Five years on, uncertainty is the new normal

December 2013

On October 9–10, 2013, participants in the Bank Governance Leadership Network (BGLN) gathered in New York for the fifth Bank Directors Summit, the BGLN’s 30th meeting since its inception in 2009. Directors representing 12 banks from six countries met with five regulators or supervisors from four countries and were joined on day two by James Gorman, chairman and CEO of Morgan Stanley.

Five years on from the beginning of the global financial crisis, discussion focused on the state of regulatory and internal reforms. The enclosed issues of ViewPoints capture the spirit of the summit discussion and are enriched by insights from five additional BGLN meetings and more than 160 discussions with BGLN participants over the course of 2013:

  • Much more prudential reform to come (pages 4-13). Banks are subject to much tougher capital, liquidity, and other prudential regulations as a result of a reform agenda aimed at protecting taxpayers from future bailouts. Despite the progress these reforms have achieved, banks and regulators are only just getting to the most difficult issueshow to ensure minimum capital and liquidity levels are truly consistent across borders and how, pragmatically speaking, to resolve cross-border institutions in the case of failure. There is significant work ahead on both fronts, particularly on resolution. It is clear that intensive supervision will be an ongoing feature of the regulatory environment. Overall, summit participants concluded we are not even halfway through prudential reform, so banks should expect regulatory uncertainty for many years to come. 

  • A new standard for effective board governance (pages 15-20). Summit participants acknowledged that the elevated level of engagement demanded of board directors after the crisis is here to stay, and that for the board to be effective, compliance activity must not be allowed to crowd out important strategic and talent discussions. Participants concluded that despite the importance of capital, liquidity, and other improvements, good management is a firm’s best safeguard. Therefore, boards should emphasize senior management’s accountability for the firm’s performance and controls, give more attention to succession planning, and support management in the face of regulatory pressure. Additionally, because compensation remains a continuing source of controversy, it requires ongoing board consideration. Lastly, participants stressed that continuous board-supervisor engagement is essential in today’s world of regulatory uncertainty.

  • Heightened expectations for risk management and controls (pages 22-28). Banks’ risk agendas remain full, as directors and executives are still grappling with how to implement risk appetite frameworks and better measure and mitigate operational risks. Improving the depth and breadth of talent in the risk and control functions is a challenge, as is improving risk data aggregation and internal and external risk information. Supervisors and directors agree that the ultimate objective is instilling and monitoring a desirable risk culture. Beyond risk, other control improvements are required in light of the staggering fines and settlements that have recently been imposed in cases of control failures. Supervisors are pressing banks for enhancements to internal audit, the oversight of third-party vendors and outsourcing, and information technology (IT) system capabilities and controls. Because consumer protectionor conduct riskcreates such potentially significant business model and control challenges, many directors view it as the largest regulatory risk, going forward.

  • The need for strategies that fit today’s reality (pages 30-35). In considering future business models, participants stressed the need for unambiguous strategies that can accommodate the new norm of continued regulatory uncertainty. At the base should be a solid, stable earnings engine that balances stakeholders’ varying demands. Four strategic issues that need to be addressed are the institution’s geographic footprint, physical versus online delivery, strategic investments in IT, and how best to address emerging non-bank competitors. 

  • Addressing systemic regulation and macroprudential supervision (pages 37-42). Regulators acknowledged that their reform agenda has not yet reached much beyond traditional banking, other than reforms linked to short-term funding. Macroprudential and systemic supervision are missing in action, in part because such supervision is highly political when applied. Summit participants were surprised to hear that systemic regulators have done little beyond data collection, even though, in participants’ view, systemic risks continue to grow in the financial system. Moreover, regulators are only just beginning to address regulatory reform of the shadow banking system and emerging non-bank competitors. Additionally, little has been done to ensure that central counterparties, which have emerged as a new, regulatory-driven systemic risk, are sufficiently robust.

Banks and regulators realize that not only are they sailing uncertain seas, but they will be doing so for the foreseeable future. As yet, there is no distant shore in sight, but all constituents are committed to the journey. We encourage you to share these ViewPoints with your colleagues as a catalyst for discussion and to help your institution chart its course in these unfamiliar waters.