Get Ready for a Macroprudential Approach to Regulation

Fed seeks annual U.S. bank stress tests.

In his recent address at the 47th Annual Conference on Bank Structure and Competition, Chicago, Chairman Bernanke spoke of initiatives on both sides of the pond to implement a macroprudential approach to financial services supervision and regulation.  The Financial Stability Oversight Council (FSOC) and Office of Financial Research (OFR) - formed by the Dodd-Frank Act (DFA) - have sweeping powers not only to ask the systemically important banks for new and detailed data on their operations, but they can also designate non-financial players as systemically important and in need of regulation. In short, no financial institution will escape the impact of the DFA's numerous requirements.

While we await the results of the 2011 EU-wide stress tests due in June of this year, similar agencies - including and not limited to the European Banking Authority (EBA) and the European Systemic Risk Board (ESRB) - have been set up to develop a body of knowledge around the systemic risks across the EU-member states to regulate the banking, financial, and securities industry.

While banks will need to tactically respond to the rules based on the compliance timelines, over the long term a more sustainable approach will be required which will, in many cases, require changes to their processes and technology.  These changes will, in many cases, include:

• Aligning risk and finance from a data, process and reporting perspective
• Standardizing stress testing across the institution so that impact of "systemic risk"-type events can be evaluated and understood
• Putting in place the underlying architecture, including optimizing software and hardware systems, that can quickly model and turn around required calculations
• Using the value delivered to the business that comes from a better understanding of capital use, revenue generation and institutional soundness as the ultimate driver moving forward.

 "Transforming the CFO Role in Financial Institutions: Towards Better Alignment of Risk, Finance and Performance Management," a report recently published by The Economist Intelligence Unit (EIU) in collaboration with CFO research services, presents some important findings and recommendations in this context.  It cites experiences of financial institutions such as Lloyds, ICICI Bank, PNC Bank and others, on the growing collaboration between the CFO office and CRO office when it comes to evaluating and understanding the impact of emerging risks, responding to regulatory demands, and boosting profitability at the same time.

One thing is certain - the requests from regulators in the future will be more frequent and detailed, and will assume that a common risk data taxonomy already exists within banks to respond.

What is your organization doing to prepare for the certain changes ahead?