses implementing Supervision by Risk, developing requisite technology and skill capabilities and improving internal communication.

2.6.3 Formulation of policies and procedures

Recent policy initiatives in the benchmark countries have involved:

Ø implementing risk-based supervision;

Ø ensuring functional supervision among supervisors within the country; and

Ø ensuring co-ordination with bank supervisors in other countries.

In the light of their shifts to risk-based supervision, supervisors in the benchmark countries have reassessed their current policies and procedures and are enhancing them or developing new ones to address all of the significant risks in a given market, and to provide supervisory staff with a systematic approach to risk assessment. In the US, the OCC has developed core assessment standards for each of its nine risk categories, which are essentially issues that examiners must consider when making judgements about the level of risk exposures (high, moderate or low) and the quality of risk management (strong, satisfactory or weak). Core assessment standards for credit risk, for example, include changes in underwriting standards and the volume and extent of exceptions to or overrides of underwriting standards⁶². Conclusions reached in the core assessment process inform judgements on the aggregate risk for each category (a summary judgement about the overall level of supervisory concern relative to each risk) and the

62 See Comptroller’s Handbook, Large Bank Supervision (OCC, July 1998).

direction of risk (decreasing, increasing or stable), which are in turn the basis for each bank’s risk profile⁶³. As noted above, risk profiles are used to determine the OCC’s supervisory strategy for each bank and to allocate staff and other resources accordingly.

Examiners must update large banks’ risk profiles at least quarterly (although they may not complete a full core assessment each quarter) using off-site analysis and on-site testing and verification as they deem necessary.

The US CAMELS⁶⁴ rating system has also been revised to reflect risk-based supervision, to increase the emphasis on the quality of risk management for each component and to list the types of risks that must be considered in assigning each component rating.⁶⁵ Today, the risk-based assessment and CAMELS rating systems are used in tandem. In general, the CAMEL component and composite ratings told (and currently tell) institutions how US supervisors view their current financial condition, operations and compliance with laws, regulations, policies and other guidance, based primarily on examiners’ reviews of transactions and bank policies, procedures and practices. In other words, where the bank is now and how it got there. In contrast, risk-based supervision is designed to help the supervisor determine the likely future condition of each bank, so that the supervisor can more effectively develop supervisory strategies and deploy its supervisory resources. Clearly, there is some overlap between the two systems. Many of the factors that must be considered in assigning CAMELS ratings are the same as those used for making risk assessments. In the US, at least at present, the fact that the systems overlap has been used to support retention of the CAMELS system (on the grounds that developing the information necessary to assign CAMELS ratings subjects banks to no greater supervisory burden) and the systems are seen as complementary.

For the Capital Adequacy component, for example, examiners are now instructed that institutions are expected “ …to maintain capital commensurate with the nature and extent of risks to the institution and the ability of management to identify, measure, monitor and control these risks. The effect of credit, market and other risks on the institution’s capital should be considered when evaluating the adequacy of capital.” For Asset Quality, examiners are instructed to consider credit risk and “…a ll other risks that may affect the value or marketability of an institution’s assets, including . . . operating, market, reputation, strategic or compliance risks.” Evaluation factors for the management component were also revised, to include “The ability of the board of directors and management, in their respective roles, to plan for, and respond to, risks that may arise from changing business conditions or the initiation of new activities or products”. “The adequacy of, and conformance with, appropriate internal policies and controls addressing the operations and risks of significant activities” and “The accuracy, timeliness and effectiveness of management information and risk monitoring systems appropriate for the institution’s size, complexity and risk profile”.

63 For large banks, the OCC uses a risk matrix to guide examiners in assessing aggregate risk in each risk category. The matrix is a grid with quantity of risk (low, moderate or high) on one axis and quality of risk management (strong, satisfactory or weak) on the other. According to the matrix, for example, strong quality of risk management and low quantity of risk translates to a lowest aggregate risk assessment. OCC examiners can consider risk-mitigating factors that may not be directly reflected in the quality of risk management, or quantity of risk assessments (such as the presence of insurance).

64 The CAMELS rating system considers Capital adequacy, Asset quality, Management, Earnings, Liquidity and Sensitivity to Market Risk (see Federal Register 67,021 19 December 1996, announcing changes to the rating system).

65 Prior to the advent of risk-based supervision, bank supervisors in the US relied exclusively on the CAMEL rating system (the sixth component, Sensitivity to Market Risk, was added after, and partly in response to, risk-based supervision).

A second policy initiative involves ensuring that similar risks are assessed in a similar fashion, regardless of the primary business line of the subject entity and its primary supervisor (i.e. banking, securities or insurance). Australia and the UK have addressed the need to harmonise the policies and procedures across these different functional areas by establishing separate consolidated regulators. In the other benchmark countries, which have maintained functional or separate supervisors for these activities, strong efforts are evident to co-ordinate with the other local supervisors in the oversight of conglomerates and financial groups. These efforts include written agreements among supervisors to exchange information on a periodic basis, supplemented by the development of strong relationships and informal meetings.

The third challenge for supervisors in the benchmark countries has been to establish the same type of inter-agency co-ordination with foreign supervisors. Supervisors in the Netherlands, the US and the UK have established, at a minimum, working relationships with supervisors in other major countries. In countries where their banks have a substantial presence, these supervisors have entered into memoranda of understanding with the regional supervisory group; further, these supervisors are also seeking to enter into written agreements with supervisors in countries where their banks have significant exposures or have a major operation. Finally, participation in international fora such as committees established by the BIS provides for a common understanding of issues and cordial relationships among supervisory agencies, even for those countries with which formal arrangements have not been finalised.

We acknowledge the HKMA’s current level of effort to establish bilateral Memoranda of Understanding with other supervisors and regulators and to develop working relationships as a basis to provide a framework for co-operation in the future. Such resource commitment needs to continue to ensure that the approach and progress to regulatory co-operation is maintained. We also encourage the information sharing efforts that exist within the regional counterparts and believe that similar efforts should be emphasised with the other lead regulators.

2.6.4 Supervisory monitoring