Posted on Tuesday 9 April 2013 by Ulster Business
It was a move prompted by the perceived failure of the FSA's brand of light-touch supervision of the banking sector which, though praised in the boom years, did nothing to avert the chain of events which led to some of the UK's biggest banks requiring massive Government bailouts.
The new watchdog, the Bank informs us, will have teeth, taking a more intrusive approach to regulation than its predecessor to ensure the British banking system is never again brought to the brink of collapse.
Chief executive of the PRA Andrew Bailey told Ulster Business it will be much more focused on the big risks to the financial system than box-ticking compliance exercises.
"When I go to talk to the boards and senior management of institutions, I tell them I have only come to talk about the small number of big risks to the statutory objectives that we have for prudential supervision of the safety and soundness of firms. We're not there to talk about 40 compliance points, that's their responsibility. We want to be focused on the big risks," he said.
"There is also a greater element of judgement – it is not just a rules-based system. It has to be more forward looking than it has in the past. The problem with a rules-based system is it becomes backwards looking. That gives you a starting point but it doesn't tell you what challenges will affect the institution in the future."
As Deputy Governor for Prudential Regulation and CEO of the PRA, Bailey will also be a member of the Bank's Court of Directors, the PRA Board, the Financial Policy Committee, and the Board of the Financial Conduct Authority. As a prudential supervisor his focus will be on capital, liquidity, risk management, risk control and governance.
"It has been said about the FSA that the attitude to prudential supervision before the crisis was 'light touch'. What that tells you is that prudential supervision was in the back seat relative to conduct and business supervision. Once the crisis struck however that changed and the FSA moved to intensive and intrusive supervision. My view is that is fine, but it has to be focused because if it isn't there is no limit to it and we could be tearing drains up all over the place," he said.
The Bank has stated very clearly that it is not operating a no failure regime with orderly failure to be permitted if it is consistent with the regulator's objective of ensuring the continuity of supply of financial services to the public.
"The holy grail for us, as it is for all the supervisory authorities in major countries around the world, is how we crack the 'too big to fail' problem for the major banks," said Bailey.
RBS AND ULSTER BANK
One of the major banks that came close to failure during the financial crisis was Royal Bank of Scotland – owner of Ulster Bank – which remains 82% owned by the taxpayer following the bailout by the Government.
Bailey says the Bank, Government and board of RBS all agree it is important to get the company back into private ownership, but questions remain about how to do this.
"What the board of RBS has said it is going to do is undertake a full assessment of what size and scope of investment bank RBS needs in future to be a predominantly UK-focused commercial and retail bank, with the clear understanding that the answer to that question is a smaller one than it has today," he said.
"Both the RBS board and Government have said they envisage starting to return RBS to the private sector by the end of 2014 and RBS has committed to starting the process of selling its US banks. What they have now got to do is get on and work out how they are going to do it."
However, the regulator says nobody should assume that the restructuring of RBS will mean it will sell Ulster Bank – which contributed a £1bn loss to its parent's balance sheet last year.
"There's no question that if you look at the history of the financial crisis, since the point at which RBS was recapitalised by the government at the end of 2008, amongst the things that have hit since then have been the problems in Ireland. It has been a big drag . But I don't say that in the sense that I think therefore it follows that Ulster Bank must be in some sense got rid of. The important objective is that RBS in future is a UK-focused commercial and retail bank, and the big task is to get it to that point."
At the end of March the Bank of England's Financial Policy Committee said major UK banks must increase their capital reserves by a total of £25bn to guard against potential future losses of around £50bn relating to fines and bad loans, particularly to vulnerable Eurozone economies. The FPC didn't name the banks it believes needed to raise extra cash – though RBS and Lloyds Banking Group are likely to account for a large part of the £25bn. The FPC also acknowledged that some banks have increased capital buffers to well above the minimum required.
Andrew Bailey is confident that while the UK banking sector needs to be properly capitalised, neither the new requirements or the more hands on regulatory regime should stop banks from increasing lending.
"I do believe that a stable financial system is an absolute prerequisite to support lending," he said.
"I think there has to be a more targeted approach to issues around small firm lending, what the blockages are in that area. Some issues are around the sort of security that small firms can offer – I certainly hear stories about changes in attitude by banks towards different forms of security. There is a sense of déjà vu because we had many of these problems coming out of the 1990s recession when quite rightly the biggest focus was put on small firm lending."
On his visit to Belfast, much of the discussion Bailey had with business leaders focused on credit conditions, lending and what tools the BoE has to improve the current situation.
He notes that Northern Ireland has a "quite distinctive" banking sector, with its mix of Irish, Danish and UK-owned banks.
"The common element is to get all of the banks back into a situation that allows them to lend normally. Obviously in Northern Ireland this depends not only on actions that we take but also on actions that the authorities in the Republic take," he said.
"We are making progress on that front. I think it is important that other banks do see opportunities to enter the Northern Ireland banking market because there is no doubt in the current environment that some banks, in terms of their net lending capacity, are in a better position than others. I well understand that one of the difficulties Northern Ireland faces is that there is a preponderance of those banks that are in a less good position. That's probably what marks Northern Ireland out as a region more than other regions of the country.
"It goes back to my comments on RBS, but we certainly are pushing these banks to be properly capitalised to the point where they can sustain lending adequately," Bailey added.
AN END TO FORBEARANCE
In terms of the supervision of banks' treatment of their customers, the regulator believes there has been greater forbearance through the recession than is sometimes acknowledged.
Though banks are often criticised for changing the terms of a contract with a customer, more often than not changes have been made in response to pressures on the borrower and to keep them in business, he adds.
"We've done a lot of work over the last six months to get a handle on the scale of forbearance in the mortgage market and we're now turning our attention to corporate lending. We know that the low interest rate environment has enabled greater forbearance to take place and therefore the fact that rates of insolvency and repossessions of homes is lower than expected is not surprising," he commented.
"The fact that people are still in jobs and homes is a good thing. What is clear, and other recessions have borne this out, is that more companies tend to fail as we come out of a recession than at the peak of a recession. That's because forbearance happens at the peak and then there's an evaluation which says well this company has survived so far, but does it really have a sustainable business model?"
And Mr Bailey added: "When you talk to corporate restructuring bankers they will tell you that good companies don't fail, that the ones that fail are the ones whose business models are at the end of the road. I don't think forbearance is a bad process because you give the company a chance to prove themselves and it supports employment. But at some point there will be a transition."