Apparity Updates: June 2023
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US Bank Failures in March Impact Regulatory Landscape, UK Prudential Regulation Authority Finalizes Model Risk Management Policy
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In this month's newsletter, we delve deeper into the aftermath of the US bank failures in March and how they will shape the regulatory and risk management landscape.
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Our comprehensive coverage includes a compilation of papers and speeches from May, where US regulators share valuable insights into their perspectives on the matter. Additionally, we highlight the recently finalized model risk management (MRM) policy by the UK Prudential Regulation Authority (PRA).
Let's begin with a chronological summary of the notable activities by US banking authorities.
FDIC: Options for Deposit Insurance Reform - May 10th
Responding to the bank runs witnessed in March, the Federal Deposit Insurance Corporation (FDIC) has published a detailed paper outlining the challenges it faces. The report underscores the necessity of complementary policies and tools such as regulation, supervision, deposit insurance pricing, and imposing limits on convertibility or requiring collateralization of large uninsured deposits.
Recognizing the complexities and considerations associated with each reform option, the report emphasizes the importance of evaluating their potential impact on other markets and the Deposit Insurance Fund.
OCC: Speech by Acting Comptroller at the US House - May 16th
Acting Comptroller of the Currency, Michael J. Hsu, provided an update to the US House of Representatives regarding the actions and responses of the Office of the Comptroller of the Currency ( OCC ) amidst recent market stress.
Despite the strains experienced by the market, the federal banking system has demonstrated resilience, with the OCC diligently monitoring and collaborating with banks to ensure the soundness of their liquidity, capital positions, and risk management strategies.
Hsu highlights the crucial role of supervisors, emphasizing the necessity of their support and discretion to act promptly and effectively. Furthermore, he stresses the significance of maintaining consistent regulatory standards across different agencies.
Hsu's key emphases include:
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OCC: Speech by Acting Comptroller at the US Senate - May 18th
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Two days later, Acting Comptroller Hsu presented an update to the Senate, reiterating the resilience of the federal banking system due to the adequate capital levels maintained by banks during the recent market stress.
While most banks have not faced stress from depositors or business customers, the failures of Silicon Valley Bank and Signature Bank have prompted a review of banks with significant levels of uninsured deposits to ensure their ability to meet potential withdrawals.
The Acting Comptroller emphasizes the importance of robust risk management policies and practices within banks, urging them to remain vigilant in managing risks associated with interest rates, credit, commercial real estate, and cybersecurity.
Hsu also underscores the significance of capital requirements for the resilience of the banking industry, stating the OCC's commitment to implementing enhanced regulatory capital requirements aligned with Basel III standards.
FED: Speech by FED Board Member at Texas Bankers Association Annual Convention - May 19th
Michelle W. Bowman, a member of the Federal Reserve Board of Governors representing community banks, addresses the need for tailored bank supervision and regulation during her speech at the Texas Bankers Association Annual Convention.
Bowman emphasizes the importance of considering factors such as bank size, risk, business model, and complexity in designing effective supervision and regulation. She advocates for a thorough analysis of recent bank failures and suggests engaging an independent third party to identify the causes and inform regulatory reform.
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Furthermore, Bowman underscores the significance of effective supervision, clear communication between regulators and banks, and the preservation of due process. She promotes nimble supervision that focuses on traditional banking risks while encouraging innovation.
Bowman calls for banks to be prepared for potential stress, transparent in their innovation activities, and cautious against undermining tailored and risk-based supervision. She also recommends targeted changes to address identified issues rather than an overall reform of the regulatory framework.
OCC: Update to PPM: Actions Against Banks With Persistent Weaknesses - May 25th
The Office of the Comptroller of the Currency (OCC) has announced revisions to its policies and procedures manual (PPM) concerning bank enforcement actions. The update specifically targets banks subject to Heightened Standards that exhibit persistent weaknesses or fail to address them adequately.
The revised guidelines outline potential enforcement actions that the OCC may consider, including requirements for additional capital or liquidity, restrictions on growth, business activities, or dividend payments.
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If a bank fails to rectify its persistent weaknesses despite prior enforcement actions or other measures, the OCC may take further action. This could involve compelling the bank to simplify or reduce its operations, such as reducing asset size, divesting subsidiaries or business lines, or exiting specific markets of operation.
What Lies Ahead
While massive reform may not be imminent, banks should anticipate a stricter supervisory and regulatory environment with a focus on resilience, risk management, capital requirements (with Basel III being a priority for federal agencies), and addressing any persistent weaknesses. These initiatives are expected to be tailored to banks' size, risk profile, complexity, and other relevant factors, reflecting the approach federal agencies have adopted in recent years.
PRA PS6/23 - Model Risk Management Principles for Banks
Across the pond in the UK, the Prudential Regulation Authority (PRA) has issued a policy statement (PS) regarding model risk management (MRM) principles for banks. The PRA's final policy, which applies to regulated UK-incorporated banks, building societies, and investment firms, has been shaped by industry feedback.
The scope of the policy has been narrowed to include firms with approval to use internally developed models for calculating regulatory capital requirements. This encompasses internal models (IM) for credit risk (Internal Ratings Based approaches), market risk (Internal Model Approach), or counterparty credit risk (Internal Model Method).
The PRA plans to provide further updates on the approach for other firms at a later stage. However, all firms, regardless of size, are expected to manage model risks in line with existing supervisory expectations.
Key changes to the final supervisory statement include modifications to clarify Senior Management Function (SMF) accountability, replacing references to accounting with financial reporting, guidelines for implementing internal models for regulatory capital calculation, and adjustments to various principles related to model complexity, documentation, adjustments, and escalation processes.
The policy will come into effect on May 17th, 2024.
In conclusion, the US regulatory landscape is poised for stricter oversight, emphasizing resilience, risk management, and capital requirements. While targeted reforms will likely be implemented, massive regulatory changes may not be on the horizon. Meanwhile, the UK's PRA has finalized its model risk management policy, with a narrowed scope and adjustments to key principles.
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