of The World Bank Docuaint TECHNICAL ANNEX MEXICO DECEMBER 22, 1994

Transcription

1 Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Docuaint of The World Bank FOR OFFlClAL USE ONLY TECHNICAL ANNEX MEXICO FINANCIAL SECTOR TECHNICAL ASSISTANCE PROJECT DECEMBER 22, 1994 ReportNo. T-6451-ME This document has a restricted distribution and may be used by recipients onjy in the perfornamce of their official duties. Its contents may not otherwise be disclosed witbout World Bank authorization.

2 Currency Equivalents (As of December 19, 1994) Currency Unit = Mexican New Peso (MexN$) US$ 1.0 = MexN$ 3.4 Abbreviations and Acronyms Used CAS Country Assistance Strategy CNB Comision Nacional Bancaria (National Banking Commission) CNSF Comision Nacional de Seguros y Fianzas (National Insurance and Bonding Commission) CNV Comisi6n Nacional de Valores (National Securities Commission) CONSAR Comisi6n Nacional del Sistema de Ahorro para el Retiro (National Commission of the Retirement Savings System) DVP Delivery versus Payment FOVISTE Fondo para la Vivienda de los Trabajadores del ISSSTE (Government Workers' Housing Fund) FSAL Financial Sector Adjustment Loan (3085-ME) GOM Government of Mexico ICB International Competitive Bidding IDB Inter-American Development Bank IEIU Investment, Energy, and Industry Unit EMF International Monetary Fund IMSS Insntuto Mexicano de Seguro Social (Mexican Social Security Institute) INDEVAL Insfituti6n para el Dep6sito de Valores (Securities Depository Institute) INFONAVIT Insuituto del Fondo Nacional de la Vivienda de los Trabajadores (National Workers' Housing Fund Institute) ISSSTE Instituto de Seguridad y Servicios Sociales de los Trabajadores del Estado (Institute of Security and Social Services for Government Workers) LCB Local Competitive Bidding NAFIN Nacional Financiera, S.N.C. NAFTA North American Free Trade Agreement OTC Over-the-counter PECE Pacto de Estabilizaci6n y Crecimiento Economico (Economic Stabilization and Growth Pact) SAR Sistema de Ahorro para el Reniro (Retirement Savings System) SHCP Secretarfa de Hacienda y Credito Pablico (Ministry of Finance and Public Credit) SIC Sistema Internacional de Codtzaciones (International Share Quotation System) SOE Statement of Expenditure SRA Self-Regulatory Association SRO Self-Regulatory Organization

3 MEXICO FINANCIAL SECTOR TECHNICAL ASSISTANCE LOAN TECHNICAL ANNEX TABLE OF CONTENTS SECTION A: PROJECT DESCRIPTION... I Background... 1 Financial Sector Reform and Privatization... 1 Public Investment Evaluation... 2 Benefits of Previous Reforms... 2 The Remaining Agenda... 3 Current Problems... 3 Development of Institutional Infrastructure... 4 Financial Market Development... 5 Financial Services for Micro-Enterprises and the Poor... 6 Public Investment Evaluation and Budgeting... 6 Project Design Project Objectives and Approach Institutional Framework... 7 Relation with Other Multilateral Assistance Project Risks Project Description Financial Sector Regulation and Supervision Comisi6n Nacional Bancaria Comisi6n Nacional de Valores Comisi6n Nacional de Seguros y Fianzas CONSAR Public Investment Evaluation and Budgeting SECTION B: PROJECT ADMINISTRATION AND IMPLEMENTATION Project Organization Training Plan Project Costs and Financing Procurement Disbursements Accounts and Audits ATTACHMIENT: PROJECT IMPLEMENTATION PLAN... 22

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5 MEXICO FINANCIAL SECTOR TECHNICAL ASSISTANCE LOAN TECHNICAL ANNEX SECTION A: PROJECT DESCRIPTION I. Background 1. Following the debt crisis and the September 1982 nationalization of the banking system'', the Mexican financial system entered a period of turmoil. The de la Madrid administration, which entered office in December 1982, took steps to liberalize and strengthen securities markets and consolidate the operations of the state-owned banks. Despite these measures, the development of the financial system was hampered by forced lending requirements and other non-market oriented practices. Mandatory lending requirements, which represented more than 70% of bank deposits in 1985, resulted in active disintermediation. Credits to the private sector, as a percentage of total bank credit, shrank from 40% in 1982 to 25% in The development of the financial system was further hampered by macroeconomic instability with high and variable rates of inflation, peaking at 159% in Financial Sector Reform and Privatization. The pace of financial sector reform and development accelerated substantially in 1988, as the Mexican Government undertook a series of efforts culminating in the re-privatization of the commercial banks in In 1988, with the support of the Financial Sector Adjustment Loan (FSAL), steps were taken to deregulate interest rates on deposits, eliminate forced lending and reduce the role of special trusts as intermediation channels for Government resources. A new legal structure for the financial system was created in 1990 with the approval by the Mexican Congress of laws governing commercial and development banks, financial groups, and auxiliary credit institutions. The resulting system is a hybrid of the universal and multiple banking models 2 ' in which certain forms of intermediation may be undertaken both by a commercial bank and its brokerage subsidiaries, while other services may be offered only through separately capitalized subsidiaries. While offering potential economies of scope for the sector, the Mexican hybrid system complicates consolidated risk management and reduces ownership transparency. Nevertheless, with this legal framework in place, the stage was set for the re- 1/60 banks were nationalized in 1982 with only Citibank Mexico and Banco Obrero remaining outside of state control. Eleven of these institutions were subsequently liquidated. The remaining 49 banks were consolidated through merger into 18 institutions by 'The universal banking model permits the full range of financial services to be offered under one entity, while the multiple bank model allows banking and non-banking services to be offered by separately capitalized subsidiaries under a holding company.

6 privatization of the 18 commercial banks. During , the Government received the equivalent of US$ 12.4 billion from the privatization of these institutions Reform also benefitted the development of non-banking services such as insurance, securities trading, bonding, financial leasing, warehousing and factoring-'. Government regulation of insurance premiums and policies was simplified, as well as the operations of mutual funds. Prompted by the stock market crash of 1987, the main laws regulating the Mexican capital markets were subject to major modifications. Increased confidence and simplification of the administrative process were the major objectives of legal changes which imposed tougher penalties for insider trading, granted authority to brokers to act as dealers for their own accounts, and required more extensive use of external auditors. Legal reforms also liberalized pricing (leasing, factoring, insurance and brokerage), permitted the offering of new products (e.g. administration of individual retirement accounts) and rationalized taxation policies for the financial sector as a whole. 4. The GOM undertook reform of the national social security and pension systems through creation of the Sistema de Ahorro para el Renro (Retirement Saving System or SAR) in Under the SAR, employers are required to establish individual accounts at commercial banks for each employee to which 2% of gross wages must be contributed each pay period. To date, commercial banks have been restricted to provision of account administration services: all funds accumulated in SAR accounts must be kept in a specific Central Bank account paying no less than 2 percent in real terms. 5. Public Investment Evaluation and Budgeting. Given the enormous need to increase the quality and quantity of public investment, particularly in infrastructure, the GOM undertook measures to improve the capacity for project evaluation and budgeting. In 1991, the Investment Project Evaluation Unit was established under the Ministry of Programming and Budget (SPP) to serve as adviser on issues of public investment. Following the merger of SPP with SHCP, the Unit was renamed the Investment, Energy, and Industry Unit (IEIU) and was given broader responsibilities in establishment of standards for project evaluation inclusive or ex-post evaluations of all public investments and providing analytical support to the Ministry of Finance. Critically, the IEIU was given a central role in coordinating project evaluation activities throughout the federal government through an inter-agency roundtable. One result of IEIU's new broader role was the publication of the official methodological guide to project evaluation in the Diario Oficial on June 28, Benefits of Previous Reforms. Financial sector liberalization has achieved a considerable measure of success in stabilizing domestic financial markets, thereby attracting large inflows of foreign private savings and reversing years of capital flight. Net capital inflows averaged over US$ 27 billion per annum during , resulting in foreign 31 Factoring is the sale of receivables by a borrower to a factoring company. The factoring company may issue bills of exchange to finance the purchase of receivable instruments.

7 currency reserves of over US$ 25 billion by the end of By 1993, private sector lending comprised 86% of total bank assets, up from 25% in 1986 as discussed above. Broad measures of monetarization in the economy also indicate the increasing depth of financial markets: M4 as a percent of GDP rose from 35% in 1988 to over 45% in II. The Remaining Agenda 7. Current Problems. Although the recent accomplishments of the Government in financial sector reform have been significant, more needs to be done to ensure continued investor and depositor confidence, increase the access of low-income groups to financial services, improve efficiency of capital allocation and reduce overall systemic risk. The cost of capital remains high. As of September 1994, prime borrowers paid banks nominal interest rates of around 17% and small and medium-size firms paid over 24% (approximately 9% and 16% in real terms, respectively). These high rates restrict access to financial services, especially for small enterprises and low income individuals. 8. Securities markets are also characterized by high transactions costs and illiquidity. Underlying the high cost of debt and equity financing are both macroeconomic factors such as Mexican country and exchange rate risk as perceived by foreign investors, and microeconomic factors in the legal, regulatory and supervisory systems, problems in the public registries system, high operating costs of financial institutions, a lack of adequate competition -- particularly in the provision of banking services -- and the rising level of commercial bank overdue loans4'. 9. Another reason for the relative underdevelopment of Mexico's securities and capital markets is the lack of a large base of institutional investors. Indicators of market development such as insurance penetration, insurance density, and pension fund provision, as well as broader measures such as market capitalization and the value of privately issued debt obligations, highlight this problem. These indicators of Mexico's capital market development not only lag other NAFTA countries and key emerging economies in Asia, but also have fallen behind levels attained in other Latin American economies. Thus, there is the need to continue the development of legal and regulatory reforms consistent with the orderly development of this class of investors while maintaining the integrity of the securities markets. Part of this effort would also have to involve development of adequate operational capacity where the role of all commissions, including the newly created CONSAR (Retirement Saving System Commission), would be critical. This would ensure the integrity of the markets in the eyes of domestic and foreign investors. 4t By June 1994, overdue loans as a percentage of total loans for the consolidated banking system had grown beyond 10% from 2% in In addition, the disparity across banks has continued to grow as some banks have ratios of close to 20 percent while many had ratios in the 6-8 % range. Source: Comisi6n Nacional Bancaria.

8 4 10. Compliance with NAFTA's requirements to permit entry by foreign financial service providers and the authorization of charters to new financial interrmediaries5', even if not significant in increasing direct competition in all forns of financial services in the short term, should help reduce financial intermediation margins over time. 11. Development of Institutional Infrastructure. Financial sector regulation and supervision in Mexico have become increasingly difficult because of (i) the complex structures of financial conglomerates and (ii) the fragmentation of regulatory and supervisory powers across six Government agencies (see para. 26). Currently, prudential regulations are not applied consistently across all entities within financial conglomerates on a group-wide basis. Although the consolidated circular has not yet been issued, the commissions are already receiving consolidated financial statements. However, it is important to note that actual practices vary greatly across individual financial groups within the Mexican financial system. In order to enhance regulation and prudential supervision of financial conglomerates, individual institutions and markets, it is essential to continue to revise entry policies, harmonize valuation standards, require consolidated financial and regulatory reports, apply capital adequacy and large credit exposure rules on a consolidated basis, and modernize trading practice regulations in areas such as insider trading, conflicts of interest, front running, and dumping of securities. 12. It is furthermore essential to develop the capacity of supervisory agencies to conduct on- and off-site surveillance of conglomerates on a consolidated basis through the improved enforcement of existing regulations, increased harmonization of regulation and supervisory practices among agencies, and through the upgrading of the skills of supervisory personnel. There would also be a need for supervisors to establish performance criteria for directors, mangers, and external auditors so that there would be a greater focus on the capacity of fmancial conglomerates to properly measure and manage risk. In this context, the sequence with which assistance is provided will be important because actions to improve regulatory reports and to upgrade standards for off-site supervision if properly designed, will elevate the minimum standards at Mexican financial groups for proper measurement and management of risk. On-site supervision can then be used to reinforce these standards through the enforcement powers vested in the commissions. 13. The growth of many types of free-standing non-bank banks (such as mortgage finance companies and other specialized financial service providers) alongside financial conglomerates (which, at times, have not clearly represented the safety of various financial products to consumers) has created uncertainty regarding the extent of the government "safety net". It has become essential, therefore, to more carefully define the liability of the government and financial conglomerates with respect to all financial products, design and " In October 1994, 52 foreign financial institutions received clearance from the SHCP to initiate operations in Mexico. The firms included 18 banks, 16 brokerage firms, 12 insurance companies, 5 holding companies and 1 leasing company.

9 5 enforce proper non-accounting disclosure provisions for such products, and circumscribe explicitly the set of deposit-taking institutions covered by the safety net. In the case of a failure, it is essential that the respective roles of Banco de Mexico and the Ministry of Finance be redefined and that procedures for failure resolution be well understood by market participants. 14. Increased financial activity has created the need for a new regulatory and supervisory framework for the payments system. This new framework should include an appropriate system for large value transfers among commercial banks, ensure delivery versus payment (DVP) in trading of securities, and assure secure cross-border transactions. It is also essential to examine the legal implications of bankruptcy of clearing members while improving Banco de Mexico's supervision of the payment system for large value transfers. At the same time, CNV supervision of the Bolsa, INDEVAL (Securities Depository Institute), and any clearing house set up for exchange traded derivatives would have to be developed. 15. Financial Market Development. Mexico's financial sector remains small relative to East Asian and the other NAFTA countries, particularly in such areas of non-banking services like insurance, securities trading, pension and mutual fund management, and financial leasing (para. 9). Expansion of these services and other financial innovations would be likely to greatly improve the allocation of resources by the Mexican financial system through lowering the cost of managing risk, increasing the financing options for firms and individuals, providing increased channels for savings and improving the efficiency of allocation of investment through a greater role for institutional investors in corporate governance of non-financial companies. An approach relying on public- and private-sector monitoring would be necessary to encourage the development of these services. 16. On the public sector side, the regulatory, supervisory, and legal framework (para. 11) should be streamlined and harmonized across all activities and impediments removed to the provision of various forms of non-banking services. Regarding the private sector, ancillary financial services (including credit bureaus, ratings agencies, auditing firms, and actuaries) and Self-regulatory Organizations and Associations (SROs and SRAsV') should take on a greatly expanded role in monitoring financial intermediation and providing information to investors and the public. As the complexity and volume of financial transactions increases in Mexico, a strengthened role for private sector self-regulation and provision of information is critical in proper monitoring of financial institutions and markets -' The term SRO usually refers to include entities that establish rules for relations between members. and provide some sort of intermediary service, such as exchanges, clearing, and custody corporations. The term SRA generally refers to other groups whose members are subject to mandatory rules of conduct prescribed by their respective associations and which may be overseen by supervisory agencies. Examples of SRAs include associations of auditors, accountants, actuaries, appraisers, securities dealers, and warehouses.

10 6 17. As the pace of financial innovation in Mexico continues to accelerate, new instruments such as asset-backed securities, foreign exchange forward contracts, warrants for equities, OTC options on equities, OTC or exchange traded interest rate futures, and bonds with embedded options create new risks which require sound risk measurement and management systems. In addition, the increased use of derivative products offshore, in particular, highlights the importance of establishing the appropriate prudential regulation and supervision capacity in this area. These actions must be taken in tandem with efforts to strengthen private financial sector infrastructure in such areas as the payment system or risk safeguards used within SROs to monitor and provide reliable and timely information so that the use of scarce supervisory resources may be optimized. 18. Financial Services for Micro-Enterprises and the Poor. The Government has an important role in creating an environment where market-based schemes for the efficient delivery of financial services to the poor, micro-enterprises, and the housing sector can be developed. The first priority should be to strengthen the legal framework for private sector transactions including definition and enforcement of property rights, improvement of public registries, and enforcement of contracts. 19. Next, the Government should work to strengthen the institutional framework for private institutions providing financial services to the poor. Improved supervision, disclosure regulations, and legal reforms are needed to ensure the effective operation of institutions such as credit unions, popular savings banks, and pawn brokers. The strategic roles of the publicsector development banks and trust funds should be re-defined to ensure that their activities complement rather than substitute for the financial services provided by these formnal and informal private sector institutions. 20. Public Investment Evaluation and Budgetin. Given the urgent need for basic infrastructure investment in Mexico, further efforts are necessary to ensure the maximum efficiency and effectiveness of projects financed. The role of the IE[U should therefore be strengthened to provide increased inter-agency technical support and coordination in project evaluation and budgeting activities. To this end, the IEIIU should be strengthened in the areas of establishing standards for project evaluation, diffusing these standards throughout the Government, and training staff within the IEIU and federal government in state-of-the-art project evaluation and ex-post assessment. The IEIU needs to closely coordinate with the Banco Nacional de Obras y Servicios Pziblicos (BANOBRAS) and the proposed infrastructure fund that will constitute another source of public finance in association with the private sector.

11 7 El. Project Design 21. Project Objectives and Approach. The proposed operation is intended to meet three interrelated objectives: (a) to improve the safety and soundness of the financial system through improved prudential regulation and supervision, and through greater incentives for self-regulation by market participants; (b) to support the development of the pension system; and (c) to strengthen public investment evaluation and budgeting. 22. The project would aim to improve financial sector performance in Mexico through building capacity within the regulatory and supervisory agencies, integrating activities across regulatory and supervisory agencies to insure consistency of philosophy and implementation, and promoting economies of scale through sharing of scarce human resources. 23. In addition, the project is designed to modernize the philosophy of supervision and regulation by ensuring overall standards for risk measurement and management, shifting away from the current system which micro-specifies internal operating procedures such as the general ledger of each financial entity. The project would aim to improve transparency and timely disclosure of information through strengthened self-regulation by market participants and professional associations (SROs and SRAs). These two elements of the program, streamlined Government regulation and supervision and enhanced self-regulation, will act together to reduce the cost to Government regulatory agencies while helping to reduce the cost of compliance for financial institutions and markets. 24. The project would also aim to strengthen the evaluation and budgeting process for public investment projects throughout the Government through establishment and diffusion of technical standards and improved consistency in their application. To this end, the role of the interagency coordination committee would be significantly strengthened. 25. This project does not directly address the full range of critical issues for the financial sector in Mexico noted in Section II (paras. 7-19). A broader set of reforms will need to be developed to modernize Mexico's financial system and markets. Consistent sets of reforms will need to be developed to: improve the possibility for market-based provision of financial services to the urban and rural poor, including definition of a more focussed role for Mexican development banks and fideicomisos (trust funds); improve the public registries for commercial transactions, real estate and land titling; modernize the payments systems to reduce credit risk exposure of the Central Bank and permit reduction of the credit risk exposure of market participants in securities trading; modernize and rationalize Mexico's system of housing finance; finance basic infrastructure development with private-sector participation; and improve efficiency of social security and pension-related services at the federal and state level both by the Government and the private sector. These other critical areas of reform are currently being addressed through separate Bank ESW and project initiatives, other multi-lateral institutions, or independent GOM efforts. 26. Institutional Framework. Currently, financial sector regulatory and supervisory

12 8 functions are shared between the Central Bank, the Finance Ministry (SHCP) and four commissions which report to SHCP (CNB, CNV, CNSF and CONSAR). Chart I indicates the existing structure. Although regulatory and supervisory functions are shared across six agencies, the degree of fragmentation is limited because each Commission is legally part of SHCP. The Central Bank, which was given increased autonomy under the new Central Banking Law ratified in 1994, supervises all over-the-counter (OTC) markets with the exception of equity and commodity contracts, develops prudential regulations for commercial banks and auxiliary credit institutions which must be formally approved by SHCP, and regulates all aspects of the payments system and foreign exchange markets. SHCP is responsible for drafting and final approval of all legislation and regulations relating to financial institutions and markets. These SHCP functions are undertaken by the Direcci6n General de la Banca Multiple (banking and auxiliary credit institutions) and the Direcci6n General de Seguros y Valores (insurance and securities). 27. The CNB is responsible for supervising financial groups and free-standing auxiliary credit institutions which hold over 75% of all financial assets in Mexico: commercial banks, development banks, auxiliary credit institutions, and in most cases the holding company of a financial conglomerate. The CNV supervises and has some regulatory authority over brokerage firms, the Bolsa, and the smaller intermediate market and corporate issuers. The CNV also has authority to supervise and regulate all forms of self-regulatory organizations such as custody corporations (INDEVAL). The CNV role may be expanded in the future to cover exchange related futures and other derivatives clearing houses if and when developed. The CNSF supervises insurance and bonding companies. Finally, the CONSAR has responsibility for supervision and operations of the Retirement Savings System (SAR). Chart I Ministry of 7etl Finance 1 Bank l CNB CNV CNSF CONSAR 28. The emphasis of this project would be to upgrade the capabilities of the CNB, CNV, and CNSF to carry out current supervisory responsibilities and to support the creation of the CONSAR. The challenges currently faced by the four commissions vary widely. The CNB requires the most assistance, with intensive programs to improve staff technical skills in specialized areas of supervision and regulation to be supported under the project. In part,

13 9 this weakness is due to the period of state control of the commercial banks during the 1980s. With no need to focus on private market transactions during this time, the CNB did not develop the full set of modem supervisory capabilities nor staff with the skills to oversee the dynamic and innovative markets of today's increasingly borderless and liberalized Mexican financial system. The CNB is by far the largest of the four commissions, with over 1,000 professional staff (see Table I below). Assistance would include the purchase of computer systems, training, and the provision of specialized technical advisory services. 29. Unlike the CNB, the securities and insurance industries under the purview of the CNV and CNSF remained in private hands during the 1980s, requiring these two commissions to remain current in their supervisory practices. However, as the pace of financial innovation in Mexico has increased, the need for assistance here has grown. The CNV and CNSF, with 309 and 147 professional staff, respectively, will receive more narrowly-defined assistance. Finally, the newly-established CONSAR, with staffing expected to increase from 38 professionals as of November 1994 to approximately 200 by the end of 1996, will receive assistance in the start-up of operations through the purchase of computer equipment and the completion of key studies. Table 1 Commission CNB 1,050 CNV 309 CNSF 147 CONSAR 38 Professional Staff 30. The Public Investment Evaluation and Budgeting component will support urgently needed improvements in the criteria and methodology used in prioritizing public investment projects. Upgrading this function of the IEIU has taken on special prominence in light of increased emphasis on the development of basic infrastructure in Mexico. The unit has been charged with ensuring that resources are channeled to infrastructure projects with the highest economic and social rates of return, thereby improving the efficiency of investment and the productivity of capital. The IEIU claims a staff of 25 professionals. This unit will also play an important role in administering the special infrastructure fund to be established out of privatization proceeds and in coordinating with public financial intermediaries engaged in either direct lending or guarantee operations to finance infrastructure projects. 31. Relation with Other Multilateral Assistance. The Bank has worked closely with the IMF since early 1993 to support this strategy and has diagnosed the shortcomings of

14 10 Mexico's system of financial conglomerate supervision. The FrAL represents the natural outgrowth of this joint Bank-IMF effort. The Bank has been able to offer the GOM several advantages when compared to other potential advisers, such as private consultants and representatives of national regulatory agencies. The key advantage has been the ability to field teams with a high degree of objectivity combined with international, multi-disciplinary experience. Finally, the Project complements the IDB's efforts in providing technical assistance to NAFIN to improve its internal risk measurement and management process since it would support efforts to improve supervision of development banks and enforce recentlyissued capital regulations for such entities. IDB's program of technical assistance will also focus on direct provision of assistance to commercial banks on risk measurement and management techniques. 32. Projet Risks. Although the GOM has given every indication that the Project will continue to receive strong support, several risk factors remain at this time: (i) possibility that the recommended reforms to improve financial conglomerate supervision may be slowed due to political considerations; (ii) possibility that mandatory SAR contributions remain below the level required for economic viability of system despite the reforms undertaken through the project; and (iii) non-implementation of proposals derived from studies or inadequate follow-through in implementation of the program by counterpart agencies. 33. The design of the project will reduce these risks to the greatest extent possible. Notably, SHCP plays the central role of Executing Agency and Guarantor of the project - all of the functions to be strengthened are legal responsibilities of SHCP. In addition, the Board of Directors of each commission is constituted by officials of SHCP and the Central Bank, thereby improving inter-agency coordination and reducing the risks noted above regarding implementation of the assistance program. IV. Project Description 34. The project would consist of two components: (i) the Financial Sector Regulation and Supervision component to be implemented by the Government agencies responsible for regulation and supervision of (a) banking (CNB), (b) securities markets (CNV), (c) insurance and bonding (CNSF), and (b) the pension system (CONSAR); and (ii) the Public Investment Evaluation and Budgeting component to be implemented by the IEIU. Annex I provides greater detail concerning the objectives, activities, outputs, forms of assistance, timing, and costs associated with the project. A. Financial Sector Regulation and Supervision 35. This component consists of activities to strengthen the institutional performance of the four commissions charged with regulation and supervision of the financial system in Mexico, the CNB, CNV, CNSF, and CONSAR. The activities in each commission are mutually reinforcing and are designed to address priorities for strengthening and streamlining each commission while providing coordination and consistency of policies to avoid regulatory and

15 11 supervisory arbitrage by market participants. Comision Nacional Bancaria 36. The overall aim under the CNB sub-component of the project is to support CNB's current institutional development plan, which aims to develop a more modem regulatory and legal framework to govern the actions of financial institutions and groups. Such a framework would replace existing outdated procedures and consist of prudential regulations and supervisory practices based on accepted international practice. Issues which would be addressed under the program include the following: 37. Authorization Function. The objective of this module is to promote sound and transparent institutions through proper authorization procedures internationally acceptable and consistent with those used by other commissions in Mexico. This can only be achieved by developing appropriate written procedures for the processing of applications consistent with accepted international practices. Development of authorization procedures now underway will receive continuing support during implementation of the project. 38. Regulatory and Supervisory Policy. Prudential regulations are to be reviewed and recommendations made to address issues such as capital adequacy, large exposures (including issues such as related credits and concentration limits), diversification policies, intra- and inter-group transactions, conflicts of interest, and trading practices. This review would examine existing legal and regulatory constraints and assess the advantages and disadvantages of further de-regulation of financial services provision. The review of the regulatory and supervisory policy framework would include banks, SROs and ancillary and para-financial service providers. 39. General On-Site Supervision and Inspection Process. This module aims to develop an effective inspection policy in line with internationally acceptable norms and procedures. This policy would be operationalized in a set of comprehensive inspections procedures manuals, on-the-job training for bank examiners, and the permanent training program discussed below. Assistance would be obtained from other supervisory agencies, foreign technical experts, seconded supervisors and inspection manuals of other countries. 40. Specialized Technical Expertise in On-Site Supervision and Inspection. In order to upgrade the quality and capacity of financial supervision, it is necessary to acquire technical expertise in new areas such as derivatives, asset-backed securities, and investment banking or asset liability management. This would be achieved by the development and implementation of a permanent training program for staff, through the secondment of external consultants within CNB, and training of supervisors abroad. 41. Financial Analysis Capability and Off-Site Supervision. Supervision can be made more effective if off-site supervision is undertaken through adequate financial and economic analysis. The project would support improvements in technical analysis capability, integrate

16 12 financial analysis into the supervision process (on-site or off-site) and help CNB to develop indicators of financial group solvency and financial distress which can be easily monitored by management. 42. Regulatory Reports and Regulatory Accounting Principles. The objective of this module is to upgrade the quality of data requested from individual financial institutions and groups, reducing the reporting burden for such institutions. 2 ' To achieve this objective, the capacity of processing systems would be upgraded to ensure integrity of data; and regulatory and output reports would be redesigned to focus on assessment of the financial risk (including credit, market, price, and liquidity risks) undertaken by financial institutions. Efforts would also be made to develop policies regarding the publication and disclosure of financial information, as well as to redesign the format of existing published reports. 43. Information Systems and Budgetary Processes. The complexity and speed of financial transactions, coupled with the complex structure of financial conglomerates, make it critical to modernize CNB's information systemsy The project would support efforts to design a more responsive management information system, finance procurement of modern hardware and software, including laptop computers for supervisors undertaking on-site inspections, and finance training for support and professional staff in the use of such equipment. Finally, support would also be given to automate and to modernize CNB's budgetary processes. 44. Human Resource Development and Policy. There is currently no articulated policy regarding human resource development at CNB. No systematic evaluation of the adequacy of the existing skill mix has been undertaken, standards for the hiring of new employees are not defmed for CNB as a whole, job descriptions/promotion paths are not well defined, and wage compensation and benefits policies do not allow CNB management much flexibility in its attempts to reorient the skills mix. 45. To address these problems, assistance would be provided to develop a human resource development policy. To establish this policy, the project would finance an inventory of the skills of existing personnel at CNB. Assistance would also be provided to design minimum standards for new hires, develop job descriptions and career development and promotion paths, and evaluate changes to wage compensation and benefits policies to better link "' These regulatory reports will permit a gradual movement away from current Mexican supervision practice which requires financial institutions to prepare and submit the entire general ledger. Current requirements have not only led to excessive reporting, but may also hinder adoption of more modern risk measurement and management systems by Mexican financial conglomerates. 1' Currently, it can take up to several minutes to download data from CNB's centralized data base.

17 performance with wage compensation. 13 Comisidn Nacional de Valores 46. The overall aim of the CNV sub-component is to: (i) develop appropriate regulatory and supervisory policies for new instruments and markets; (ii) promote self-regulation by market participants; and (iii) streamline and strengthen regulation and supervision of existing activities. The CNV sub-component would focus on ensuring consistency of regulation and supervision between CNV and other agencies involved in the project. The following areas would be addressed: 47. Self-Regulatory Organizations and Associations. This topic has become increasingly important as part of the overall strategy to ensure the integrity of Mexico's securities markets. As the number of market participants and the complexity of their business dealings increases, the development of better self-regulatory practices by Mexican exchanges, business and professional associations, custody corporations, and clearing corporations would help to conserve government resources needed for supervision. CNV staff and market participants would need to be educated about the philosophy and practical issues related to selfregulation. In particular, the distinction between the self-policing role of SROs and SRAs and the promotional and advocacy role currently played by some associations within the securities industry should be made explicit. Positive results in this area would require that knowledgeable and experienced CNV personnel perform careful oversight of the internal surveillance carried out by SROs and SRAs. Assistance in this area would be provided by external consultants familiar with worldwide experience with self-regulation. 48. Asset-backed Securities (Securitization). This module would evaluate the regulatory framework for asset-backed securities currently traded in Mexico and help develop an appropriate regulatory and supervisory framework for new instruments, including mortgagebacked securities, which are expected to be introduced in the near term. Assistance would be provided by external consultants. 49. Investment Advisers and Managers. The growth of retirement savings plans, mutual funds and other publicly offered investment vehicles means that more and more investment would be influenced or directed by professional advisers and money managers. Regulation and supervision of investment advisers and managers would be evaluated by external consultants with respect to authorization, conflicts of interest, fee structures, and quality of investment advice given to individuals and investment companies. In addition, the appropriateness of a requirement that investment advisers be constituted as stand-alone entities subject to registration would be examined. 50. Conflicts of Interest. Potential sources of conflicts of interest among related brokerage houses, banks, insurance companies, investment advisers and managers along with conflicts that may arise because of special relationships between financial intermediaries, transaction counterparties, and issuers of securities would be examined and analyzed.

18 14 General principles to be applied to the identification of conflicts of interest would be developed with a goal of developing appropriate regulations. Assistance would be provided by external consultants. 51. Exchange-traded Derivatives. This module would help ensure that the future development of derivatives traded in organized markets such as the Bolsa and the over-thecounter market, is organized in the context of a consistent regulatory framework with well designed supervision systems in place. 2 ' This assistance would focus on developing techniques to improve on-site supervision of brokerage firms' use of such contracts, as well as supervision systems for SROs such as the Bolsa, INDEVAL, and any private futures clearing corporation if established. External consultants including staff of the U.S. Securities and Exchange Commission (SEC), Commodities Future Trading Commission (CFTC), and Federal Reserve System, would be among the essential providers of assistance under this module. CNV staff would also be seconded to the SEC, CFTC, and other agencies and institutions. 52. Disclosure Standards. Public provision of reliable and timely information by issuers of securities is critical to strengthening the confidence of domestic and intemational investors. This module would aim to improve disclosure standards in connection with public offerings, extraordinary events, and standard periodic reports. Consistency of approach with the disclosure standards of other markets where securities of Mexican issuers are traded would need to be addressed to assure that Mexican and foreign investors are on an equal footing. Assistance would be provided by external consultants including seconded staff from foreign securities regulators, and Mexican attorneys with domestic and international experience. 53. International Ouotation System. The creation of a trading system for securities of non-mexican issuers may have large potential benefits for the integration of Latin American capital markets and Mexico's position as a regional financial center. Current proposals to establish this system (Sistema Internacional de Cotizaciones - SIC) would be reviewed under the project to ensure the integrity and efficiency of this new market. Assistance to the CNV in implementation of the system in the form of external consultants and training abroad for CNV staff would also be provided. 54. Other Topics in Securities Regulation. Additional assistance on a number of other topics in securities regulation would also be provided including: (i) assessment of trading practice regulations relating to front-running, best execution, dumping of securities, 2' More precisely, this loan will provide assistance to CNV which has jurisdiction over exchange-traded derivatives. This work will be coordinated with independent initiatives of the Central Bank which has jurisdiction over most financial derivatives with the exception of overthe-counter equity-linked derivatives.

19 15 segregation of accounts, and conflict resolution; (ii) streamlining and updating of reporting requirements for securities firms to ensure maximum practicality and consistency with international standards; (iii) evaluation of capital regulations for broker/dealers and development of proposals to ensure consistency with capital adequacy requirements of banking operations; and (iv) analysis of the financing, structure, and operations of the guarantee fund for brokerage furms. Comision Nacional de Seuros v Fianzas 55. The overall aim of the CNSF sub-component would be to facilitate the effective development and functioning of insurance companies, reinsurance companies, insurance brokers and adjustors with supervisory policies consistent with those of other commissions and in line with international practices. The following areas would be addressed under the program: 56. Inspection Process. The project aims to improve the supervisory capacity of CNSF with respect to insurance companies, reinsurance companies, insurance brokers, and adjustors through a top-down inspection process where on-site supervision would be focussed on the most prominent risk(s) for a particular institution. Relevant risks should be identified by examiners together with senior management. In order to achieve this objective, it would be necessary to: (i) revise policies and procedures for on-site inspections; (ii) improve the relationship between regulators and auditors; and (iii) develop an effective training program for insurance company inspectors. These objectives would be met through a process whereby extemal consultants would first diagnose weaknesses in on-site inspection techniques with CNSF staff. Some CNSF staff would then be trained by external consultants and/or relevant supervisory agencies in the United States or Canada. Finally, the external consultants would evaluate how well CNSF has incorporated needed changes into its inspection process. 57. Regulatory and Supervisory Policies. As a guiding principle, all regulatory and supervisory policies should be fully consistent across all commissions and with international standards. In the case of CNSF, particular attention would be paid to the legal and regulatory framework governing insurance and reinsurance companies, brokers, and adjusters. Policies regarding consolidated accounting and capital adequacy rules would be reviewed. In the case of insurance brokers and adjusters, the review of existing laws and regulations would focus on the minimum standards for an SRA, including ethical standards, certification procedures for new entrants, and surveillance of member practices. External consultants with extensive legal and supervisory experience would provide assistance to CNSF to compile a summary of principal requirements and related recommendations for changes to the existing framework. 58. Actuarial Services of CNSF. The objective of this module is to design an effective monitoring system of the actuary's work with an appropriate degree of reliance on the work of the company actuary and an independent actuarial "auditor". Unnecessary tasks by CNSF

20 16 actuarial inspectors would be eliminated while reporting and reserving standards would be brought in line with international standards. These objectives could be achieved by: (i) reviewing actuarial inspection practices with emphasis on greater coordination of activities among inspectors; and (ii) reviewing international standards and publishing local actuarial standards where necessary. In addition, work is currently being undertaken towards developing an appropriate certification process for actuaries. The assistance program would involve international actuarial consultants and external training for CNSF actuaries. In addition, assistance in this area would be closely coordinated with assistance provided to CONSAR in the case of actuarial inspections or disclosures applied to retirement, pensions, and associated insurance products such as annuities, life, and disability coverage (see para. 65). 59. Desk Analysis. The role of desk analysis would be enhanced through the strengthening the development of a program to better monitor risks in financial institutions. This effort would entail the development of early warning tests, the use of financial analysis in the supervisory process, the review of current practices and the evaluation of procedures followed in other countries. Use would be made of external consultants and CNSF staff would receive training abroad. 60. Review of Accounting Standards and Regulatory Reports. Regulatory reporting standards consistent with international norms would be established under this module of the project. In order to do this, the format of existing regulatory reports would need to be reviewed and appropriate international practices incorporated. Use would be made of external consultants with the necessary experience. 61. Education of Financial Community. The final module of technical assistance to this commission is education of the financial community in the areas of actuarial standards, selfregulatory processes for insurance brokers and adjusters, and the management of risks. The education would need to include formal training along with the fostering of a closer working relationship between CNSF staff and the financial community. CONSAR 62. The technical assistance program for the newly created CONSAR would follow a twopronged approach. First, the program would support efforts to moderriize the new commission and increase human resource capacity in order to strengthen proper supervision and ensure maximum integrity of private pension fund management and account administration. Second, a study would be financed jointly with CNSF on the further development of the Mexican annuities market. 63. Internal CONSAR Information Systems. Financing would be provided to develop the intemal information system of the CONSAR in order to establish state-of-the-art operations. This financing would cover: software and hardware for a staff expected to grow up to 150 employees over the next year, and development of computer links and interfaces with IMSS,

21 ISSSTE, FOVISTE, INFONAVIT, Banco de Mexico, SHCP, and PROCESAR CONSAR National Information Network. In addition to developing an internal infornation system for the CONSAR, the loan would finance assistance in the design of a communications network between CONSAR regional offices and the main office in Mexico City. The regional echis would provide information to different SAR system participants and handle complaints on a regional basis. 65. Special Studies. A preliminary study of Mexican annuities markets would be financed and will be undertaken jointly by CNSF and CONSAR with the assistance of external consultants. The study would look at the Mexican annuities markets with an emphasis on the impediments to the market's further development. In addition, the study would examine the regulatory framework and economics of annuities in other countries (e.g. Chile, US, and Canada). Issues to be examined would include: types of annuities to be offered (indexlinked, fixed payment, and variable rate); disclosure provisions for insurance companies and brokers; reporting, fees, and commission structure; actuarial disclosures and standards; pricing by insurance companies; and the marketing of these products. B. Public Investment Evaluation and Budreting 66. The aim of this component would be (i) to strengthen the internal operations of the Investment, Energy, and Industry Unit (IEIU) of SHCP with respect to project evaluation and budgeting and (ii) support project evaluation and budgeting activities in other Government agencies through improved inter-institutional coordination, communication and training. 67. Inter-institutional Coordination. This module would aim to strengthen inter-agency communication and coordination between federal, state, and local entities engaged in project evaluation and budgeting activities. In addition, the module would assist in the evaluation of projects under future public-private partnerships for the financing of infrastructure. 68. Standards. Diffusion, and Training. The standards for evaluation of public investment projects will be established under this module with assistance from external consultants. Following the issuance of standards, the IEIU would conduct a program to ensure that all Government agencies engaged in project evaluation are informed of the standards. The Unit would also establish a training program in project evaluation for staff of the federal govermment. 69. Project Evaluation. Under this module, the IEIU would undertake the evaluation of specialized projects in specific sectors of the economy with the support of external consultants. Projects to be evaluated may include highways, airports, ports, railways, water/sanitation, solid waste and other priority sectors. In addition, studies of regional development projects would be undertaken. 70. Project Inventory and Prioritization. This module will undertake to develop and

22 18 maintain a national inventory of public investment projects which prioritizes and ranks projects within and across sectors according to economic, financial, and social benefits. The project will support the design and implementation of the inventory system, and assist the government to develop criteria and as associated methodology for prioritization of these projects. 71. Multi-annual Budgeting. Under the project, the IEIU will finalize and implement arrangements for multi-annual budgeting under public investment projects. Extemal consultants will be contracted to review and evaluate findings of a recent study regarding the design of a system for multi-annual budgeting and develop detailed recommendations regarding the implementation of this system. 72. Ex-post Evaluation and Monitoring. This module will support the development of systematic ex-post monitoring and evaluation of public investment projects. The aim is to improve the incentive system for maximizing efficiency and productivity in the execution of public investment projects. SECITON B: PROJECT ADMINISTRATION AND IPLAEMENTATION 73. Project Orfanization. The United Mexican States would be the Guarantor for the loan made to Nacional Financiera, S.N.C. (NAFIN), a state-owned development bank. Execution of the project would be undertaken by SHCP in conjunction with the following commissions which are legally under SHCP: (i) CNB, CNV, and CNSF for the Financial Sector Supervision and Regulation component; and (ii) CONSAR for the Pension Funds component. Each commission would establish a small Implementation Unit (IU) that would coordinate assistance to be provided by the Bank and work closely with the Borrower (NAFIN) and the Executing Agency (SHCP). As the commissions do not have experience in implementing a Bank project, consultants would be hired with the proceeds of the Loan to support each IU in Bank administrative procedures and procurement. 74. To ensure that the activities financed under the Project remain closely tied to the evolving priorities for the financial system, a Project Implementation Review would be conducted on a semi-annual basis to update the rolling annual program of assistance. The goal of this review would be to ensure the flexibility and continuing relevance of the FTAL program of assistance, and not to increase the burden of procedures. The frequency of the meetings may be adjusted according to the needs of project implementation. During each review, the Bank, Executing Agency, Borrower and each Commission would assess the status of project implementation, evaluate the workplan for the next six months, and agree on any needed modifications to the originally proposed program. Project completion has been targeted for December 31, The signing of the Subsidiary Agreement between NAFIN and SHCP would be the sole condition of effectiveness applicable to the project. Conditionality for the Loan would

23 be minimal due to the broad agreement in terms of sector policy between the Government and the Bank, and the need to rapidly deploy resources to implement the program of assistance Training Plan. The coordinator within each of the commission and the Public Investment Unit will be responsible for the collection of relevant data and information regarding the training courses financed through this project within their entity. The specific area responsible for training within each of the commissions will be responsible for providing the with a yearly training program. This program will be included in the annual work program submitted to the World Bank during the first trimester of each year. 77. The yearly training program will include: (i) Summary of previous year's training program (including any courses which were programmed for the previous year but did not take place); (ii) Proposed changes to training courses; (iii) Title and budget for each course; (iv) Name of Consultant(s)/firm(s) responsible for training; (v) Location of course; (vi) Estimated number of participants; and (vii) Procurement status of each i.e. firm/institution selected, awaiting contract, etc. 78. Each coordinator will be responsible for maintaining the following information for each of the training courses to be reviewed during the semi-annual reviews: (i) Executive Summary; (ii) Title and location of course; (iii) Name of institution or consulting firm; (iv) Budget; (v) List of participants (including name and organization/institution he/she represents); and (vi) Copy of Evaluation of course completed by the commission. 79. Pro1ect Costs and Financin. Estimated Project costs (total cost including Bank and GOM financing of US$ million) are as follows: Financial Sector Regulation and Supervision component including the CNB (US$ million), CNV (US$ 1.94 million), CNSF (US$ 1.86 million), CONSAR (US$ 1.93 million), and a Project Implementation Consultant Fund for the four commissions (US$ 0.44 million); and the Public Investment Evaluation and Budgeting component (US$ 7.69 million). The Bank would provide US$ 23.6 million, approximately three-quarters of the total financing, and the GOM the remaining US$ 7.76 million. As noted above, the project would finance consultants and procurement of hardware and software, but would not finance any recurring expenditures. 80. Procurement. Two types of procurement would be undertaken through the Loan: (i) consultant services for each of the four commissions; and (ii) goods, primarily computer hardware and software and communications equipment, for the CNB and the CONSAR. As financial agent, NAFIN would act as the coordinator and adviser to the Commissions for all procurement activities under the Loan. Consultants would be hired with proceeds of the Loan to finance consultants to assist each Commission in procurement activities (para. 73). 81. Selection and appointment of consultants for studies, technical assistance, and support of project execution would be carried out in accordance with the Bank's "Guidelines: Use of Consultants by World Bank Borrowers and by The World Bank as Executing Agency"

24 20 (August 1981). 82. Procurement of goods would follow the Bank Guidelines for Procurement (May 1992). To the extent feasible and practicable, the procurement of goods would be done by grouping the various items in bid packages estimated to cost US$ 350,000 equivalent or more. Packages in this category would be required to follow International Competitive Bidding (ICB) procedures using the Bank Standard Bidding Documents. Local Competitive Bidding (LCB) would be undertaken for goods estimated to cost more than US$ 100,000 but less than US$ 350,000 using the Standard Bidding Documents for Goods satisfactory to the Bank. For equipment which cannot be grouped in packages valued at US$ 100,000 or more, local shopping procedures would be followed. In the case of procurement and implementation of complex informnation and communication systems, the Bank would recommend that a 2-stage bidding process which includes a stage for technical qualification prior to economic evaluation. 83. Bank review of procurement procedures would be as follows: (i) for consulting services, the Bank would conduct prior review for all contracts exceeding US$ 50,000 equivalent for individuals and US$ 100,000 equivalent for firms; and (ii) for procurement of gqoas the Bank would review ex ante documentation pertaining to each ICB undertaken and for the first two LCBs; (iii) all other procurement documentation is subject to ex post review. This review process would result in a prior review of approximately 90% of all Bankfinanced contracts for goods. 84. Disbursements. Proceeds of the proposed Loan would finance: (i) 100% of the cost of foreign goods, consulting services, training and technical assistance; and (ii) 90% of the cost of local goods, consulting services, training and technical assistance. The proceeds of the Loan are expected to be disbursed in accordance with the allocation by categories shown in Schedule B of the Memorandum of the President. To expedite project execution, a special account in U.S. dollars would be established at the Central Bank, with an authorized allocation of US$ 2.3 million equivalent, representing the average amount equivalent to four months of eligible expenditures that are expected to be paid from the account. Separate accounts of all expenditures financed by the Project would be maintained by the Borrower and the Commissions. Withdrawal applications would be fully documented, except for contracts smaller than the following specified levels: US$ 350,000 for goods; US$ 50,000 for individual consultants; and US$ 100,000 for consulting firms. In the case of contracts below these specified levels, NAFIN would prepare certified Statements of Expenditure (SOE) to be used as the basis for disbursement. Supporting documentation for SOEs would be retained by NAFIN and made available for examination by Bank staff during supervision missions. 85. Retroactive financing of up to US$ 1.9 million equivalent would be provided for eligible expenditures incurred after October 1, Such financing is necessary to put in place the institutional structure required to carry out the project and avoid delays in the first year of project implementation. It would be used to finance consultant support for

25 institutional strengthening of the three executing agencies and for preparation of support materials for procurement of goods and services. The project completion date would be December 31, 1997 and the closing date would be June 30, Accounts and Audits. NAFIN and the Executing Agency would maintain adequate records to reflect all expenditures made under the project. The accounts and statements of expenditures would be audited each year by auditors satisfactory to the Bank, in accordance with appropriate auditing principles consistently applied. The audit reports would be submitted to the Bank not later that six months following the close of the fiscal year.

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27 ATTACHMENT: PROJECT IMPLEMENTATION PLAN

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29 PROJECT IMPLEMENTATION PLAN: CNB Matrix of Objeciives, Activities, Outputs, Tining and Costs OBJECTIVES ACTIVITES OUTPUT FORMS OF TIMING COST ASSISTANCE l Slart Fm~~~~~~~~~~~~~~~~~~~~~~iish Totall (In US$) 1. AUTHORIZATION 1. Provide the CNB with 1. Written policy. Foreign consultants Jan. June $370,000 FUNCTION relevant inibrmation with (supervisors skilled in respect to the authorization 2. Written authorization process). 1. Promote sound and policies and procedures procedures. transparent institutions and followed by other countries. Training of CNB financial groups. personnel abroad. 2. Survey currently utilized 2. Analyze the possibility of implicit and explicit incorporating authorization policies, and prepare process into overall written policy statement and World Bank supervision program. written implementation Procurement procedures to follow in the Breakdown: 3. Promote consistency with authorization process. Consultants other agencies within $290,000 Mexico. Goods/Equip $0 4. Promote consistency with international best practice. NBF1,1 $80,000 (operating expenses) TOTIAL: $370,000 POSSIBLE REQUIRED STEPS: Revision of the legal framework and distribution of faculties among regulatory commissions (CNB, CNV, and the CNSF). Note: This matrix is a highly aggregated version of a much more detailed description of the technical assistance program for the Comision Nacional Bancaria (CNB). The more detailed description includes a break down by objectives, activities, and outputs by type of assistance and Vice Presidency. Both this matrix and the more detailed program description are based on an explicit institutional development plan for the CNB which was agreed upon prior to the development of the technical assistance program. a] NBF: Not Bank Financing

30 PROJECT IMPLEMENTATION PLAN: CNB Page 2 of 30 Matrix of Objectives, Activities, Outputs, Timing and Costs OBJECTIVES ACTIVITIES OUTPUT FORMS OF TIMING COST ASSISTANCE Start Finish Total USS) j_i j(in 11. REGULATORY AND 1. Review existing laws, 1. Inventory of relevant Foreign 1. June 1. Dec $1,390,000 SUPERVISORY POLICY regulations and policies for provisions of law policy and consultants with Initiate the work to obtain comprehensiveness and regulations, and a summay legal and I clear rules governing legal consistency with CNB's of principal informational supervisory 2. June 2 Ma 1997 responsibilities of individual objectives and international requirements. expertise institutions and financial groups best practice. 'i (law and regulatory policy). 2. Revised plicy regulations Mexican World Bank 2. Develop proposals for applcable to financial consultants Procurement 2. In the long term, clear new prudential regulations, groups, banks, SROs, SRAs, specializing in Break wn: stmndards outlining CNB market practice regulations and ancilluy and par- financial law Consultants requirements, as well as and supervisory policies, financial service providers, and regulation. $1,055,000 discretionary faculties regarding Goods/Equip the sound operations of 3. Develop TFaining of S0 institutions and financial groups recommendations for CNB personnel should be established. In this changes to law and abroad. way, the CNB will be able to regulations. NBF: more effectively exercise its $335,000 authority to promote its (opemting objectives (supervisory policy). expenses/taxes) 3. Develop proposals for changes in the regulatory and supervisory policies applicable to selfregulatory organizations and associations, and for the provision of para-fin.ancial 1TOAL: services.'i $1,390,000 Ia Self-regulatory orgsnizations (SROs) include the Bols* de Valores, INDEVAL, Bolsas de Agropecuarios, cleanrghouses (includirg CECO IAN), and clearing houses to be formned (nim in process) for trading derivatives on the Bolsa. Self-regulatory associations (SRAs) refers to all associations whose membe amre subject to internal guidelines of their respective associations (includirg associations of auditors, accountants, actlaries, appraisers, warehouses, and securities dealers). bl This review would incilide examination of minimuns capital and capitol adequacy regulations applied to all entities in the financial conglomemte; authorization policies; permissible activities; credit exposuie limits; Iarge exposire limits; related lending limits; concentralion limits by types of operations (e.g. mortgage lending) or sector; investment limitations; foreign exchange or interest rate exposure limits; liquidity regulstions; provision for losses; conflict of interest rules; market prctice niles; nules for SROs; and rules for SRAs. CONSIDERArIONS: New supervision policies and procedures have to be developed by the CNB on: (i) capital adequacy; (ii) exposure to credit risk and landing limita; (iii) relted credits; (iv) concentration limits, diversification policies; (v) intercompany tinsfers; (vi) market practices; and (vii) conflicts of interest