Banks Continue to Implement Risk Management Reforms Following the Crisis
“Making Strides in Financial Services Risk Management"
London, April 20, 2011: In the light of the financial crisis, the industry has put in place wide-ranging programs to address weaknesses in risk management, including governance, incentives and risk measurement, according to a survey published today by EY. Banks in the United States and in Europe, some of which sustained the most substantial losses in the crisis, have launched the most aggressive programs and banks felt that substantial progress has been made. “However, this is a journey and the reforms although well underway will take time to complete,” said EY.
The survey has been conducted on behalf of the Institute of International Finance (IIF), whose Committee on Market Best Practices published an extensive set of recommendations for the industry in July 2008. EY stated that its new survey – the second to gauge progress across the industry since the IIF’s 2008 report – highlights the emphasis being placed on risk governance and risk management. Most organizations reported that boards of directors are now playing a more prominent role and senior managers together with the boards are setting a clearer direction. The firms surveyed emphasized that the power and authority of Chief Risk Officers and their teams has been elevated, notably in such key areas as business strategy and planning, risk appetite definition and management, product development and compensation.
Ms. Patricia Jackson, EY's Head of Financial Regulatory Advice, Europe, Middle East, India and Africa (EMEIA), who directed the survey, said, “Despite impressive progress on many fronts, the reform programs are far from complete. Several important reform areas show less progress than others. A central finding of our survey is that still more needs to be done by many firms to strengthen the core risk culture in particular the embedding of a clear risk appetite throughout the organization. The changes required to institute a strong risk culture – where risk is the business of everyone from the board to the front-line – are fundamental and far-reaching for many organizations. Shifting the cultural mindset is by definition a long-term process of change requiring on-going commitment of senior management time and resources to embed it fully.”
Mr. Rick Waugh, Vice Chairman of the Board of Directors of the IIF, Co-Chairman of the IIF’s Steering Committee on Implementation (SCI), and President and Chief Executive Officer of Scotiabank, stated at a press conference today, “The results of this survey should contribute to raising confidence in the soundness of banking systems. Worldwide regulation is important, but it has in itself seldom, if ever, averted a banking crisis. What really counts, along with strong supervision, is good risk governance and sound risk management in firms. On these fronts the EY survey is encouraging. It is also clear that more work is essential to improve approaches against the benchmarks of our 2008 IIF recommendations. There can be no room for complacency.”
The survey, which involved questionnaires and selected senior executive interviews with 62 firms, found that areas of greatest progress include:
- Risk Governance & Risk Management – Overall, 83% of respondents reported an increase in board oversight of risk – with 42% indicating a significant increase in board involvement. The majority stated that their boards are more actively engaged and involved in risk policy setting and governance, spending more focused, higher-quality time on risk issues. This is seen as the most significant area of change. In addition, 89% indicated that the role of their CRO has been strengthened since the crisis. As an indication of their increased stature, over 50% of CROs studied now report directly to the CEO, and 21% have a dual reporting line to both the CEO and the board risk committee.
- Liquidity risk – 88% of respondents viewed the need to focus more on liquidity-risk management as the single largest lesson learned from the crisis. Not surprisingly, the results of this year’s study indicated that banks are indeed addressing the liquidity lesson. 92% of respondents report that, post -crisis, they have made changes to managing and controlling liquidity risk, an increase from 61% in the 2009 survey. 92% have strengthened management of liquidity risk, from fundamental shifts in philosophy and governance – particularly for banks most impacted by the crisis – to more focused efforts to refine specific practices.
- Internal Stress Testing – 93% of respondents indicated that they have developed and implemented new internal stress testing methodologies (up from 74% in the 2009 survey); establishing uniform modeling standards, adjusting models to rely less on historical data and assumptions, increasing the use, number and severity of scenarios, and extending time horizons.
Areas where the survey found that progress has been realized, but that significantly more work needs to be done in firms relative to the IIF’s 2008 recommendations and regulatory guidelines, include:
- Compensation – 78% of executives reported they have made revisions to their programs – up from 58% in the 2009 survey – and 30% indicated these changes represent significant shifts in compensation systems to better align pay to risk-adjusted performance. However, just 40% of those interviewed said they were close to completion of their initial rounds of revisions. Close to three-quarters of respondents listed the lack of regulatory consistency together with competitive pressures as their top challenges faced as they go about changing remuneration policies.
- Risk Culture – executives interviewed understand the need to strengthen the culture and many have a range of initiatives underway to embed comprehensive, consistent and collaborative approaches to risk. 73% percent of interviewees indicated they are making progress in their efforts to institutionalize an appropriate risk culture throughout the organization, but only 23% believe they are close to the end of the process.
- Risk Appetite – fully 96% of firms surveyed stated that they recognize the importance of further work in this priority area and many see this very much as a work in progress. They notethere is no clear consensus around means of developing, articulating and enforcing risk appetite.
- Risk IT – 59% of firms surveyed report progress, yet the challenges are seen as substantial and many banks described multi-year investments of management time, people and finances to systematically improve the processes and IT systems to support more effective risk management.
Mr. Klaus-Peter Müller, Co-Chairman of the IIF’s SCI and Supervisory Board Chairman, Commerzbank AG, stressed, “The improvements being registered across-the-board in risk governance are important and welcome. EY’s first industry survey for the IIF in December 2009 was encouraging in this area and its new findings show further progress. The findings on risk appetite and risk IT underscore the importance of work that the SCI is pursuing on these issues and we shall be publishing our recommendations and conclusions in mid-June, which will reflect the hard work by the industry to forge progress in these difficult areas.”
EY noted on capital management that, “The executives interviewed are of course acutely aware of the potential organizational impact of the new regulatory standards on capital and liquidity imposed by Basel III and the still-evolving reforms across countries. There remains a great degree of uncertainty as to how these reforms will ultimately translate into the actual day-to-day business, and respondents say that it is difficult to develop long-term plans when it is still unclear what the regulatory capital and liquidity requirements will ultimately be for their various businesses. As a consequence, some have adopted a wait and see attitude about meeting regulatory requirements, while plowing ahead with risk-management and business reforms.”
Mr. Waugh noted, “Today’s report provides vital insights for the industry and its regulators. Balanced supervision and risk management are the fundamentals of a healthy financial system. The regulators, in considering possible further new requirements, need to place proper weight on the progress that the financial services industry is now making in the most critical areas. Sound risk management and funding with sustainable, profitable revenue supplemented by independent audit and experienced, principles-based supervision is where the focus should be now for banks, management and policy-setting regulators.”
IIF Managing Director Charles Dallara stated, “Our members across the world support the view that the managements of financial services firms need to persevere in the task of putting in place deep and durable changes as quickly as possible. We have been encouraging the implementation of our 2008 best practice recommendations across our membership and monitoring progress against those benchmarks. The EY surveys are very important in this context, as are surveys on compensation that we have undertaken together with Oliver Wyman. We shall continue to work with expert partners to undertake industry surveys and to foster actions across the industry that promote sound practices.”
About the Survey
In late 2007, the IIF’s Board of Directors established a special Committee on Committee on Market Best Practices (CMBP) to highlight the areas of weakness in the governance and management of many banks, and to develop principles and benchmark standards of sound practice for the global financial services industry. The CMBP published a comprehensive report in July 2008. In December 2009, the IIF published “Reform in the Financial Services Industry: Strengthening Practices for a More Stable System - The Report of the IIF Steering Committee on Implementation (SCI),” which was complemented by an extensive industry survey undertaken by EY in the second half of 2009.
From October through December 2010, EY, conducted its current survey using two methods: an online quantitative questionnaire which was distributed to the top IIF member firms by asset size; and telephone interviews with CROs and senior risk executives of the firms serving on the IIF Steering Committee on Implementation. Sixty-two financial services firms participated in the study either online and/or via telephone, which resulted in 60 online survey responses and 35 interviews.
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