## cr17116 ## Source details **Canonical URL:** [cr17116](https://www.imf.org/-/media/files/publications/cr/2017/cr17116.pdf) ## Other formats - [Markdown version](/-/media/files/publications/cr/2017/cr17116.pdf.md) - [Structured JSON version](/-/media/files/publications/cr/2017/cr17116.pdf.json) --- ### EXECUTIVE SUMMARY — introduction and key findings - Several unique considerations apply to contingency planning and crisis management in New Zealand: dependence on self-discipline, market discipline and low intensity prudential supervision; strong interdependence with Australia as the four systemically important New Zealand banks are subsidiaries of large Australian banks; successive New Zealand governments have elected not to introduce deposit insurance. - The current resolution regime has shortcomings relative to the Financial Stability Board’s Key Attributes of Effective Resolution Regimes for Financial Institutions. - New Zealand pioneered bank creditor recapitalization concepts that evolved into the current Open Bank Resolution (OBR) policy (bail-in concept): seizing a failing institution and reducing creditor claims (“haircut”) to absorb losses. - Practical issues remain for OBR: - Since 2013 banks must have IT capability to freeze portions of liabilities; contingency planning focuses on closing a bank, appointing a statutory manager, and reopening the next day with prescribed liabilities frozen. - Legal powers to impose losses on creditors post-appointment are ambiguous. - Oversight and resolution of nonbank institutions has evolved after failures of more than 60 finance companies and insurers between 2006 and 2011, leading to new RBNZ mandates for insurance companies and regulation of nonbank deposit-takers (NBDTs). ### INSTITUTIONAL ARRANGEMENTS, COORDINATION, AND PREPAREDNESS — structure, roles, and gaps - Roles: - RBNZ: prudential supervisor (including macroprudential policy), lender of last resort, oversight responsibility for designated payment systems. - FMA: market conduct regulator; jointly with RBNZ oversees securities settlement systems that are not pure payment systems. - Treasury: lead advisor to government on economic, financial, and regulatory management. - CoFR (Council of Financial Regulators): RBNZ, FMA, Ministry of Business, Innovation and Employment, and Treasury; meets quarterly; chair rotates between RBNZ and FMA. - CoFR functions include sharing strategic priorities, identifying financial system issues, coordinating cross-agency responses, and maintaining a regular risk register. - Preparedness arrangements: - No standing domestic crisis management committee; incident-specific crisis committees are formed when needed. - RBNZ would trigger committee formation if intrusive Part V powers might be needed; Minister would trigger committee formation if Public Finance Act 1989 powers (e.g., provision of a guarantee) might be required. - Crisis committee is advisory (not decision-making); decision-makers depend on the crisis (could include RBNZ, Minister of Finance, FMA). - Coordination with Australia: - Home-host relationships are well developed; legislation in both countries requires taking into account potential cross-border financial stability impacts when taking supervisory and resolution actions. - The Memorandum of Cooperation on Management of trans-Tasman Bank Distress (MOC) should be expanded to include insurance and FMIs. ### DEPOSITOR PROTECTION and OBR-related considerations - New Zealand has chosen not to introduce deposit insurance. - Consider legislative amendment to establish a limited depositor preference to provide legal certainty for the de minimis deposit exemption from haircutting in OBR. - A suitable de minimis amount could: provide some benefits of deposit insurance, mitigate runs, permit purchase-and-assumption type resolutions, and enhance OBR credibility by reducing pressure for bailouts (citing past extension of Crown Retail Deposit Guarantee Scheme to finance companies). - The credibility of OBR would be enhanced by legislative foundation for key elements rather than relying on policy: - Establish depositor preference to an appropriate limit. - Provide specific powers to bail-in (haircut) depositor and other creditor claims to remove ambiguity around a statutory manager “having regard to” creditor claim priorities. - Banks have had IT requirements since 2013 to enable freezing of liabilities as part of OBR implementation. ### LENDER OF LAST RESORT, LIQUIDITY FACILITIES, AND SUPERVISORY POWERS - RBNZ tool-kit: - RBNZ has well-designed standing liquidity facilities and introduced three new facilities during the global financial crisis; these remain available and could be reintroduced on short notice. - Supervisory powers: - RBNZ has a wide range of remedial supervisory powers for banks, insurance companies and NBDTs. - For banks, the consent of the Minister of Finance is currently required for issuance of directions. - Recommendation: align the RBNZ Act 1989 with IPSA 2010 and the NBDT Act 2013 by removing the Minister’s role in remedial supervisory action; same principle to apply to FMI oversight regime implementation. ### RESOLUTION REGIME — observations, legal framework issues, and recommended reforms - Shortcomings exist in current resolution regime relative to Key Attributes; gaps can be addressed through legislative and approach revisions without necessarily introducing deposit insurance. - Statutory management regime is the established legal foundation; recommendations focus on enhancing this regime. - Specific legal issues and reform proposals: - Statutory manager can freeze creditor claims but lacks explicit power to impose losses on creditors in resolution. - RBNZ Act should be revised to: - Establish objectives for resolution including consideration of depositors and the broader public interest. - Grant the RBNZ the same power as IPSA to apply for appointment of a liquidator. - Require post-reporting by RBNZ on performance against resolution objectives to enhance accountability (in both the RBNZ Act and IPSA). - Clarify that RBNZ is the sole resolution authority; require Ministerial consent only for resolutions with fiscal or systemic implications. - Provide express bail-in powers to the statutory manager. - Introduce a special resolution regime paralleling IPSA for nonbank deposit takers. - Provide a legal mechanism to temporarily exempt resolution-sensitive information from continuous disclosure requirements for listed companies. - Pursue including in the MOC provisions for Australian authorities to ensure continued provision of services to New Zealand subsidiaries by the parent bank or other group members. ### RESOLUTION TOOLKIT — elements and operational readiness - Operational readiness steps recommended: - Further develop rosters of potential statutory managers and personnel from government, agencies and private sector to be mobilized in a crisis. - RBNZ to continue documenting procedures required for appointing a statutory manager, OBR, and other resolution options. - Treasury to complete “shelf” agreements that may be required for provision of a Crown guarantee or other support in a crisis. - Preposition logistics and communications plans. - Test domestic preparations in simulation exercises. ### MAIN RECOMMENDATIONS (selected) - Strengthen domestic crisis management arrangements: - Reach ex ante agreement on roles, responsibilities and decision-making processes. - Preposition logistics and communications plans. - Complete initial work on plans to mobilize resources in a crisis. - Complete procedural guidance for appointment of a statutory manager, implementation of OBR and other resolution tool-kit options. - Test domestic preparations in simulation exercises. - Timing: MT. Authorities: CoFR. - Revise the trans-Tasman MOC to specifically include insurance and FMIs. - Timing: MT. Authorities: CoFR. - Reconsider the merits of deposit insurance, or if policy support remains absent, introduce a limited depositor preference to provide legal certainty for the de minimis exemption contemplated in OBR. - Timing: MT. Authorities: Treasury/RBNZ. - Revise the RBNZ Act in line with IPSA and the NBDT Act to remove the role of the Minister in issuing directions. - Timing: MT. Authorities: RBNZ/Treasury. - Revise the RBNZ Act to provide greater clarity and certainty in resolution (objectives, accountability reporting, sole resolution authority, Ministerial consent only for fiscal/systemic implications, clarify Treasury role, express bail-in powers). - Timing: MT. Authorities: RBNZ/Treasury. - Provide a legal foundation to exempt from continuous disclosure requirements information on resolution if such disclosure would be harmful to effective resolution. - Timing: ST. Authorities: CoFR. ### CASE STUDY — The failure of a general insurance company subsequent to the Canterbury earthquakes (AMI / Southern Response) - AMI was the fourth largest general insurer in New Zealand and held around one third of all home and contents insurance in Christchurch. - Timeline and government support: - March 9, 2011: AMI approached the government advising it was in financial distress due to claims exposure. - April 7, 2011: Government announced support package comprising an agreement to purchase, as needed over 5 years, up to NZD 500 million convertible preference shares. - December 2011 – April 2012: Restructuring—continuing business sold to Australian-owned insurer IAG; Canterbury claims and related reinsurance remained in AMI, renamed Southern Response, now a wholly Crown-owned entity. - Agreed government support for Southern Response was increased to NZD 1.25 billion from the original NZD 500 million support package announced for AMI. - The full extent of AMI’s Canterbury liabilities has yet to be determined. - Institutional response and gaps: - IPSA had been enacted but RBNZ had no formal powers because AMI was not a licensed insurer. - Treasury–RBNZ information sharing and advisory forum enabled mutual support. - Highlighted need to strengthen prudential regimes for insurers and NBDTs and complete legal framework for FMIs. - Recommended actions drawn from AMI experience: - Strengthen domestic crisis management arrangements (meeting agendas, logistics, communications). - Advance work addressing Auditor General recommendations on the Crown Retail Deposit Scheme (framework for distressed institutions, contingency plans). - Task CoFR with responsibility for system-wide crisis preparedness via legislation or revised terms of reference. - Clarify decision-making procedures between Treasury and RBNZ. ### OPERATIONAL ISSUES, TESTING, AND CROSS-BORDER COORDINATION - Contingency plans should be periodically tested in domestic simulation exercises covering: - determination of systemic importance; - decision-making processes including the role of the Minister; - practical implementation challenges of OBR. - Operational issues identified: - Need to resolve lack of clarity around payments “in flight”; legislative amendment being considered to clarify point at which a transaction affects bank liability to customer. - Potential need on short notice for large amounts of bank-notes to meet customer withdrawals. - Cross-border coordination: - Cooperation between New Zealand and Australian authorities is well-established; the Trans-Tasman Banking Council (TTBC) was established in 2005. - 2006 amendment of the RBNZ Act and parallel Australian legislation requires authorities to take into account potential impacts on financial stability in the other jurisdiction. - RBNZ–APRA MOC revised in 2012 to include insurance. - Recommendations: recast and possibly rename the TTBC to reflect broader objectives; revise MOC to expand scope to include resolution of insurance companies and FMIs. - Remaining challenges include no ex ante consensus on single- or multiple-point-of-entry resolution strategies. - A second trans-Tasman crisis simulation exercise was planned for 2017. ### DEPOSIT PROTECTION, CROWN RETAIL DEPOSIT GUARANTEE SCHEME, AND POLICY RECONSIDERATION - Historical scheme: - Crown Retail Deposit Guarantee Scheme announced on October 12, 2008 and continued until end-2011. - The scheme covered 96 institutions, including 12 banks, 60 nonbank deposit-takers, and 24 collective investment schemes. - Nine finance companies failed, resulting in an estimated net cost to the Crown of approximately NZD 600 million to compensate 42,000 depositors after recoveries and fees. - By comparison, The Co-operative Bank (smallest bank pre-positioned for OBR) has about 150,000 customers and 1.8 billion in deposits. - Key considerations: - New Zealand governments have consistently decided not to introduce deposit insurance; merits should be reconsidered. - If deposit insurance is not introduced, establish a limited depositor preference at an appropriate level to provide some benefits of deposit insurance (mitigate runs, facilitate minimally disruptive resolutions). - Box 2 lessons: need for earlier and documented formal planning; usefulness of experience elsewhere; need for effective monitoring and oversight of included institutions; need for advance planning to deal with failure of an institution. - Evidence: - Recent evidence from New Zealand, consistent with experience elsewhere, calls into question the moral hazard argument against deposit insurance. - Experience suggests reconsideration of depositor protection could add to the credibility of OBR if implemented with an appropriate limit. ### 2011 Parliamentary Commerce Committee inquiry into finance company failures — findings and implications - Financial literacy and governance: - Depositors often had no understanding of the risks they were assuming; recommendations to enhance financial education. - Governance shortcomings addressed in the NBDT Act; a new prudential regime intended to enforce governance standards. - Wholesale funding and market discipline: - Dependence of New Zealand banks on wholesale funding provides market discipline and would not be undermined by deposit insurance. - Development of “self-securitization” programs: banks can manufacture RMBS as eligible collateral to access RBNZ liquidity facilities. - OBR and depositor impacts: - OBR offers the only minimally disruptive resolution option, other than bail-out, in the New Zealand tool kit; non-pre-positioned institutions likely face liquidation. - Political willingness is required for OBR credibility; absence of deposit protection means OBR would result in immediate freezing and likely partial loss of deposits. - RBNZ public discussions suggested a de minimis exemption of NZD 500; analysis shows NZD 10,000 per depositor would exempt 80 percent (by number of accounts) of bank deposits from freeze and ultimate loss in OBR. - NZD 10,000 is low compared to typical deposit insurance limits (two-to-three times per capita GDP). - Pre-establishing the de minimis amount in legislation and legislating depositor preference would provide certainty akin to deposit insurance. ### RESOLUTION PROCESS, STATUTORY MANAGEMENT, AND LEGAL OPTIONS - Resolution initiation and roles: - RBNZ identifies conditions specified in RBNZ Act Section 113 (1) warranting appointment of a statutory manager under section 117. - RBNZ recommends initiation to the Minister of Finance; Minister seeks Order-in-Council appointing statutory managers. - Statutory manager appointment requires Ministerial consent to the recommendation by the relevant authority (RBNZ or FMA). - Appointment immediately imposes a moratorium on legal proceedings. - Statutory manager powers and duties: - All powers of the board and management vest in the statutory manager; may exercise many powers of a liquidator. - Powers include transfer of business to a corporation formed by the statutory manager, prohibit removal of assets from New Zealand, suspend payments, pay creditors, compromise claims, sell assets, or transfer assets and liabilities to a new institution. - Statutory manager must “have regard to” considerations in Section 121 including maintaining public confidence, avoiding significant damage to the financial system, resolving difficulties quickly, preserving position of creditors to the extent not inconsistent with maintaining confidence and avoiding damage, and advice of the RBNZ. - Section 121A requires explicit RBNZ approval if a proposed action is likely to have a detrimental effect on financial system stability in Australia. - Section 142 allows statutory manager to apply to the High Court for direction; could be sought independently of RBNZ directions. - Ambiguities and recommendations: - Collective reading of Sections 117–121A and Section 142 is ambiguous regarding the identity of the resolution authority; clarity needed on whether RBNZ or statutory manager is the resolution authority in varying circumstances. - Recommend specifying in law that RBNZ will direct the statutory manager, having regard to recommended resolution objectives (protection of depositors and the public interest, and maximizing recoveries), in addition to financial stability. - Add to the RBNZ Act a parallel provision to IPSA permitting the RBNZ to apply for appointment of a liquidator of an insurance company. - Revise NBDT Act to mirror IPSA: provide RBNZ power to apply for appointment of a liquidator and to recommend the appointment of a statutory manager. ### LEGAL CHALLENGES, PAYMENTS, AND FINANCIAL CONTRACTS IN RESOLUTION - Legal constraints: - No provision in New Zealand law to provide a breathing space with respect to financial contracts when resolution powers are exercised; entry into statutory management and freezing of creditors’ claims would likely trigger insolvency remedies including contract acceleration or exercise of early termination rights. - Rights of shareholders and “frozen” liability holders are not extinguished under current law. - No express power for statutory manager to haircut claims or convert debt into equity; transfer of business to a new entity would be used to effect write-downs—these powers are untested and may face legal challenge. - Payment systems and FMIs: - For New Zealand-based FMIs, statutory manager powers and payment system rules would facilitate continued participation by a bank under OBR even if the bank fails to settle on entry into statutory management. - For non-New Zealand-based FMIs, selective unfreezing of claims would be used to permit settlement of outstanding obligations to ensure continued access. - Crown guarantee of liabilities incurred after entry into statutory management likely required by both domestic and foreign counterparties for continued participation in payment systems. ### BAIL-IN, HIERARCHY OF CLAIMS, AND SAFEGUARDS - Current status: - No explicit legal provision for bail-in; OBR contemplates achieving bail-in objectives via statutory manager transfers. - OBR’s de minimis exemption does not strictly respect hierarchy of claims and relies on statutory manager’s “have regard to” language. - Legislative recommendations: - Statutory manager should have express power to write-down creditor claims in accordance with established hierarchy. - Absent deposit insurance, legislation should provide a limited depositor preference to establish legal basis for the de minimis exemption. - Consider expressly providing statutory manager with bail-in powers, respecting hierarchy of claims and subject to the no creditor worse off than in liquidation principle (Key Attribute 3). - Establish a specific hierarchy of claims for resolution and legislate the de minimis exemption and limited depositor preference. - Provide safeguards for creditors consistent with Key Attribute 5, and consider protection of FMI assets held in bank accounts to avoid disruption. ### NBDT, FMI, AND INSURANCE RESOLUTION — gaps and proposals - NBDTs: - There is no tailored statutory management regime for NBDTs under the NBDT Act. - RBNZ is prudential regulator but unable to initiate resolution or recommend resolution; seizing control requires advising the FMA and Minister. - Recommendation: a specialized resolution regime for NBDTs is preferable given public deposits and public interest in depositor protection. - FMI resolution: - New Zealand is developing a crisis management framework for FMIs; RBNZ consulted on a proposed framework in 2016. - Proposed responsibilities: RBNZ as resolution authority for systemically important payment systems; RBNZ and FMA jointly for other systemically important FMIs. - Proposed powers include statutory management use, moratorium on payments to general creditors, and sale/transfer powers. - Insurance resolution (IPSA vs RBNZ Act): - IPSA Section 4 requires RBNZ to take into account protecting interests of policy-holders and the public interest. - IPSA grants powers to apply for appointment of a liquidator and to reduce value of contracts of insurance (parallel to bail-in). - Market concentration concern: two largest firms have a combined 65 percent market share; absence of a policy-holder protection scheme may lead to pressure for bailouts. ### ACCOUNTABILITY, OBJECTIVES, AND FISCAL DECISION FRAMEWORK - Legislative objective recommendation: - Require RBNZ as resolution authority to pursue resolution options not requiring public funds and maximizing recoveries, consistent with FSB Key Attributes. - Provide a systemic risk exception permitting RBNZ, with Minister consent, to pursue options that may not maximize recoveries or may require public funds when essential to protect financial system stability. - Accountability mechanisms: - Ex post reporting by the RBNZ on performance in resolution relative to its financial stability mandate and specific resolution objectives (maximizing recoveries; protecting depositors and the public interest). - Consider explicit legislative requirement for ex post review of all resolutions by the Auditor General or a parliamentary committee. - Systemic risk exception and decision framework for public funds: - Require RBNZ to specify systemic risk considerations that warrant a guarantee to support OBR or other resolution, and to provide assessment of other resolution options with recommendation to the Minister explaining why public funds or a non-least cost resolution is required. - Treasury to provide advice to the Minister on RBNZ recommendations; Minister concurrence required to implement public funds, a Crown guarantee, or non-least cost option. - Develop “shelf” guarantees, shareholder agreements and debt covenants including reporting requirements by the statutory manager and RBNZ; shelf documents should specify decisions requiring Ministerial consent. - RBNZ to revise shelf statutory manager terms of engagement to include reporting and decision-making provisions for situations with Crown exposure; all shelf documents to be reflected in CoFR contingency plans. *Source: IMF staff report (cr17116).* ### EXECUTIVE SUMMARY ___________________________________________________________________________ 4 ### EXECUTIVE SUMMARY ### INTRODUCTION — key findings - Several unique considerations apply to contingency planning and crisis management in New Zealand: dependence on self-discipline, market discipline and low intensity prudential supervision; strong interdependence with Australia as the four systemically important New Zealand banks are subsidiaries of large Australian banks; successive New Zealand governments have elected not to introduce deposit insurance. - The current resolution regime has shortcomings relative to the Financial Stability Board’s Key Attributes of Effective Resolution Regimes for Financial Institutions. - New Zealand pioneered bank creditor recapitalization concepts that evolved into the current Open Bank Resolution (OBR) policy (bail-in concept): seizing a failing institution and reducing creditor claims (“haircut”) to absorb losses. - Practical issues remain for OBR: since 2013 banks must have IT capability to freeze portions of liabilities, contingency planning focuses on closing a bank, appointing a statutory manager, and reopening the next day with prescribed liabilities frozen; legal powers to impose losses on creditors post-appointment are ambiguous. - Oversight and resolution of nonbank institutions has evolved after failures of more than 60 finance companies and insurers between 2006 and 2011, leading to new RBNZ mandates for insurance companies and regulation of nonbank deposit-takers (NBDTs). ### INSTITUTIONAL ARRANGEMENTS, COORDINATION, AND PREPAREDNESS — structure and gaps - Roles: - RBNZ: prudential supervisor (including macroprudential policy), lender of last resort, oversight responsibility for designated payment systems. - FMA: market conduct regulator; jointly with RBNZ oversees securities settlement systems that are not pure payment systems. - Treasury: lead advisor to government on economic, financial, and regulatory management. - CoFR (Council of Financial Regulators): RBNZ, FMA, Ministry of Business, Innovation and Employment, and Treasury; meets quarterly; chair rotates between RBNZ and FMA. - CoFR functions include: sharing strategic priorities, identifying financial system issues, coordinating cross-agency responses, and ensuring coordination arrangements for responding to events or developments; maintains a regular risk register. - Preparedness arrangements: - No standing domestic crisis management committee; incident-specific crisis committees are formed when needed. - RBNZ would trigger committee formation if intrusive Part V powers might be needed; Minister would trigger committee formation if Public Finance Act 1989 powers (e.g., provision of a guarantee) might be required. - Crisis committee is advisory (not decision-making); decision-makers depend on the crisis (could include RBNZ, Minister of Finance, FMA). - Coordination with Australia: - Home-host relationships are well developed; legislation in both countries requires taking into account potential cross-border financial stability impacts when taking supervisory and resolution actions. - The Memorandum of Cooperation on Management of trans-Tasman Bank Distress (MOC) should be expanded to include insurance and FMIs. ### DEPOSITOR PROTECTION and OBR-related considerations - New Zealand has chosen not to introduce deposit insurance. - In the absence of deposit insurance, consider legislative amendment to establish a limited depositor preference to provide legal certainty for the de minimis deposit exemption from haircutting in OBR. - A suitable de minimis amount could: provide some benefits of deposit insurance, mitigate runs, permit purchase-and-assumption type resolutions, and enhance OBR credibility by reducing pressure for bailouts (citing past extension of Crown Retail Deposit Guarantee Scheme to finance companies). - The credibility of OBR would be enhanced by legislative foundation for key elements rather than relying on policy: - Establish depositor preference to an appropriate limit. - Provide specific powers to bail-in (haircut) depositor and other creditor claims to remove ambiguity around a statutory manager “having regard to” creditor claim priorities. - Banks have had IT requirements since 2013 to enable freezing of liabilities as part of OBR implementation. ### LENDER OF LAST RESORT, LIQUIDITY FACILITIES, AND SUPERVISORY POWERS - RBNZ tool-kit: - RBNZ has well-designed standing liquidity facilities and introduced three new facilities during the global financial crisis; these remain available and could be reintroduced on short notice. - Supervisory powers: - RBNZ has a wide range of remedial supervisory powers for banks, insurance companies and NBDTs. - For banks, the consent of the Minister of Finance is currently required for issuance of directions. - Recommendation: align the RBNZ Act 1989 with IPSA 2010 and the NBDT Act 2013 by removing the Minister’s role in remedial supervisory action; same principle to apply to FMI oversight regime implementation. ### RESOLUTION REGIME — observations and legal framework issues - Shortcomings exist in current resolution regime relative to Key Attributes; gaps can be addressed through legislative and approach revisions without necessarily introducing deposit insurance. - Statutory management regime is the established legal foundation; recommendations focus on enhancing this regime. - Specific legal issues: - Statutory manager can freeze creditor claims but lacks explicit power to impose losses on creditors in resolution. - RBNZ Act should be revised to: - Establish objectives for resolution including consideration of depositors and the broader public interest. - Grant the RBNZ the same power as IPSA to apply for appointment of a liquidator. - Require post-reporting by RBNZ on performance against resolution objectives to enhance accountability (in both the RBNZ Act and IPSA). - Clarify that RBNZ is the sole resolution authority; require Ministerial consent only for resolutions with fiscal or systemic implications. - Provide express bail-in powers to the statutory manager. - Introduce a special resolution regime paralleling IPSA for nonbank deposit takers. - Provide a legal mechanism to temporarily exempt resolution-sensitive information from continuous disclosure requirements for listed companies. - Pursue including in the MOC provisions for Australian authorities to ensure continued provision of services to New Zealand subsidiaries by the parent bank or other group members. ### RESOLUTION TOOLKIT — elements and operational readiness - Operational readiness steps recommended: - Further develop rosters of potential statutory managers and personnel from government, agencies and private sector to be mobilized in a crisis. - RBNZ to continue documenting procedures required for appointing a statutory manager, OBR, and other resolution options. - Treasury to complete “shelf” agreements that may be required for provision of a Crown guarantee or other support in a crisis. - Preposition logistics and communications plans. - Test domestic preparations in simulation exercises. ### MAIN RECOMMENDATIONS (extracted from Table 1) - Strengthen domestic crisis management arrangements: - Reach ex ante agreement on roles, responsibilities and decision-making processes. - Preposition logistics and communications plans. - Complete initial work on plans to mobilize resources in a crisis. - Complete procedural guidance for appointment of a statutory manager, implementation of OBR and other resolution tool-kit options. - Test domestic preparations in simulation exercises. - Timing: MT. Authorities: CoFR. - Revise the trans-Tasman MOC to specifically include insurance and FMIs. - Timing: MT. Authorities: CoFR. - Reconsider the merits of deposit insurance, or if policy support remains absent, introduce a limited depositor preference to provide legal certainty for the de minimis exemption contemplated in OBR. - Timing: MT. Authorities: Treasury/RBNZ. - Revise the RBNZ Act in line with IPSA and the NBDT Act to remove the role of the Minister in issuing directions. - Timing: MT. Authorities: RBNZ/Treasury. - Revise the RBNZ Act to provide greater clarity and certainty in resolution: - Insert objectives in resolution including protection of depositors and the public interest. - Require accountability reporting against the resolution objectives in both the RBNZ Act and IPSA, and NBDT Act when revised. - Clarify that the RBNZ is the sole resolution authority. - Insert an express requirement for Ministerial consent for resolutions with fiscal or systemic implications only. - Clarify Treasury’s role as a provider of advice to the Minister on the RBNZ recommendations regarding resolution. - Provide express bail-in powers to the statutory manager. - Timing: MT. Authorities: RBNZ/Treasury. - Ex ante agreement on reporting requirements and decision-making procedures for OBR and other resolution options with fiscal or systemic implications. - Timing: MT. Authorities: CoFR. - Provide a legal foundation to exempt from continuous disclosure requirements information on resolution if such disclosure would be harmful to effective resolution. - Timing: ST. Authorities: CoFR. *Source: IMF staff summary of the "EXECUTIVE SUMMARY" (cr17116).* ### 13. The failure of a general insurance company subsequent to the Canterbury earthquakes ### The failure of a general insurance company subsequent to the Canterbury earthquakes ### AMI failure and immediate inter-agency response - Allied Mutual Insurance (AMI) was the fourth largest general insurer in New Zealand and held around one third of all home and contents insurance in Christchurch. - On March 9, 2011 AMI approached the government advising it was in financial distress due to claims exposure. - Upon learning of AMI’s problems, the Treasury and RBNZ promptly set up an information sharing and advisory forum. - At that time, IPSA had been enacted but the RBNZ had no formal powers because AMI was not a licensed (or provisionally licensed) insurer. - The Treasury–RBNZ arrangements enabled mutual support in response to the AMI crisis. ### Resolution of AMI (summary of Box 1) - AMI sought financial support on March 9, 2011; officials judged there was a material risk of net claims exceeding net assets by a large amount. - The government announced a support package on April 7, 2011 comprising an agreement to purchase, as needed over 5 years, up to NZD 500 million convertible preference shares. - Factors influencing the decision to provide support included: - concern for disruption to the economy if rebuilding in Christchurch was delayed by the failure of an insurer covering about one-third of earthquake claims; - concern that AMI customers outside Christchurch might find it difficult to obtain replacement policies in the short term. - The outlook for AMI deteriorated as claims estimates increased, leading to a restructuring announced in December 2011 and completed in April 2012: - continuing business sold to Australian-owned insurer IAG; - Canterbury claims and related reinsurance remained in AMI, renamed Southern Response, now a wholly Crown-owned entity. - Agreed government support for Southern Response was increased to NZD 1.25 billion from the original NZD 500 million support package announced for AMI. - The full extent of AMI’s Canterbury liabilities has yet to be determined. ### Gaps in crisis preparedness and recommended domestic strengthening - Work to date has focused on the banking sector; prudential regimes for insurers and NBDTs are relatively new and the legal framework for FMIs is not yet complete. - After the 2013 requirement for 10 banks (those with more than NZD 1 billion of retail deposits) to pre-position for OBR, the RBNZ is reviewing outsourcing policy to ensure the five largest banks could continue essential operations without ongoing services from the parent or group. For the 4 trans-Tasman banks, this includes a requirement to develop robust separation plans. - There has been no specific resolution planning for smaller banks, insurers or NBDTs. The general presumption is liquidation for failing smaller institutions, though: - finance companies issuing secured debt could be subject to receivership; - smaller institutions could be dealt with in voluntary administration. - Governments may pursue different options in particular circumstances, as seen during the global financial crisis and after the Canterbury earthquakes. Recommended actions: - Strengthen domestic crisis management arrangements drawing on lessons from the trans-Tasman crisis simulation and the Canterbury earthquakes, including: - ensuring domestic arrangements include meeting agendas so key issues are not overlooked in initial planning; - pre-positioning logistical arrangements (including communications facilities). - Advance work addressing the Auditor General recommendations on the Crown Retail Deposit Scheme, including: - articulating a framework for dealing with distressed institutions; - setting out possible courses of action, deterrent processes, contingency plans for failure, roles and responsibilities of agencies, and communications arrangements. - Task the CoFR, supported by member agency staff, with responsibility for system-wide crisis preparedness via legislation or revised terms of reference, with standing arrangements spelling out individual roles and decision-making processes for systemic situations. - Clarify decision-making procedures between Treasury and RBNZ, revisiting their bilateral MOU to define roles and responsibilities in relation to resolution of systemic and non-systemic institutions. ### Clarifying roles, resolution authority, and mobilization of resources - The RBNZ should be clarified as the resolution authority both in normal times and in financial distress; Treasury’s operational responsibilities should focus on whether and how to commit government resources. - The RBNZ would require Ministerial consent before proceeding with a resolution that potentially required a guarantee or public funds, or before a non-least cost resolution recommended for systemic reasons. - The RBNZ should lead on identifying and analyzing resolution options; the Treasury should provide review and advice to support the Minister’s decision-making. - Current plans for mobilizing resources (rosters of potential statutory managers and personnel from government, agencies and the private sector) should be further developed, led by the RBNZ with CoFR contributions. - RBNZ should continue developing procedural guidance for implementation of OBR and other resolution tools. ### Testing, simulations, and operational issues - Contingency plans should be periodically tested in domestic simulation exercises in addition to trans-Tasman simulations. - Domestic simulations should cover: - determination of systemic importance; - decision-making processes including the role of the Minister; - practical implementation challenges of OBR. - Lessons from banks’ annual testing of OBR capability should be incorporated, including potential need on short notice for large amounts of bank-notes to meet customer withdrawals. - Identified operational issues needing resolution include lack of clarity around payments “in flight” (a customer instruction delivered but payment not yet complete). - A legislative amendment is being considered to clarify the point at which a transaction affects the liability of the bank to that customer. ### Cross-border coordination and Trans-Tasman arrangements - Cross-border coordination is limited aside from trans-Tasman arrangements; non-Australian banks and insurers in New Zealand are not systemically important and are small in the local market. - Supervisory MOU covering banking and insurance exists with the U.K. Prudential Regulation Authority. - RBNZ has MOUs with RBA (ASX Clear Futures) and Bank of England (LCH.Clearnet); RBNZ is a member of the oversight college of CLS Bank and a signatory to the CLS Oversight protocol. - Cooperation between New Zealand and Australian authorities is well-established; the Trans-Tasman Banking Council (TTBC) was established in 2005. - A 2006 amendment of the RBNZ Act and parallel Australian legislation requires authorities to take into account potential impacts on financial stability in the other jurisdiction. - Crisis management is primarily addressed through MOC and two bilateral MOUs; the RBNZ–APRA MOU was revised in 2012 to include insurance. - Recommendations for Trans-Tasman arrangements: - recast and possibly rename the TTBC to reflect broader financial stability objectives and revise the MOC to reflect additional work on insurance and FMI distress; - revisit the MOC to expand scope to include resolution of insurance companies and FMIs. - A 2011 simulation identified needed enhancements; a TTBC Protocol for Coordination of Crisis Communications and other logistical arrangements were developed. - Challenges remain, including no ex ante consensus on single- or multiple-point-of-entry resolution strategies; progress has been made on a framework for assessing systemic importance and on discussions regarding coordinated responses. - A second trans-Tasman crisis simulation exercise is planned for 2017. ### Depositor protection, the Crown Retail Deposit Guarantee Scheme, and policy reconsideration - New Zealand governments have consistently decided not to introduce deposit insurance; the Crown Retail Deposit Guarantee Scheme introduced during the global financial crisis was removed in 2011 and not replaced by a permanent limited deposit protection scheme. - The merits of deposit insurance should be reconsidered. If no policy support for deposit insurance persists, consideration should be given to establishing a limited depositor preference at an appropriate level to provide some benefits of deposit insurance, including mitigating runs and facilitating minimally disruptive resolutions. - Main arguments against deposit insurance: - moral hazard—the risk that directors may not exercise self-discipline and insured depositors would not exercise market discipline; - challenges in accumulating a sufficiently large fund to deal with failure of a large institution in a concentrated banking system; - view that protecting depositors is outside a pure financial stability mandate. - New Zealand is one of only two OECD jurisdictions without explicit depositor protection; Israel is the only other OECD country without a formal deposit protection system. - Box 2 (Crown Retail Deposit Guarantee Scheme) key points: - The scheme was designed and introduced over two days during the global financial crisis and announced on October 12, 2008; it continued in place until end-2011. - The scheme covered 96 institutions, including 12 banks, 60 nonbank deposit-takers, and 24 collective investment schemes. - Nine finance companies failed, resulting in an estimated net cost to the Crown of approximately NZD 600 million to compensate 42,000 depositors after recoveries and fees. - By comparison, the smallest bank pre-positioned for OBR, The Co-operative Bank, today has about 150,000 customers and 1.8 billion in deposits. - The scheme contributed to maintaining confidence; one unintended consequence was rapid growth of the finance company sector immediately after introduction due to guaranteed deposits and higher interest rates. - A subsequent review found the need for earlier and documented formal planning; usefulness of being guided by experience elsewhere; need for effective monitoring and oversight of institutions included; and need for advance planning to deal with failure of an institution. - Recent evidence from New Zealand, consistent with experience elsewhere, calls into question the moral hazard argument against deposit insurance. - Experience in the global financial crisis suggests reconsideration of depositor protection could be helpful from several policy perspectives and would add to the credibility of OBR if implemented with an appropriate limit. *Source: Chapter "The failure of a general insurance company subsequent to the Canterbury earthquakes", cr17116.* ### 37. The 2011 Parliamentary Commerce Committee inquiry into finance company failures ### 37. The 2011 Parliamentary Commerce Committee inquiry into finance company failures ### Financial literacy, governance, and market discipline - The 2011 Parliamentary Commerce Committee inquiry found depositors often had no understanding of the risks they were assuming. - This led to recommendations to the government to enhance New Zealanders’ financial education. - The committee identified governance shortcomings, which were addressed in the NBDT Act, and a new prudential regime intended to provide prudential discipline to enforce governance standards. - The findings and recommendations raise the question of whether it is reasonable to expect ordinary depositors to exert market discipline on deposit taking institutions. ### Wholesale funding, market discipline, and contingency planning - Dependence of New Zealand banks on wholesale funding provides market discipline and would in no way be undermined by deposit insurance. - Sophisticated institutional investors consider ratings, analyze disclosure statements and offering documents and will refuse to roll over maturing securities if they develop material concerns. - A principal crisis scenario in contingency funding plans is an inability to access offshore markets. - Development of “self-securitization” programs: banks can manufacture Residential Mortgage Backed Securities (RMBS) as eligible collateral to access RBNZ liquidity facilities so that in crisis the RBNZ could provide short-term liquidity allowing orderly run-off of foreign funding. ### Deposit protection, Crown Retail Deposit Guarantee Scheme, and competition - One role of deposit insurance is to contribute to financial stability by mitigating against runs. - The Crown Retail Deposit Guarantee Scheme introduced in 2008 was motivated by fears of a run of deposits to Australia which supplemented its depositor preference scheme with an explicit guarantee during the global financial crisis. - Had an appropriate depositor protection scheme been in place in New Zealand, it may not have been necessary to proceed with the hastily designed and implemented Guarantee Scheme. - A stated rationale for the Scheme was to support diversity—smaller institutions—in the financial sector, which is a legitimate policy objective but may be at odds with a focus purely on financial stability and New Zealand’s reliance on self, market, and regulatory discipline. - It is unclear why the ability of smaller institutions to compete would only be a policy concern in a crisis. - Given that NBDTs collectively accounted for less than five percent of total financial sector assets at the time, systemic implications from collapse of the sector were difficult to see, though there was potential for widespread loss by depositors and other creditors. - Nine failed finance companies were covered by the Crown Deposit Guarantee Scheme introduced in 2008. ### Open Bank Resolution (OBR), depositor impacts, and de minimis exemptions - Competitive concerns of smaller banks are reflected in the inclusion of non-systemically important banks in pre-positioning for OBR. - OBR offers the only minimally disruptive resolution option, other than bail-out, in the New Zealand tool kit; any institution not pre-positioned for OBR would likely be liquidated, meaning all trading would immediately cease. - For depositors, partial freezing and possible loss through OBR is a lesser hardship than extended freezing and protracted recovery in liquidation experienced by some finance company depositors. - Political will is required for OBR to be a credible alternative to bailing out a failing institution; without depositor protection, OBR would result in immediate freezing and likely eventual loss of a portion of all deposits. - Faced with the certainty of incurring the wrath of the up to 25 percent of voters whose deposits would be partially frozen if one of the 4 large banks were subject to OBR, a Minister of Finance may be reluctant to consent to appointment of a statutory manager with the intent of triggering OBR. - OBR design contemplates a de minimis exemption from the deposit freeze, which the RBNZ in its public discussions has suggested would be at a level of NZD 500. - Even with NZD 500, at least half of depositors would be subject to some loss; a higher de minimis amount could provide many benefits of deposit insurance. - Recent analysis suggests that a de minimis exemption of NZD 10,000 per depositor would result in 80 percent (by number of accounts) of all bank deposits being exempted from the freeze and ultimate loss in OBR. - NZD 10,000 is a very low amount compared to the usual rule of thumb of two-to-three times per capita gross domestic product for deposit insurance limits, reflecting that New Zealanders generally do not accumulate significant savings in bank accounts. - Losses would still be borne by creditors of the bank, meeting a key objective of OBR by avoiding a bailout. - Pre-establishing the de minimis amount in legislation rather than leaving it to case-by-case decisions could provide the same certainty to depositors as a deposit insurance scheme, mitigate against runs, contribute to consumer education, and the greatest certainty would be provided through a clear legislative framework including depositor preference for the de minimis amount. ### International comparison: Australia - Post-crisis, Australia introduced a permanent AUD 250,000 deposit guarantee, reversing a long-held opposition to depositor protection (other than a priority claim in liquidation). - The Australian approach differs from deposit insurance best practices in that it is not funded through levies on the industry and no fund is being accumulated to pay for potential failures. - The likelihood of ultimate loss to the government is low given that the Australian government would step into the shoes of guaranteed depositors and thus have a priority claim on the assets of the failed bank. - The Australian guarantee provides certainty to depositors and thus mitigates against runs on Australian banks. ### Lender of Last Resort (RBNZ facilities and crisis measures) - RBNZ standing facilities give eligible counterparties the ability to borrow cash and/or bonds if unable to source these assets from the marketplace. - Overnight Reverse Repurchase Facility (ORRF) is open to any counterparty that has executed a global master repurchase agreement (GMRA) with the RBNZ. - An automated ORRF is open to Exchange Settlement Account System (ESAS) holders who have executed a GMRA, generally used outside normal business hours to automatically repo securities when settlement account balances fall below a specified threshold. - RBNZ offers two bond lending facilities for counterparties needing a specific Government bond. - The RBNZ Act (Section 31) establishes broad powers to provide extraordinary liquidity support “if the Bank considers it necessary for the purpose of maintaining the soundness of the financial system.” - In the global financial crisis, RBNZ measures to bolster liquidity included: - extension of eligible securities to include RMBS, and AA-rated New Zealand government sector debt; - standardizing the discount margin in the ORRF at 50 basis points above the overnight cash rate for all eligible securities (bank paper had initially been set at 100 basis points); - introducing a graduated risk margin regime (‘haircut’) to replace the prevailing limit structure; - extension of the ORRF to allow loans to a maximum maturity of 30 days; - creation of a new Term Auction Facility (TAF) offering maturities of 3, 6 and 12 months; - introduction of a weekly Open Market Operation (OMO) accepting corporate paper and asset backed securities for terms out to 3 months. - The TAF, term ORRF and term OMO were suspended in November 2009 but remain in the RBNZ toolkit and could be reintroduced at short notice. - RBNZ retained a broad list of eligible securities after a 2012 review and subsequently reviewed the haircut regime in 2013. - All of the large and a number of the smaller banks have created RMBS to access RBNZ facilities and are potentially capable of creating more at short notice if required. - RBNZ is the sole decision-maker on provision of liquidity in normal circumstances. - If RBNZ provides liquidity support for a bank subject to OBR, the expectation is this would be pursuant to a Crown guarantee while the bank operates in statutory management. - Planned freezing of an amount of creditor claims conservatively estimated to be sufficient to absorb losses means RBNZ would in principle be lending to a solvent institution, but a run while in statutory management could make required collateral unavailable, hence expectation of support being underpinned by the Crown guarantee. ### Early supervisory intervention and powers - No bank, insurer or NBDT has faced serious distress since introduction of the current legal regimes. - RBNZ uses Proportional Risk Evaluation Surveillance System (PRESS) for banks and iPRESS for insurers; each supervisory rating system incorporates four supervisory stances, with the last two being Regulatory Response and Crisis Management. No institution has reached either of these stages under current regimes. - While RBNZ Act, IPSA and the NBDT Act provide a wide range of remedial supervisory action, exercising all powers short of appointing a statutory manager is within the discretion of the RBNZ only with respect to insurance companies and NBDTs. - Consent of the Minister of Finance is required to exercise the most intrusive supervisory powers with respect to banks, including issuance of directions pursuant to sections 113, 113A, and 113B of the RBNZ Act. - Recommendation: The RBNZ Act should be revised to align with IPSA and the NBDT Act by eliminating the role of the minister in exercising remedial supervisory powers; same principle should apply for the framework for FMI oversight. - Although no evidence of political interference in practice, the role of the Minister in supervision is not in line with best practice for supervisory independence (see Basel Core Principle 2). ### NBDT prudential regime and trustee oversight - The regime for building societies, credit unions and finance companies was significantly revised with introduction of a prudential regime for NBDTs. - Review began in 2006; approximately 60 finance companies failed between 2006 and 2009. Some were wholesale funded, but many relied on retail deposits. - Under the prudential regime for NBDTs, RBNZ became the regulatory authority, with primary supervisory responsibilities remaining with trustees. - Transition period through to April 2015 completed licensing process for all NBDTs. - The regime established minimum prudential standards with respect to capital, liquidity, governance, and risk management. - Currently two firms are the main providers of trustee services to the NBDT sector. - Oversight by trustees was found to have been ineffective in many failures, but has been strengthened through requirement that trustees be licensed and subject to FMA oversight under the Financial Markets Supervisors Act 2011. - NBDTs are required to report regularly to the RBNZ, which prepares a monthly Deposit-Taking Oversight Report. ### Resolution regime, statutory management, and decision-making - The current resolution regime suffers from a lack of consensus on key issues including decision-making processes, roles, and responsibilities; there is no agreement among key stakeholders on an appropriate legal framework and governance arrangements for an effective resolution regime. - Legal framework for resolution of banks and insurers is established in the RBNZ Act and IPSA respectively; each act contains broadly similar approaches including appointment of a statutory manager with wide powers to operate or liquidate a failing institution. - A bridge bank option is available through power of the statutory manager to transfer any or all of the assets and liabilities to a newly incorporated institution. - The legal framework for resolution of FMIs is still under development; RBNZ has recently completed consultation on a proposed new statutory framework for FMI oversight. Box 3. Statutory Management (summary of statutory manager powers) - Appointment of a statutory manager requires Ministerial consent to the recommendation by the relevant authority—the RBNZ or FMA. - Appointment immediately imposes a moratorium on legal proceedings. - All powers of the board and management vest in the statutory manager, who may exercise many powers of a liquidator. - The statutory manager may transfer business of a branch of a foreign bank or insurer to a corporation formed by the statutory manager, prohibit removal of assets from New Zealand, suspend payment of any money owing, pay any creditors, compromise claims, sell all or any part of the bank, or transfer all or part of assets and liabilities to a new institution incorporated by the statutory manager. - Statutory management provisions could be used for open resolutions, but RBNZ expectation is that non-systemic institutions are more likely to be liquidated. - IPSA Section 170 (2) requires RBNZ to recommend appointment of a statutory manager only if the public interest, financial system or economy of New Zealand or any policy holder cannot be adequately protected under other provisions of IPSA or the Companies Act. *Source: cr17116 - 37. The 2011 Parliamentary Commerce Committee inquiry into finance company failures* ### 63. The exercise of resolution powers is a multi-part process. With respect to banks, the ### 63. The exercise of resolution powers is a multi-part process. With respect to banks, the ### Resolution process and institutional roles - RBNZ first identifies the existence of one or more of the conditions specified in the RBNZ Act Section 113 (1), warranting the appointment of a statutory manager under section 117. - Following RBNZ identification, the RBNZ would recommend to the Minister of Finance initiation of resolution; the Minister, if in agreement, would seek from the Governor General an Order-in-Council appointing one or more statutory managers. - The RBNZ has two roles in resolution: - Recommending initiation of resolution upon identifying an institution as failing or likely to fail. - Overseeing the statutory manager, including the ability to give binding directions to the statutory manager (RBNZ may, but is not required to, give binding directions). - RBNZ approval is required before the statutory manager can take certain actions including the sale of the whole or a substantial part of the business undertaking of the bank or insurer in statutory management. - The RBNZ Act does not establish any objectives for the RBNZ specifically with respect to resolution; in exercising resolution powers the RBNZ would have regard to its mandate pursuant to Section 68 to promote the maintenance of a sound and efficient financial system and avoid significant damage to the financial system that could result from the failure of a registered bank. - The RBNZ interprets its remit as focusing on protection of the system and not necessarily individual institutions or depositors, leading to a general presumption that absent a market-based resolution any failing non-systemically important institution would be liquidated pursuant to Part 16 of the Companies Act 1993, or in limited circumstances resolved through receivership or voluntary administration. ### Minister and Treasury roles in resolution - Ministerial roles provided by legislation include: - (i) approving commencement of resolution other than petition of a creditor to the courts for the appointment of a liquidator (Companies Act Section 253); - (ii) appointing a committee to provide non-binding advice to the statutory manager or do other things specified by the Minister (RBNZ Act Section 119); - (iii) Ministerial consent required for sale of all or a substantial part of the business of a bank in statutory management (RBNZ Act Section 132); - (iv) Minister may terminate the statutory manager’s appointment on the recommendation of the RBNZ (RBNZ Act Section 141). - Treasury’s role is established via an MOU with the RBNZ which specifies that “the Treasury will lead on operational matters arising from financial distress where these have fiscal implications.” The nature and extent of the Treasury’s “lead” role is not defined and is open to multiple interpretations. - Fiscal implications are likely when the OBR option is used, or potentially with respect to resolution of any of the four large banks; the Treasury’s lead role could also apply in other situations (example: AMI insurer after Canterbury earthquakes). ### Statutory manager powers, duties, and interactions with RBNZ - Statutory manager obligations and interactions: - Must consult with the RBNZ in relation to the exercise of powers to the extent required by the RBNZ. - Must comply with directions of the RBNZ (Section 120), giving the RBNZ ability to direct the resolution process through the statutory manager. - Section 121 requires a statutory manager to “have regard to” specific considerations when exercising powers, including: - (i) the need to maintain public confidence in the operation and soundness of the financial system; - (ii) the need to avoid significant damage to the financial system; - (iii) to the extent not inconsistent with (i) and (ii), the need to resolve as quickly as possible the difficulties of that registered bank; - (iv) to the extent not inconsistent with (i), (ii), and (iii), preserving the position of creditors and maintain the ranking of claims of creditors; - (v) the advice of the RBNZ. - Statutory managers are required to: - (i) consult with the RBNZ to the extent required by the RBNZ as to the exercise of powers; - (ii) provide reports that the RBNZ may require as to the state of the affairs, business, and statutory management of the bank in the form and frequency the RBNZ may require; - (iii) provide the information that an advisory committee appointed under section 119 may reasonably require as to the affairs, business and statutory management of the bank. - Section 121A requires a statutory manager to seek explicit approval of the RBNZ if a proposed action is likely to have a detrimental effect on financial system stability in Australia. - Section 142 provides that the statutory manager may apply to the High Court for direction; this could be sought independently of RBNZ directions. - Collective reading of Sections 117–121A and Section 142 is ambiguous regarding the resolution authority’s identity: if the RBNZ exercises powers under Section 120 to direct the statutory manager the resolution authority is clearly the RBNZ; where RBNZ does not issue directions the statutory manager would in effect be the resolution authority. - There is a stated need for clarity on the identity of the resolution authority and the process for exercise of resolution powers, including the respective roles and responsibilities of the RBNZ and the Treasury in resolution, particularly in dealing with a systemically important bank using the OBR. ### A. Open Bank Resolution (OBR) — concept and operational design - OBR is a tool developed to provide a credible alternative to a bailout to resolve a systemically important institution; market-based resolutions (sale or recapitalization) are preferred and OBR does not preclude other resolutions. - OBR does not itself resolve a failing bank; it is a tool to take control of the institution and continue operations while seeking a resolution. - The most cost effective resolution under OBR would be a sale to new investors, likely another bank, preserving franchise value; failing that, an orderly wind-down is an alternative achievable via statutory management and less disruptive than liquidation because the bank would continue to trade for run-off. - OBR operational outline: - A failed bank would be placed under statutory management and reopened the next business day. - A portion of all creditors’ claims, estimated to be sufficient to cover the bank’s losses in excess of its capital, would be frozen. - Depositors and other creditors whose claims are pre-positioned for OBR would have immediate access to the unfrozen portion of their claims; the bank would then continue normal business under statutory management while a resolution was pursued. - The disruption arising from liquidation is avoided (a bank must cease trading once a liquidator is appointed), and losses should ultimately be absorbed by the bank’s shareholders and creditors. - Complexities and challenges to OBR credibility arise from: - Policy choices regarding RBNZ’s supervisory approach and the RBNZ’s minimally resourced supervision model. - Absence of deposit insurance (one usual safety-net component). - Absence of some direct legal powers. - Challenges of dealing with any large failing institution. ### A. OBR — operational and legal challenges, incentives, and protections - Maintaining confidence when the bank reopens under statutory management is an immediate challenge to prevent rapid withdrawal of unfrozen liabilities and a liquidity crisis. - OBR contemplates a Crown guarantee of all unfrozen liabilities to encourage depositors to leave unfrozen deposits in the bank and to ensure counterparties will engage while the bank operates under statutory management. - The Crown guarantee extends to all liabilities incurred after entry into statutory management, enabling RBNZ liquidity support even if the bank cannot meet normal collateral requirements. - Depositor and creditor behavior is unpredictable; outcomes range from acceptance of the freeze and continuation of business to widespread runs withdrawing all unfrozen amounts. - Possible unintended consequence: the first bank to enter OBR could, due to the Crown guarantee, draw deposits away from other banks and possibly trigger liquidity crises in otherwise more resilient banks. - Administrative measures (e.g., limiting acceptance of new deposits by a bank in statutory management) could be counterproductive for public confidence and inhibit the OBR objective. - OBR envisages that creditors’ losses would not exceed the initially frozen amount; actual losses in excess of the frozen amount would be borne by government through the Crown guarantee. - This creates an incentive to provide a comfortable cushion in the initial estimate of losses to protect Crown exposure, balanced against hardship to depositors and creditors from potentially large frozen portions of claims. - A mitigating measure: take an initially conservative approach and periodically unfreeze further amounts as the scale of losses is more accurately determined. - Accurate initial estimation of likely losses is challenging: - Global experience shows common underestimation of losses at outset. - Initial estimates can be too conservative if asset price corrections overshoot during crisis and subsequently recover. - The RBNZ’s minimally resourced supervision and lack of routine asset quality reviews mean asset quality information may not be available to estimate losses overnight. ### A. OBR — legal powers, payment systems, and cross-border issues - Ministerial reluctance: imposition of losses on individual depositors may make the Minister of Finance reluctant to appoint a statutory manager to implement OBR, given absence of deposit insurance and potential fiscal implications from the required Crown guarantee. - Current legislation provides the power for a statutory manager to freeze a portion of claims and operate the bank, but: - Rights of shareholders and “frozen” liability holders are not extinguished. - There is no express power for a statutory manager to haircut claims or convert debt into equity; the power to transfer some or all of the business to a new entity would be used to achieve haircutting claims. - These powers are untested and may be subject to legal challenge; legal advice to the RBNZ suggests challenge likely limited to judicial review rather than substantive merits. - For New Zealand-based FMIs, statutory manager powers and payment system rules would facilitate continued participation by a bank under OBR even if the bank fails to settle on entry into statutory management. - For non-New Zealand-based FMIs (e.g., LCH.Clearnet) the expectation is that selective unfreezing of claims would be used to permit settlement of outstanding obligations to ensure continued access to the foreign FMI. - The Crown guarantee of liabilities incurred after entry into statutory management would likely be required by both New Zealand-based and foreign counterparties for continued participation in payment systems. - There is no provision in New Zealand law to provide a breathing space with respect to financial contracts when resolution powers are exercised; entry into statutory management and freezing of creditors’ claims would likely trigger insolvency remedies including contract acceleration or exercise of early termination rights by counterparties. - Reliance on foreign currency funding swapped into New Zealand dollars and prevalence of fixed-rate mortgage lending funded by variable or short-term deposits means interest rate and currency swaps are important and would have to be replaced for prudent management. ### B. Other legal resolution options - Statutory management is well-established in New Zealand. - Other legal options outside statutory management: - (i) liquidation under Part 16 of the Companies Act 1993; - (ii) voluntary administration under Part 15A of the Companies Act 1993; - (iii) in certain circumstances, receivership under the Receiverships Act 1993. - Liquidation: - Involves a creditor (or certain other parties) applying to the court for appointment of a liquidator. - IPSA provides the RBNZ may apply to courts for appointment of a liquidator of an insurance company, but there is no parallel provision in the RBNZ Act or the NBDT Act. - On entry into liquidation the institution ceases carrying on business, making this option unsuited for systemically important institutions and likely undesirable for smaller institutions if preserving value for sale is preferable. - Voluntary administration is likely only practical for very small institutions and is not well suited to dealing with large numbers of creditors and complex claims. - Receivership involves a secured creditor appointing a receiver for assets charged under security; NBDTs issuing secured debt might be resolved this way, but most financial institutions do not have security over all or bulk of assets, making receivership generally impractical. ### C. Bail-in within resolution - There is currently no explicit legal provision for bail-in within resolution; bail-in would require write-down that respects priority of claims in liquidation. - OBR contemplates achieving bail-in objectives via the statutory manager transferring some or all assets and liabilities of the failed bank to a new institution, leaving some liabilities in the shell of the failed bank so creditors’ claims are effectively written down. - OBR also contemplates a de minimis exemption for deposits, which does not strictly respect the hierarchy of creditor claims and relies on statutory manager’s requirement to “have regard to” priority of claims rather than strictly observe it, together with Section 121 considerations including avoidance of significant damage to the financial system. - Legislative amendment would provide greater certainty: - Statutory manager should have express power to write-down creditor claims in accordance with established hierarchy. - Deposit insurance would provide basis for depositor protection; absent deposit insurance, legislation should provide a limited depositor preference to establish legal basis for the de minimis exemption. - Some New Zealand banks have issued non-common equity capital instruments with write-down and convertibility features at point of non-viability, providing additional loss-absorbing buffer. - Reluctance to trigger write-down or conversion may exist due to potential of imposing losses on individual creditors. - For at least one New Zealand bank, the bulk of such instruments is held by individuals; risks disclosed but full extent may not have been appreciated, suggesting reluctance to trigger bail-in unless bulk held by institutional investors. *Source: cr17116 - 63.* ### 93. There is no privately financed deposit insurance or resolution fund in New Zealand. ### 93. There is no privately financed deposit insurance or resolution fund in New Zealand. ### Deposit insurance and OBR - Finding: There is no privately financed deposit insurance or resolution fund in New Zealand. - Observation: The absence could be addressed through the introduction of a well-designed deposit insurance scheme. - Assessment of OBR: - OBR is intended to meet the objectives of Key Attribute 3 of not being limited to public ownership or bailout to resolve a failing institution. - OBR is predicated on provision of a Crown guarantee and may still require temporary government ownership. - OBR contemplates that any losses beyond the initially frozen amount would be borne by the Government, and thus does not meet the objective of providing a recovery mechanism for any public funds used in the resolution process. - The risk that public funds would be required is mitigated but not eliminated by the intention to take a conservative approach to the initial freeze. ### Insurance resolution (IPSA vs RBNZ Act) - Legal mandates: - RBNZ Act: resolution powers solely on the maintenance of a sound and efficient financial system and avoiding significant damage to the financial system through the failure of a registered bank (Section 68). - IPSA Section 4: requires the RBNZ, in addition to systemic stability concerns, to take into account principles including adequately protecting the interests of policy-holders and the public interest. - Powers under IPSA that supplement statutory management: - Power to apply for appointment of a liquidator. - Power to apply to the High Court to reduce the value of contracts of insurance (parallel to bail-in). - Market concentration concern: - Two largest firms have a combined 65 percent market share; failure of one could repeat issues seen in AMI (consumer difficulties obtaining replacement cover). - Absence of a policy-holder protection scheme may lead to pressure for bailouts. ### NBDT resolution - Finding: There is no tailored statutory management regime for NBDTs under the NBDT Act. - Current regime: - NBDTs subject to statutory management regime under CIMA; an entity may be placed into statutory management by the Governor-General acting on the advice of the Minister of Commerce given in accordance with a recommendation of the FMA. - Limitations and recommendation: - RBNZ is prudential regulator under the NBDT Act but unable to initiate resolution or recommend resolution. - RBNZ can issue directions to require an NBDT to cease taking new deposits, but seizing control and resolving a failing NBDT requires advising the FMA and Minister to initiate statutory management. - Recommendation: A specialized resolution regime for NBDTs would be preferable given public deposits and public interest in depositor protection. ### FMI resolution - Progress: New Zealand is developing a crisis management framework for FMIs; RBNZ consulted on a proposed framework in 2016. - Proposed responsibilities: - RBNZ would be the resolution authority for systemically important payment systems. - RBNZ and FMA jointly for other systemically important FMIs. - Powers and tools: - Proposed framework includes resolution powers for the RBNZ and FMA, using the statutory management regime. - Statutory manager powers would include placing a moratorium on payments to general creditors and the power to sell or transfer the whole or part of the business of the FMI in statutory management. ### Resolution Regime—Recommendations (near and medium term) - Near term: Greater clarity required on roles and responsibilities in dealing with resolution of a systemically important institution. - Medium term: Legislative amendments required to provide additional resolution powers and greater credibility for the OBR option. - Recommendation: Clarify resolution objectives so powers of a statutory manager should be used to resolve both systemic and non-systemic institutions; transferring all or part of the business of the bank minimizes disruption and maximizes recoveries relative to liquidation of a non-systemically important institution. - Decision-making in non-systemic cases: - RBNZ would be the sole decision maker in any non-systemic situation without fiscal implications when pursuing a resolution option to maximize recoveries from a failed institution. - RBNZ would exercise its power by issuing binding directions to the statutory manager. - RBNZ would keep the CoFR and the minister informed consistent with CoFR communications protocols. ### Objectives and accountability of the resolution authority - Legislative objective recommendation: - Legislation should require the RBNZ as resolution authority to pursue resolution options not requiring public funds and maximizing recoveries from the failed institution (consistent with FSB Key Attributes). - Provide a systemic risk exception permitting the RBNZ, with the consent of the Minister, to pursue options that may not maximize recoveries, or may require public funds, when essential to protect financial system stability. - Current gap: No specific objectives established in legislation or regulations for use of statutory manager regime for registered banks. - IPSA includes a provision that statutory management is only to be used if interests of policy-holders and the public interest cannot be protected under alternative options; adding a parallel provision to the RBNZ Act is recommended. - Accountability mechanisms: - Ex post reporting by the RBNZ on its performance in resolution relative to its financial stability mandate and specific resolution objectives of maximizing recoveries and protecting depositors and the public interest. - Consider explicit legislative requirement for ex post review of all resolutions by the Auditor General or a parliamentary committee. ### Entry into resolution - Current process: Triggering resolution is clear for appointment of a statutory manager by Order-in-Council on advice of the Minister following an RBNZ recommendation. - Recommendation: - Remove ambiguity by specifying in law that the RBNZ will direct the statutory manager, having regard to recommended resolution objectives (protection of depositors and the public interest, and maximizing recoveries), in addition to financial stability. - Add to the RBNZ Act a parallel provision to IPSA permitting the RBNZ to apply for the appointment of a liquidator of an insurance company—provides an alternative if a Minister does not consent to appointment of a statutory manager for a registered bank. - Revise NBDT Act to parallel IPSA: provide RBNZ power to apply for appointment of a liquidator and to recommend to the Minister of Finance the appointment of a statutory manager. ### Systemic risk exception and decision framework for public funds - Legislative requirements: - Require the RBNZ to specify the systemic risk considerations that warrant provision of a guarantee to support OBR or other resolution, or commitment of public funds in extraordinary circumstances (e.g., the AMI insurance case). - RBNZ should provide an assessment of other possible resolution options and a recommendation to the Minister specifying why public funds or a non-least cost resolution is required for financial stability purposes. - Minister and Treasury roles: - Treasury to provide advice to the Minister on RBNZ recommendations that public funds, a guarantee, or a non-least cost resolution are required. - Only if the Minister concurs with the RBNZ recommendation would public funds, a Crown guarantee, or a non-least cost option be implemented. - Additional provisions for Crown exposure: - Commitment of public funds or a guarantee requires additional reporting, decision-making and accountability provisions for duration of Crown exposure. - Treasury should develop “shelf” guarantees, shareholder agreements and debt covenants including reporting requirements by the statutory manager and RBNZ to meet Minister needs. - Shelf documents should include decision-making provisions specifying types or categories of decision in resolution that would require Ministerial consent (excluding day-to-day operations but including major organizational changes, pursuit of new investors, sale of material parts of the business, and exercise of bail-in powers). - RBNZ should revise its shelf statutory manager terms of engagement to include reporting and decision-making provisions for situations with Crown exposure. - All shelf document provisions should be consistent with and reflected in CoFR contingency plans for crisis management. ### Protection of depositors - Legislative footing for OBR: - Providing legislative grounding for key elements of OBR could reduce uncertainty; OBR is a policy and implementation details (e.g., de minimis amount) would be decided at implementation. - Section 121 of the RBNZ Act requires the statutory manager to “have regard to” the priority of creditors’ claims to the extent not inconsistent with financial stability; this has been interpreted to permit departure from established priority and thus exclude de minimis amounts on financial stability grounds. - Recommendation: Establish in law a limited depositor preference: - Hierarchy of claims on a failed bank should provide priority for depositors up to the specified de minimis amount, with deposits in excess ranked pari passu as in the current hierarchy. - This permits the statutory manager to observe established priority of claims when exercising recommended bail-in powers while exempting small depositors from loss. ### Other Key Attributes and resolution powers - Bail-in and hierarchy of claims: - Consider expressly providing statutory manager with bail-in powers, respecting hierarchy of claims and subject to the no creditor worse off than in liquidation principle (Key Attribute 3), to provide a straightforward path from freezing a portion of accounts to imposing losses on creditors contemplated in OBR. - Express bail-in powers could be used to complete purchase and assumption type transactions by reducing the value of liabilities where no deposit insurance fund exists to top up differences. - Such transactions preserve banking relationships and franchise value and may be preferable to liquidation. - Safeguards and hierarchy: - Currently no safeguards to creditors respecting the hierarchy of claims (Key Attribute 5); OBR as contemplated would expressly require some creditors to be made worse off to accommodate the de minimis exemption. - Recommendation: Establish a specific hierarchy of claims for resolution in statutory management and legislate the de minimis exemption and limited depositor preference. - Provide for possible protection of FMI assets held in bank accounts to avoid disruption of FMI operations. - With these provisions in law, the statutory manager would respect the hierarchy of claims when exercising bail-in powers. - Continuous disclosure and listed entities: - No provision currently for exemption of information on resolution from continuous disclosure applying to entities listed on the NZX (Key Attribute 5). - The FMA is leading work, in consultation with ASIC, the RBNZ and NZX, to assess whether an additional legal mechanism is required so public interest in effective resolution can take precedence over disclosure requirements when there is a conflict. - Recovery and separation planning: - Very little recovery planning for large banks beyond looking to parents for support (Key Attribute 11). - Resolution planning has focused on separation arrangements and the ability to operate without services from the parent bank or group. - Assurance that subsidiaries can operate independently is critical if OBR is to be credible. - Recommendation: RBNZ should pursue the possibility of agreement with APRA pursuant to the MOC that the home supervisor would ensure continued provision of services by the parent or other group members throughout resolution. *Source: IMF Staff Report (excerpt).* --- _Source: https://www.imf.org/-/media/files/publications/cr/2017/cr17116.pdf_