Annex 5.B Consolidated Supervision [4] [5]
• Consolidated supervision allows financial sector supervisors to better understand the relationship among the different legal entities so they can assess the potential for adverse developments in one part of the group that may affect the operation of others. This assessment is done by monitoring and evaluating the additional risks posed to regulated financial institutions by affiliated institutions. It is important to stress, however, that consolidated supervision is a complement to, not a substitute for, single entity supervision. The supervisor responsible for consolidated supervision will, inter alia, have to be cognizant of the effect of the policies of the various supervisors of entities within the group.
Consolidation of accounts is a necessary prerequisite for obtaining meaningful financial information on groups of corporations and for supervising banks on a consolidated basis. Taking into account the groupwide financial exposures and intragroup financial relationships allows a better assessment of the implication of group membership for the financial condition of individual group members.
The consolidation of financial accounts, however, is not sufficient to capture many of the risks facing the bank through group membership. For example, consolidated financial accounts do not provide qualitative information about the group, such as the quality of management or internal controls. Similarly, some group entities, for technical reasons, may not be subject to consolidation in the financial accounts. A robust consolidated supervision program must thus incorporate both qualitative and quantitative analyses of the group’s risk profile.
In many other jurisdictions, the concepts of consolidation and supervision on a consolidated basis are still not firmly established. The legal framework is still insufficiently developed; the concept of “group” and the question of how to deal with not only limited liability but also communalities of interest between corporations belonging to a group still need to be clarified. Also, the distinction between consolidation of accounts and supervision on a consolidated basis need to be kept clearly in mind. Those two concepts are clearly connected, but each poses different legal questions.
Effective consolidated supervision requires close cooperation among domestic sectoral supervisors. Similarly, the administrative and management arrangements within the various responsible authorities need to ensure the good coordination and the smooth exchange of information among home or host regulators abroad. Those exchanges will often be conducted within the auspices of a memorandum of understanding (MOU). However, the existence of an MOU will not in itself ensure that relevant information is provided. Much will depend on a relationship of trust being developed between the different regulators so information is exchanged proactively and in a timely manner.
The importance of assessing wider risks from other group members to the regulated entity is stressed in the core principles for banks, securities firms, and insurance companies, although there are differences in emphasis in the respective approaches. Gaps could expose a major bank or other financial institution within the group entity—and, hence, expose the system at large—to unacceptable risks from unregulated group entities. Similarly, overlaps could mean a diversion of scarce regulatory resources, either imposing unnecessary burdens on both regulated firms and taxpayers or, even more seriously, leading to an underfunding of regulatory effort in other areas of potentially high systemic risk.
