Bob Diamond shines a light on TBTF

Bob Diamond, ex–chief of Barclays writes about the TBTF problem in today’s FT, bemoaning the lack of progress in dealing with this elephant in the financial reform room. He fully supports the consensus opinion that the problem requires: a global resolution system, a level playing field with respect to capital and leverage, and international consistency and coordination. Of greater interest is the FT’s front page article about the article. It quotes Sheila Bair, Chairman of the FDIC, who makes the salient point that TBTF is as much a problem of perception as tangible reality. As long as financial institutions and their counterparties believe that they benefit from an implicit (supra?) sovereign guarantee, the problem will persist. The article quotes Jim Millstein, who led the effort to initially disentangle the AIG can of worms. Despite all the reforms of the past five years, he believes that it would take “10 to 15 years” to identify and unwind the myriad interconnections between large financial institutions.  As a legion of commentators has pointed out since 2008, the problem is not “Too Big to Fail”, it’s more akin to “Too Interconnected to Let Fail”.

FRB and FDIC Raise the Bar in RRP

On 15 April 2013, the Federal Reserve Board (FRB) and Federal Deposit Insurance Corporation (FDIC) issued a press release providing revised guidance for large US banks and foreign banks with USD 250 billion or more in total nonbank assets in completing their 2013 resolution plan submissions and granting an extension to the filing date for 2013 resolution plans from 1 July 2013 to 1 October 2013.

The revised guidance details the format of submissions and requires firms to provide more detailed information on a wide range of issues pertaining to resolution; including obstacles to resolvability, interconnectedness, funding and liquidity.  In particular, there appears to be an increasing focus on derivatives trading risks, with banks being required to provide information on:

  • processes for obtaining waivers of contractual termination rights from counterparties, particularly with respect to the impact of cross-default clauses;
  • strategies to mitigate the impact of contractual triggers associated with parent company guarantees, cross-default clauses and ratings downgrades or withdrawals;
  • the management of the collateral processes in resolution, particularly with respect to the ability to quickly identify:
    • legal rights to collateral pledged to, pledged by, or held in custody by, the bank; and
    • the amount, level and type of collateral held by jurisdiction and the impact of rehypothecation rights (both on counterparty collateral held by the bank and collateral pledged to counterparties); and
    • quantification of the additional liquidity requirement (both actual and contingent) associated with contractual obligations such as guarantees.

Fortunately, the extraction of key legal and commercial data from derivatives documentation is a process which many banks have already begun to address for internal risk management purposes.  In addition, the revised US requirements largely mirror the UK RRP requirements as documented in FS12/1 and so are not completely without precedent.  Nonetheless, the FRB/FDIC revisions highlight the importance of unlocking the risks inherent in large portfolios of derivative documentation, presenting that information in a manner that can be readily accessed across an entire bank and by a regulator, and establishing robust procedures for the continuing capture of legal and commercial reference data from legal documentation.

“Key Attributes of Effective Resolution Regimes”: a Case of the Emperor’s New Clothes?

The FT is reporting that the Federal Reserve and the Federal Deposit Insurance Corporation have warned banks which are required to produce Recovery and Resolution Plans (RRP) not to assume that regulators will co-operate to avoid the failure of a financial group.  In contrast, they are being required to detail the types of legal filings, notices and applications they would need to submit in each jurisdiction to ensure co-operation among regulators and are being expected to describe the legislation in force within specific countries that would facilitate co-ordination.

If this is indicative of the likely response of authorities during a crisis, it would be a very worrying development indeed.  It is in stark contrast to the FSB’s “Key Attributes of Effective Resolution Regimes for Financial Institutions”, published in October 2011.  This sets the benchmark for national RRP regimes and requires the:

  • establishment of Crisis Management Groups (CMGs) between home and key host authorities with the objective of facilitating the management and resolution of a failing cross-border G-SIFI; and
  • creation of institution-specific cooperation agreements between home and host authorities to govern the development of RRPs and detail procedures concerning notification and consultation prior to an authority taking action against a failing firm.

Unfortunately, if authorities choose not to work together during a crisis, CMGs and cooperation agreements will count for nothing.  Without regulatory co-operation, RRP has some residual value as a data-gathering exercise but will fail to meet its primary objective of facilitating the orderly resolution of a globally significant financial institution in a way that ensures continuity of critical economic functions and minimises taxpayer exposure.  Will anyone tell the G20 that they risk being measured up for the Emperor’s new clothes before it’s too late?

FDIC Publishes Resolution Plans for Systemically Important Financial Institutions

As required by Parts 360.10 and 381.8(c) of Title 12 of the Code of Federal Regulations, the resolution plan of every insured depository institution with USD 50 billion or more in total assets and every systemically important financial institution is required to split into a public section and a private section.  The Federal Deposit Insurance Corporation has published the public sections of the resolution plans for the following institutions on its website:

  • Bank of America Corporation
  • Barclays PLC
  • Citigroup Inc
  • Credit Suisse Group AG
  • Deutsche Bank AG
  • The Goldman Sachs Group Inc
  • JP Morgan Chase and Co
  • Morgan Stanley
  • UBS AG

However, those hoping to discover any real insights into the resolvability of these institutions will be disappointed.  Understandably, the public sections of each resolution plan reveal no commercially sensitive information.   Rather, they take the form of a standard summary which provides the following high-level information: 

  • The names of material entities;
  • A description of core business lines;
  • Consolidated or segment financial information regarding assets, liabilities, capital and major funding sources;
  • A description of derivative activities and hedging activities;
  • A list of memberships in material payment, clearing and settlement systems;
  • A description of foreign operations;
  • The identities of material supervisory authorities;
  • The identities of the principal officers;
  • A description of the corporate governance structure and processes related to resolution planning;
  • A description of material management information systems; and
  • A description, at a high level, of the covered company’s resolution strategy, covering such items as the range of potential purchasers of the covered company, its material entities and core business lines.


Large Banks Submit First Resolution Plans Under Dodd-Frank

2 July 2012 was the deadline for nine of the largest US and foreign banks to submit their first resolution plans to the FDIC and the Federal Reserve Board pursuant to requirements enacted under the Dodd-Frank Act.  An executive summary of each resolution plan will be published by close of business on 3 July 2012.  Smaller institutions will have until 2013 to submit their first resolution plans.  The banks which are subject to the initial deadline are:

  • Bank of America Corporation
  • Barclays PLC
  • Citigroup Inc
  • Credit Suisse Group AG
  • Deutsche Bank AG
  • Goldman Sachs Group Inc
  • JP Morgan Chase & Co
  • Morgan Stanley & Co LLC
  • UBS AG

BoE, FSA and FDIC Plan “Top Down” Bail-In of Seven G-SIFIs

Below is a link to an FT article published this morning which discusses the progress being made by authorities in the UK and the US on the drafting of resolution plans for seven of the twenty-nine G-SIFIs, including Goldman Sachs, JP Morgan and Barclays.

Of more interest is the fact that the UK and US still seem to be blazing the trail with respect to finalising resolution plans with “the sceptics in Europe and Asia” bringing up the rear.

(subcription required)

FDIC approves final rule requiring resolution plans

On 17 January 2012 the Federal Deposit Insurance Corporation (the “FDIC”) approved a final rule requiring insured depository institutions with USD 50 billion or more in total assets to periodically submit to the FDIC contingency plans for resolution in the event of the institution’s failure.  This rule follows a separate final ruling, adopted jointly by the FDIC and the Federal Reserve approved in September 2011 under Section 165(d) of the Dodd-Frank Act, which requires certain systemically important nonbank financial companies and bank holding companies to prepare resolution plans.

The main purpose of the ruling is to:

  • ensure that depositors receive access to their insured deposits within one business day of the institution’s failure (two business days if the failure occurs on a day other than a Friday);
  • maximise the net-present-value return from the sale or disposition of the failing institution’s assets; and
  • minimise the amount of any loss to be realized by the institution’s creditors.

Currently, 37 insured depository institutions are covered by the final rule, together holding approximately USD 4.14 trillion in insured deposits (or nearly 61 percent of all insured deposits), as of Sept. 30, 2011.

The rule becomes effective on 1 April 2012 and we shall be looking at it in more detail over the coming weeks.

All the best