Basel Committee toughens bank governance principles

Principles aim to instil stronger risk governance in banks, after FSB peer review identified room for improvement; focus on responsibility of boards and ‘three lines of defence’
basel-centralbahnplatz-tower
The BIS tower

The Basel Committee on Banking Supervision today set out 13 revised and toughened principles for good risk governance at banks.

The principles, published as a consultative document, aim to help banks and supervisors instil good governance. The document clarifies the responsibilities of the board, explores the roles of the ‘three lines of defence', and makes recommendations for how supervisors should go about assessing governance.

The principles build upon a previous document issued by the Basel Committee in 2010. In 2013, the Financial Stability Board conducted a peer review to assess the extent to which banks had implemented those principles, and found "more work is needed" by both national authorities and banks.

Today's principles emphasise the "critical" role of a bank's board and risk committees in ensuring a good risk culture permeates the whole organisation. Boards have "ultimate responsibility" for risk management, the Basel Committee said, and should lead the way by establishing the correct "tone at the top".

Part of this involves oversight of a strong risk governance framework, elements of which include a strong risk culture, well-defined choices regarding risk appetite, and clear expectations for risk management and risk controls.

Regulators have been placing an increasing emphasis on board responsibility, with some jurisdictions imposing tough conditions on those at the top of organisations.

The UK's Senior Persons Regime places the burden of proof with the accused, and rules on clawback mean bankers could see their bonuses taken away as many as seven years after they are awarded.

Some senior bankers have already quit in protest at the rules, and some have expressed concerns that the best executives will be unwilling to take on board positions.

Another important element of the principles is in defining the so-called ‘three lines of defence'. The first line is the bank's "business units" – those individuals actually taking risky decisions. The second line represents risk management and compliance. The third is a bank's internal audit function.

The Basel Committee stressed the second and third lines in particular should be properly "positioned, staffed and resourced" so as to carry out their responsibilities effectively and independently.

Individuals operating in the first line should have a clear picture of their firm's risk appetite, and therefore how much risk it is appropriate to take on. They should "acknowledge and manage" the risks they incur.

The Basel Committee admitted there were "significant" differences across jurisdictions in terms of legal and regulatory systems, as well as the structure of bank boards, making it difficult or impossible to apply the principles everywhere in totality.

"Each jurisdiction should apply the provisions as the national authorities see fit," the committee said. "In some cases, this may involve legal change. In other cases, a principle may require slight modification in order to be implemented."

The 13th and final principle sets out the role and responsibilities of supervisors. Supervisors should clearly articulate what they expect of banks, ensure they have regular interactions with bank boards, and should call for remedial action where necessary.

As such, jurisdictions should give their supervisors the appropriate tools for the job, the Basel Committee said. Supervisors should be able to "require improvement steps and remedial action", which might include the ability to "compel changes" in a bank's policies, or its senior management.

The Basel Committee invites comment on the principles, which should be submitted by January 9.

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