Supervisory Lessons Learned

Transcription

1 Supervisory Lessons Learned World Bank/IMF/Federal Reserve Seminar for Senior Bank Supervisors from Emerging Economies October 20, 2008

2 Agenda What has been done Current focus Future efforts

3 What has been done What happened 2007 problem with subprime lending arose Became pronounced in August 2007 De-leveraging began Flight to simplicity started Uncertainty Flight to quality Fatal business model weaknesses exposed

4 What has been done (continued) Early in the process Well contained Limited Assumed it would be short-lived Studies began PWG, FSF established a forward agenda SSG formed to assist Question what happened and why?

5 Findings SSG published report in March PWG List of recommendations 53 covering mortgage origination, investor due diligence, credit rating agencies, risk management, regulatory policies, and OTC derivatives FSF Similar list of recommendations IIF Private sector recommendations Basel Committee projects adjusted All were very consistent fundamental risk management weaknesses

6 Senior Supervisors Group Effort Convened in September 2007 to assess whether shortcomings in risk management may have contributed to losses. Met with senior management at selected organizations in mid-to-late November Met with industry representatives on February 19, 2008 in NYC. Shared updated report with the Financial Stability Forum Working Group on Market & Institutional Resilience on February 25, Released report on all SSG members external websites on March 6, 2008.

7 SSG Conclusions Four firm-wide risk management practices that differentiated performance are: 1. Effective firm-wide risk identification and analysis; 2. Consistent application of independent and rigorous valuation practices across the firm; 3. Effective management of funding liquidity, capital and the balance sheet; and 4. Informative and responsive risk measurement and management reporting and practices.

8 SSG Conclusions 1. Effective firm-wide risk identification and analysis Successful firms: Emphasized a comprehensive, firm wide look at risk. Across business units, activities, risk types Disciplined culture and well-established process for routine discussion of current and emerging risks across the business lines, risk management, and finance. Made decisions about aggregate firm-wide exposures and risk mitigation (e.g., hedging) rather than rely solely on judgment of business lines. Less successful firms: Business lines were siloed in their view of risks and made decisions in isolation. Did not make decisions on consolidated views.

9 Additional lessons learned? Underwriting is important Market demand for product was not based on sound understanding of credit risk Excessive leverage is unsafe There will not always be a market price Capital and liquidity complacent views and inadequate planning and stress testing Need to understand weakness in business models

10 Regulatory Lessons Learned Focus on underwriting market standards may not be right thing for financial system Capital and liquidity stress and buffer analysis and enhanced planning are essential Gaps in supervisory process need to be analyzed Interconnectedness not understood Financial plumbing

11 Regulatory Lessons Learned Off balance sheet and structured products need to understand what could happen Risk management needs to be strengthened and made more independent Incentives key to understanding risk taking Business model don t be afraid to challenge its weaknesses

12 Current Focus Financial and managerial resiliency of firms we supervise Capital, liquidity most urgent consideration Strengthening these areas key priority for the past year Asset quality How bad will it get; what does that mean Hedge funds quiet so far.

13

14

15 Current Focus Changing business model What happens to originate to sell? How will banks generate revenue in the future Role of banks vs. nonbanks Risk management for the future Stay true to fundamentals of sound risk management Risk management must be linked to strategic planning Incentives right policy stance

16 Current Focus Implementation of new government programs TARP, Fed lending facilities, FDIC guarantee program, etc. Affect on banks, broader market conditions Financial Stability Interconnectedness Financial plumbing OTC derivatives Nonbank sector how it affects broader financial system What is the next issue? Strengthening banking system = stronger financial market

17

18

19 Future Efforts Continue to work on PWG and FSF recommendations Revisit guidance and examiner training Focus more on end-to-end analysis of financial markets Capital and liquidity must be better about managing it

20 Future Efforts Legislative response still unknown Financial stability and bank supervision enhance the linkages Continue to learn This is not yet over!

21 Questions?