Issues in Supervision of International Financial Conglomerates

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Issues in Supervision of International Financial
Conglomerates

• Jan Brockmeijer
• Director Financial Stability Division
• De Nederlandsche Bank
• June 2, 2005

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Outline

• Special challenges in supervising conglomerates
• Contagion
• Complexity
• Consistency
• How we deal with this in the Netherlands
• Integrated financial stability analysis
• Integrated regulatory policy
• Integrated teams of examiners at the group level

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1. Challenges in supervising conglomerates
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1.1 Diversification

• Are conglomerates different from separate
  entities?
• Legal firewalls suggest separation
• Diversification implies less risk
• But evidence on diversification is mixed
• Oliver Wyman report 5-10 of capital reserves
• OECD study ex post revenue benefits limited at
  best
• Diversification in stress periods may be limited

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1.2 Contagion

• Legal firewalls are permeable
• Drexel Burnham Lambert Group market did not
  distinguish between solvent and insolvent parts
• Reputation risk

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1.3 Complexity

• Markets may think the group is Too-big-to-fail
  or Too-complex-to-fail, causing moral hazard
• Conglomerates in particular are subject to
  differing supervisory and legal regimes

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1.4 Consistency or regulatory differences

• Double gearing
• Risk shifting to minimise capital requirements
• Risks may, however, end up in areas that are
  better placed to bear them
• If not, shifting risk from a bank to an insurer
  may be a macro-micro trade-off

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2. How we deal with this in the Netherlands
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2.1 Integrated financial stability

• Comprehensive financial stability analysis
• Interlinkages between banking, insurance, via
  conglomerates especially important
• Examples of analyses
• Cross-sectoral impact of low interest rates and
  flat yield curve
• Hedge fund exposures
• Credit risk transfer

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2.2 Integrated regulatory policy department

• Exchange of knowledge and expertise
• Common principles risk based, three pillar
  approach

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2.3 Integrated teams of examiners

• Regular meetings with top management at group
  level on strategy, risk management, internal
  audit etc.
• Cross-sectoral risk analysis tool FIRM which
  aggregates risks at group level
• Group wide specific investigations e.g. customer
  due diligence and internal audit
• Pragmatic and close co-operation with foreign
  supervisors

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3 Conclusion

• Why are conglomerates special?
• Contagion, Complexity, Consistency
• What do we do about this in the Netherlands?
• Integrated prudential supervision
• Allows for greater consistency at three levels
• Macro-prudential
• Micro-prudential regulation
• Micro-prudential supervision