Out-Law News | 06 Aug 2012 | 9:10 am | 2 min. read
A consultation (60-page / 472KB PDF), which is open until 24 September, considers the risks associated with four broad categories within the sector - investment firms, central counterparties (CCPs), insurance companies and other financial market infrastructure firms, such as payment systems. While it does not assume that every category will require a formal resolution regime, the Government intends to consider the "most effective way" to deal with potential failures which are likely to be of wider impact.
Mark Hoban, Financial Secretary to the Treasury, said that the paper followed on from the comprehensive banking reforms currently being taken forward by the Government, including the regulatory reforms contained in the draft Financial Services Bill and the work being done to take forward the recommendation of the Independent Commission on Banking (ICB) to ring-fence banks' customer-facing activities from their riskier investment functions.
"The proposals set out in today's consultation complement the ongoing work the Government is carrying out to reform the UK's banking sector," Hoban said. "This consultation underlines the Government's commitment to maintaining the UK's position as a pre-eminent global financial centre, while also ensuring that the financial services sector is able to provide essential services to the wider economy without posing a risk to financial stability."
The paper said that the failure of certain investment firms, CCPs and financial market infrastructures - the networks that connect market participants to each other - could be just as disruptive as the failure of large banks. It cited the collapse of investment firm Lehman Brothers in September 2008 and its disruptive effect on financial markets as evidence of this. The case for insurance companies was, it said, "less clear cut", although in some cases inter-linkages with other financial institutions could pose a threat.
For each category, it said, it was likely that "only some, if any" of each type of firm would actually be systemic and that it was possible that other types of non-bank which fell outside of the categories, such as hedge funds or other finance companies, should also be considered.
The paper does not set out criteria for deciding which institutions will be categorised as "systemic". For each type the Government intends to consider the most appropriate type of policy response, which could mean the extension or strengthening of an existing administration or 'run off' process rather than the introduction of a new regime. In the insurance sector struggling firms will usually enter a 'run off' period, during which they stop underwriting new business, before being closed completely.
The Government can already wind up banks using the Special Resolution Regime (SRR), established by the Banking Act in 2009. The SRR gives the Bank of England, Treasury and regulators the power to transfer a bank into temporary public ownership, prepare it for sale or put the bank or part of it into administration or insolvency. A Special Administration Regime (SAR) for investment firms was introduced in February 2011, and used to wind down the failed MF Global Limited the following October.
The European Commission has proposed an EU-wide approach to deal with struggling banks and investment funds in the form of a draft Resolution and Recovery Directive (171-page / 525KB PDF) (RRD). The draft RRD will require both banks and investment funds to draw up 'recovery plans' setting out the measures they will take to restore viability should their financial situation deteriorate, while national regulators will prepare 'resolution plans' to enabling them to deal with firms that are no longer viable. Although the Government said that it supported these discussions, it added that the timetable for the implementation of any measures was "highly uncertain".
"Given the risk to stability presented by the failure of a systemic firm, the Government intends to prepare to legislate domestically on a more accelerated timetable, to provide a resolution regime for systemic investment firms," the paper said.