CEBS publishes summary of proportionality workshop

The Committee of European Banking Supervisors (CEBS) and three European Banking Associations (the European Association of Co-operative Banks, European Banking Federation, and the European Savings Banks Group) jointly organised a workshop on the principle of proportionality on 11 January 2007 in London. The objective of the event was to bring together banking supervisors and industry representatives to have an open and informal exchange of views on the application of the principle of proportionality.

Proportionality is a key concept in the context of implementation of the new, complex Basel II / CRD rules. The CRD, as other directives, is covering all credit institutions and investment banks, but the diversity of EU banking market is acknowledged through the principles of proportionality, which requires supervisors to take into due account several factors, including for instance the nature, scale and complexity of the business, or the systemic relevance of an entity. CEBS Guidelines – in particular those on the supervisory review process under Pillar 2 (GL03) and on supervisory cooperation for cross-border groups (GL09) – further elaborate on the concept. Industry responses to CEBS consultation papers repeatedly stressed the relevance of the principle of proportionality. Industry representatives at the workshop were therefore asked to present their input on this topic.

Learning process. Participants to the workshop stressed that we are still in the early stages of a momentous shift toward risk-based supervision: the CRD is still being implemented and the supervisory review process under Pillar 2 of the new framework is a new concept for a number of supervisors and market participants. Within this framework, a more precise definition and application of the principle of proportionality will have to be built through time, via a learning process involving both supervisors and supervised institutions.

Scope of application. The relevance of the principle of proportionality in the application of Pillar 2 was stressed by all participants. Specific reference was made to the need to apply the guidance on internal governance in a proportionate and principles-based manner. Representatives of small, non listed banks argued that the principle of proportionality should be applied also to the disclosure requirements envisaged under Pillar 3 of the new framework. Some participants supported a wider application of the principle, also beyond the CRD, for instance in the definition and application of requirements on large exposures and in the supervision of liquidity risk.

The perspective of small institutions. The discussion focused first on the usefulness of minimum standards or guidance for small banks issued by CEBS or by national authorities. The following positions emerged:

• a number of market participants expressed the opinion that minimum guidance/standards from supervisors could prove helpful, especially in the new areas of the supervisory framework. It was also stressed that this could enhance legal certainty and simplify the compliance process for small banks;
• others market participants stressed the responsibility of the banks' management to develop their own approaches and argued that supervisors should maintain a more detached role, by assessing the approaches developed by banks;
• all market participants stressed that supervisory approaches should be principle-based so as to allow for enough flexibility to encompass the wide diversity of practices of the industry. Also those advocating the need for minimum standards argued that no detailed and prescriptive rules should be introduced and suggested that supervisors should limit themselves to providing examples of good practices, without the ambition to indicate a best practice to which all market participants should abide.

Small banks also pointed out that the application of the proportionality principle should never boil down to substituting Pillar 2 requirements with specific capital add-ons for small entities.

The timeline for the transition to the new regulatory setting was considered by small banks as an important area for the application of the principles of proportionality, in order to allow for a smooth learning process of a very complex package.

The perspective of complex banking groups. Representatives of some complex banking groups emphasised that risk management is the own responsibility of the bank, and no minimum standards are needed. It was argued that supervisor should rely on the overall risk management structure of large and sophisticated players, with accompanying regular reporting, and limit its role to the issuance of high level principles and dialogue with the banks. CEBS representatives shared the view that the management should take full responsibility for the management of risks and the definition of adequate capital levels, but stressed that the supervisors have a responsibility to closely monitor and assess the outcome of this process.

Representatives from large groups also argued that the principle of proportionality should lead to a more widespread distinction between standardised approaches, available for smaller and less complex institutions, and advanced ones, based on the internal approaches developed by more sophisticated players. It was also argued that the principle could be stretched to encompass an understanding of supervisors for the complexity of the compliance process and the (potentially disproportionate) burden of regulatory requirements for internationally active groups.

Role of CEBS and national authorities. There was some discussion on the respective role of CEBS and national authorities in further fleshing out the principle of proportionality. It was argued that if minimum standards are to be developed, this should probably occur at the national level, in order to take into account the specific context of local markets. On the other side, it was pointed out that this could give rise to level playing field concerns. The framework for supervisory disclosure developed by CEBS could help all interested parties to follow closely developments in the application of the principle of proportionality. At least in a second stage, CEBS could review the approaches developed at the national level and consider whether there is a case for supervisory convergence at the EU level.

Maintaining an open and constructive dialogue. It was stressed that proportionality is about striking a balance between objectives that can be perceived as contradicting each other: on the one hand, the need to avoid undue supervisory interference and adopt flexible supervisory practices that leave market participants with sufficient leeway to develop their own approaches; on the other hand, the need to ensure level playing field, across Member States and between different categories of market participants, and legal certainty. An open and constructive dialogue was considered essential to reconcile these objectives in a pragmatic fashion.