1、Corporate Governance in Banks “New Banking Guidelines and Corporate Governance between Industries”,David Carse Deputy Chief Executive Hong Kong Monetary Authority 26 April 2001,Introduction,My remit is to talk about our new banking guidelines and about corporate governance “between industries” In pr
2、actice, this means explaining why corporate governance is particularly important for banks as compared with other industries,The importance of corporate governance,Corporate governance is the system by which companies are directed and controlled It is a key issue in relation to listed companies beca
3、use of the separation between ownership and management which listing promotes (giving rise to the so-called “agency problem”) the need to protect minority shareholders Hence, the focus in corporate governance on the need for independent directors,The special case of banks,The above considerations al
4、so apply in relation to listed banks But there are other reasons why corporate governance is particularly important for banks, both listed and unlisted high leverage exposes banks to risk and places increased focus on the need to protect creditors (not just investors) banks are looking after other p
5、eoples money, but risk-taking is central to their activities there are potentially huge systemic problems if banks get into difficulties,The role of bad corporate governance in the Asian crisis,Weak corporate governance in Asian banks was one of the key factors in the Asian crisis many banks were co
6、ntrolled by owner-managers and the board of directors played little role banks were often parts of wider conglomerates and were used to fund other parts of the group or the owners (connected lending) management was not professional and lacked self-responsibility growth was more important than return
7、 on capital risk management was poor,The role of regulation,The potential for banking crisis explains why banks are regulated Traditionally this has been a top-down process regulators lay down rules and try to enforce them Increasingly, however, the trend is towards supervision rather than regulatio
8、n This places the main emphasis on the key role of the directors and senior management in ensuring that banks are prudently managed,The role of supervision,The above trend brings corporate governance to the fore recognises that banking is too complex to be run by regulators tries to encourage self-r
9、esponsibility in banks and to avoid moral hazard Role of the supervisor is to put in place certain minimum standards, to monitor the performance of management and to take action if management is not doing its job properly,How can good corporate governance be promoted by supervisors?,Approval of dire
10、ctors and chief executives of banks and removal of those that are not fit and proper Issuance of guidelines on corporate governance Measures to encourage market discipline through disclosure and transparency,Approval of directors and chief executives,All directors and chief executives of banks in Ho
11、ng Kong must be approved as fit and proper by the HKMA Relevant criteria include probity, reputation and character knowledge, experience, competence, soundness of judgement compliance record business record and other business interests Standards required vary according to the particular position to
12、be held,Approval of managers,HKMA also recently proposed that it should also have the power to approve “managers” (i.e. senior executives below the level of CEO) This attracted opposition from some banks who regarded it as too intrusive and as detracting from the prerogative of the board and CEO As
13、a result we have modified our proposal to require notification of the appointment of managers stipulate as one of the licensing criteria that banks should have adequate systems to ensure that managers are fit and proper,HKMA guideline on corporate governance,Corporate governance of Hong Kong banks i
14、s relatively good by regional standards as has been shown by their ability to survive the Asian crisis intact However, there were some weaknesses in the performance of the boards of a few local banks during the Asian crisis in these cases, the board of directors failed to play a proper leadership ro
15、le To address this situation, the HKMA issued a guideline on corporate governance in locally incorporated authorized institutions in May 2000 intended to reassert the role of the board of directors,Contents of the HKMA Guideline,Major responsibilities of the board ensure competent management approve
16、 objectives, strategies and business plans ensure that the banks operations are conducted prudently and within the framework of laws and board policies ensure that the banks affairs are conducted with a high degree of integrity Legal obligations of directors The use of auditors, including internal a
17、udit Specific requirements,Specific Requirements (1),The board should ensure that the bank establishes policies, procedures and controls to manage the various types of risk with which it is faced 8 types of risk specified by HKMA (i.e. credit, interest rate, market, liquidity, operational, reputatio
18、n, legal and strategic risk) board should approve relevant policies to manage these risks while senior management should put them into effect policies should not exist merely for forms sake (e.g. to satisfy the regulator), but should dictate how the bank is actually run in practice,Specific Requirem
19、ents (2),The board should ensure that the bank fully understands the provisions of section 83 of the Banking Ordinance on connected lending and establishes a policy on such lending section 83 of the Ordinance limits the unsecured advances of banks to connected parties (e.g. directors and their relat
20、ives) board should ensure that the bank fully understands its legal obligations and establishes a policy on connected lending according to the minimum standards specified in the Guideline,Specific Requirements (3),The board should ensure that it receives the management letter from the external audit
21、or without undue delay, together with the comments of management management letter should normally be received within 4 months from the financial year-end board and/or audit committee should ensure appropriate action is taken to address any weaknesses identified in the management letter copy of the
22、management letter should be given to the HKMA,Specific Requirements (4),The board should maintain appropriate checks and balances against the influence of management and/or shareholder controllers, in order to ensure that decisions are taken with the banks best interests in mind. board should have a
23、t least 3 independent non-executive directors to provide the necessary checks and balances and bring in outside experience banks should notify the names of their independent directors to the HKMA HKMA may require additional independent directors to be appointed,Specific Requirements (5),The board sh
24、ould establish an audit committee with written terms of reference specifying its authorities and duties audit committee should be made up of non-executive directors, the majority of whom should be independent Board meetings of a bank should be held preferably on a monthly basis but in any event no l
25、ess than once every quarter banks should keep full minutes of board meetings HKMA will require banks to provide it with a record of the number of board meetings held each year,Specific Requirements (6),Individual directors should attend at least half of board meetings held in each financial year and
26、 all meetings where major issues are to be discussed participation of directors in board meetings can be facilitated by video or telephone conferencing HKMA will monitor the attendance records of individual directors The HKMA will meet the full board of directors of each bank every year. HKMAs inten
27、tion is not to participate in board meetings but to strengthen communication between the HKMA and the banks at the highest level,The role of public disclosure in good corporate governance,As noted, the main responsibility rests with shareholders, directors and management Banking supervisors also pla
28、y a role Both of the above need to be supplemented by adequate public disclosure This facilitates private sector oversight of the risk-taking and financial condition of banks disclosure makes directors and senior managers more accountable to the various stakeholders increases the number of “watchful
29、 eyes”, thus reinforcing supervisory efforts,What should banks disclose? (1),Financial performance (breakdown of income and expense etc) Financial position (breakdown of on and off-balance sheet items, including capital position and liquid assets) Risk management strategies and practices Risk exposu
30、res (including quantitative and qualitative information on credit, market, liquidity, operational, legal and other risks),What should banks disclose? (2),Accounting policies Basic business, management and corporate governance information (including business strategies, group structure, board and man
31、agement structure, remuneration policies etc),Disclosure and transparency,Disclosure doesnt necessarily achieve transparency To achieve transparency, disclosure must enable users to properly assess the banks risk profile, financial condition and performance, business activities etc Therefore disclos
32、ure must be comprehensive relevant and timely reliable comparable material,The benefits of disclosure (1),Well managed banks should benefit, e.g. from improved access to capital markets and more secure funding at a lower cost Enable a more efficient allocation of capital between banks by helping sha
33、reholders to more accurately assess and compare the risk and return prospects of individual banks Enable a wider set of shareholders to participate effectively in the governance of the banks and make the corporate governance process more transparent,The benefits of disclosure (2),Enable depositors a
34、nd other creditors to better decide which banks they should place their money with and to curb excessive risk-taking Reduced risk of market disruptions - ongoing disclosure should make market participants less likely to overreact to negative information Strengthened incentives for banks to behave in
35、 a prudent and efficient manner,The benefits of disclosure (3),Reduction in systemic risk through better ability to distinguish higher risk banks from those that are fundamentally safe and sound should reduce the risk of contagion Reinforce supervisory guidance by making banks disclose when they are
36、 non-compliant Reduce moral hazard faced by supervisors,The problems of achieving transparency,The financial strength and riskiness of banks are inherently difficult to evaluate problem of how to value loan portfolios how to communicate meaningfully the risk appetite and quality of risk management o
37、f a bank difficulty of comparability of financial information o/a differences in accounting standards, supervisory guidelines, interpretation, enforcement limits on disclosure of customer information and proprietary information, e.g. on risk management techniques and strategies problem of keeping up
38、 to date with rapid changes in banks risk profiles,The problems of achieving market discipline,Market participants may not respond to information in a way that promotes financial stability publicly disclosed information may not be regarded as sufficiently credible participants may rely on official s
39、afety nets for protection retail depositors may be unable to monitor a banks condition via public disclosure shareholders may fail to discipline management management may lack incentives to behave prudently,Potential drawbacks of public disclosure,Cost of producing and providing information Market m
40、ay react more harshly than desirable when it becomes aware that a bank is weakened potential that bank may fail from liquidity problems even if it is solvent other banks may be affected through contagion, particularly in times of financial stress However, contagion risk should be reduced in an envir
41、onment of adequate ongoing public disclosure Also, the market incentives provided by disclosure should help to correct bank-level problems at an early stage,The role of supervisors in improving transparency (1),Supervisors should try to promote comparability, relevance, reliability and timeliness of
42、 information disclosed issue disclosure standards and guidelines or at least influence the debate on these Encourage the use of supervisory definitions and reporting classifications for public disclosure purposes to facilitate comparison of data Mediate if banks fail to agree privately on standards
43、in order to speed up the process of disclosure convergence,The role of supervisors in improving transparency (2),Publication of aggregate information received from banks Difficult to go beyond this to disclose information on individual banks, e.g. supervisory ratings would conflict with the supervis
44、ors role to maintain banking stability and make it more difficult to resolve individual banks problems could make supervisors more reluctant to make independent judgments about banks if these were to be made public could make it more difficult to obtain confidential information from banks,Bank discl
45、osure in Hong Kong,HKMA publishes annual guidelines on financial disclosure which have helped to upgrade standards in Hong Kong disclosure by banks in Hong Kong has been rated the best in the Region (e.g. by the IMF) But banks here cannot afford to relax other countries in the Region are catching up
46、 and even moving ahead in some respects (e.g. Thai banks now publish NPLs on a monthly basis) the international standards for disclosure are being raised all the time The New Capital Accord just announced by the Basel Committee on Banking Supervision is a prime example of this,The New Basel Capital
47、Accord,Will replace the present 1988 Accord in 2004 More risk-sensitive framework for calculating capital requirements More emphasis on banks internal methodologies More options for banks Disclosure and market discipline play a central role,Structure of the New Accord,Three pillars First Pillar - mi
48、nimum capital requirement Second Pillar - supervisory review process Third Pillar - market discipline All three pillars are intended to be mutually reinforcing,The Third Pillar,This aims to bolster market discipline by ensuring that market participants can better understand banks risk positions and
49、the adequacy of their capital disclosure mainly directed at wholesale counterparties The greater use of internal methodologies for calculating capital requirements has increased the need for disclosure ensure that these are exposed to public scrutiny knowledge of methodologies used by different inst
50、itutions will make comparability easier,Conclusions,Good corporate governance matters more for banks than for other companies This is acknowledged by the special role that supervision plays in the process But sound banks actually depend on three mutually reinforcing disciplines internal discipline of the bank itself external discipline of the supervisor external discipline of the market,
