Session: TWENTY
TWO

MBF-705
LEGAL AND REGULATORY
ASPECTS OF BANKING
SUPERVISION
OSMAN BIN SAIF


Summary of Previous Session
•

•

•

•

•

Foundations of a Sound supervisory
system
Supervisory Powers
Institutional pre-conditions for dealing with
weak banks
Identification of weak Banks
Supervision Methods for identification of
weak banks
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Agenda of this Session
•

Corrective actions for weak Banks

•

General principles for corrective action

•

Guiding principles for banks resolution
policy

•

Resolution techniques

•

Conclusion: Dealing with Weak Banks

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Corrective actions for weak
Banks
•


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Corrective actions are those actions
required to deal with deficiencies and
change behaviour in a weak bank.
They can be implemented voluntarily by
the bank under the supervisor’s informal
oversight or, if necessary, via formal
supervisory intervention.

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Corrective actions for weak
Banks (Contd.)
•

Resolution techniques, are those that are
employed when failure is imminent and
will typically involve stronger supervisory
intervention and some change to the legal
structure and ownership of the bank.

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Corrective actions for weak
Banks (Contd.)
•


Under normal circumstances, it is the
responsibility of the Board of Directors and
senior management of the bank, and not
of the supervisor, to determine how the
bank should solve its problems.

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Corrective actions for weak
Banks (Contd.)
•

However, should the bank engage in
unsound banking practices or breach
statutory or other key supervisory
requirements, for example, capital
adequacy and liquidity requirements, the
supervisor should have powers to compel
the bank to take necessary remedial
action – and a statutory responsibility to
ensure that the remedial action taken is
appropriate.
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Corrective actions for weak
Banks (Contd.)
•


•

The role of the supervisor is to guide and
steer the bank in its rehabilitation.
This is consistent with the widely shared
supervisory objectives of financial stability,
minimum disruption to depositors and
other bank counterparties and in many
countries promoting economic activity.
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Corrective actions for weak
Banks (Contd.)
•

At the extreme, supervisors should have
powers to close the bank.

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General principles for corrective
action
•

•

In essence, the following should guide
supervisors in implementing corrective

action:
• The fulfilment of supervisory objectives,
including financial stability and depositor
protection.
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General principles for corrective
action (Contd.)
•

• Corrective action should be timely. The
bank and the supervisor should take
prompt action to prevent the problems
from growing and exacerbating the
financial weakness of the bank.

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General principles for corrective
action (Contd.)
•

• Management commitment. The
management of the bank must be
committed to the action plan for corrective
action. Otherwise, the replacement of
management should be considered.


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General principles for corrective
action (Contd.)
•

•

• Proportionality. Corrective actions should
be appropriate to the circumstances and
scale of the problem.
• Comprehensiveness. Both causes and
symptoms of weakness must be
addressed by the corrective programme.
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Resolution issues and exit
•

This general principles for dealing with
banks that encounter major difficulties, the
various resolution techniques when failure
is imminent, and closure of the bank in
event of failure.

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Resolution issues and exit
(Contd.)
•

•

Resolution techniques require specialised
and legal skills.
Supervisors that do not possess the
required skills may need to hire experts to
assist them.

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Guiding principles for banks
resolution policy
•

•

The principles for dealing with weak banks
are elaborated below to guide supervisors
in bank resolution policy and the choice of
the appropriate technique.
It is recognised that, in some
circumstances, not all of these principles
can be achieved simultaneously:

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Guiding principles for banks
resolution policy (Contd.)
•

•

Bank failures are a part of risk-taking in a
competitive environment. Supervision
cannot, and should not, provide an
absolute assurance that banks will not fail.
The objectives of protecting the financial
system and the interests of depositors are
not incompatible with individual bank
failures.
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Guiding principles for banks
resolution policy (Contd.)
•

•

•

The occasional bank exit may help provide
the right incentive balance.
To deal with these, there should be welldefined criteria for determining when a

bank requires intervention or closure (legal
or economic).
When such criteria are met, the supervisor
should take action promptly.
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Guiding principles for banks
resolution policy (Contd.)
•

Private sector solutions are best. A
private sector solution – one that does not
impose a cost on taxpayers and
introduces the least distortions in the
banking sector – is in line with the least
cost criterion.

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Guiding principles for banks
resolution policy (Contd.)
•

•

•

This usually entails the takeover by a

healthy institution that finds ownership of
the bank attractive.
The supervisor has a role to play, if
necessary, to encourage a private sector
solution.
Public funds are only for exceptional
circumstances.
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Guiding principles for banks
resolution policy (Contd.)
•

Expedient resolution process. Weak
banks should be rehabilitated or resolved
quickly and banking assets from failed
institutions should be returned to the
market promptly, in order to minimise the
eventual costs to depositors, creditors and
taxpayers.

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Guiding principles for banks
resolution policy (Contd.)
•

The longer a bank or banking asset is held

by an administrator, the more value it will
lose. Experience has shown that if left
unchecked, the resolution of weak banks
may drag on for a long time.

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Guiding principles for banks
resolution policy (Contd.)
•

Preserving competitiveness. In case of
resolution by merger, acquisition, or
purchase-and-assumption transaction, the
selection of an acquiring bank should be
done on a competitive basis.

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Guiding principles for banks
resolution policy (Contd.)
•

An additional factor to consider is whether
competition for banking services would be
adversely affected. Any sweetener to
facilitate deals should not distort
competition and penalise the more

efficient banks.

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Guiding principles for banks
resolution policy (Contd.)
•

Minimise disruption to market
participants. A bank closure may disrupt
the intermediation of funds between
lenders and borrowers, with potential
negative effects on the economy.
Borrowers may find it difficult to establish
a relationship with a new bank and may
find existing projects threatened if
expected bank credits are not forthcoming.
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