## 1. Key Recommendations ## Source details **Canonical URL:** [1. Key Recommendations](https://www.imf.org/-/media/files/publications/cr/2017/cr1749.pdf) ## Other formats - [Markdown version](/-/media/files/publications/cr/2017/cr1749.pdf.md) - [Structured JSON version](/-/media/files/publications/cr/2017/cr1749.pdf.json) --- ### Preface and mission - An MCM technical assistance (TA) mission visited Gaborone from February 24 to March 4, 2016. - Mission team: Messrs. Peter Lohmus (Mission Chief, MCM), Geof Mortlock (Independent Consultant), and David Doran (Central Bank of Ireland). - Meetings held with Deputy Governors Moses D. Pelaelo and Andrew M. Motsomi, Permanent Secretary Solomon M. Sekwakwa (MFDP), senior staff and advisors of the Bank of Botswana (BoB), public officials of the Nonbank Financial Institutions Regulatory Authority (NBFIRA), and private sector representatives. ### Executive summary — main deficiencies identified - Legislative framework for bank resolution and crisis management is weak; BoB lacks some legal powers required for corrective action and resolution. - Corrective action powers: - Too dependent on BoB having exercised examination powers. - Constrained by linkage to de-licensing powers. - Missing contingency plans and guidance on indicative remedial measures based on well-defined triggers. - Once a bank is acutely distressed, BoB powers largely limited to: - Issuing directives to a bank. - Placing a bank into temporary management. - Applying to the court for winding up or commencement of judicial management. - These powers are "not sufficiently certain or wide enough in scope" for effective resolution. - Major amendments recommended to the Bank of Botswana Act (BoBA) and the Banking Act (BA), including remedial amendments to emergency liquidity assistance (ELA) capabilities, corrective action framework, and bank resolution powers. ### Key system observations and statistics - Banking sector size and composition: - Banks’ assets to GDP was 55 percent as of end-2015. - Credit to GDP ratio was 32 percent as of end-2015. - About 15 percent of the balance sheet consists of banks’ claims on the BoB, including central bank securities holdings. - Asset quality and liquidity: - Nonperforming loans (NPLs) remain relatively low at 3.9 percent. - About 70 percent of deposits are corporate deposits (more volatile than household deposits). - Market structure: - 10 commercial banks and 3 state-owned “statutory banks”. - Within commercial banking, 79 percent of banking assets are held by four banks. - Two members of that group held about 46 percent of total banking assets as of end-2015. - Three banks exited the market during 2014–2015. - Recent environment and trends: - High policy interest rates (‘bank rate’) and high yields on Bank of Botswana Certificates (BoBCs) supported profitability historically. - Recent slowdown of the economy and reduction of policy rates have reduced interest rate margins and tightened liquidity. - System has a structural liquidity surplus but uneven distribution, causing idiosyncratic liquidity shortages. - NBFIs and systemic linkages: - Total assets of NBFIs surpass those of the banking sector. - Investment institutions’ assets under management accounted for 44 percent of GDP as of end-2015. - Pension fund assets accounted for about 41 percent of GDP as of end-2015. - NBFIs’ wholesale deposits constitute almost 10 percent of banks’ total deposits and have increased in recent years. ### Emergency Liquidity Assistance (ELA) — recommendations and design features - Purpose and eligibility: - New ELA facility should enable BoB to provide liquidity support to solvent and systemically important banks with urgent liquidity needs who have exhausted eligible collateral for interbank and BoB liquidity-providing operations. - Provide ELA against an adequate—but extended—list of collateral subject to ongoing conditionality of solvency, capital adequacy, and viability, and further restrictions on business activities. - Risk controls and governance: - Put in place detailed and robust risk-control measures to ensure BoB is adequately collateralized and not exposed to undue risks. - Internally document and authorize ELA principles, guidelines, and criteria to be followed so BoB is adequately collateralized and not unduly exposed to potential losses (paragraph 92). - Devise a detailed and robust collateral assessment and valuation approach surrounding ELA (paragraph 95). - Develop clear trigger points and metrics against which provision of funding by BoB to a counterparty can be assessed on an ongoing basis (paragraph 104). - Operational reviews and sequencing: - Review existing liquidity management capabilities of the banking system, including effectiveness of current BoB liquidity-providing market operations and the functioning of the interbank market (paragraph 79). - Establish an ELA framework and clearly set out internal ELA governance and authorization procedures (paragraph 81). - Set clear criteria for when and why to provide ELA, including reliable solvency, systemic importance, viability, and capital assessments (paragraph 84). - Prepare ELA deals to be provided on a T+1 basis where possible. - Collateral, duration, and indemnities: - Reassess BoBA provisions that limit eligible collateral maturities to 184 days and that restrict ELA to 92 or 184 day limits; consider internal ELA guideline instead of rigid statutory caps. - Consider removal of draft BoBA provisions that (i) limit ELA to licensed banks only, (ii) curtail provision to no more than 184 calendar days in all cases, and (iii) require a government guarantee ex ante. - Seek government indemnity typically, but avoid rigid statutory requirement for guarantee that could be counterproductive in some circumstances. - Operational ownership: - Ownership of ELA process should rest with Financial Markets Department (FMD), with close cooperation with Banking Supervision Department (BSD), Financial Stability, Monetary Policy and Payments, Legal, and Risk Management units. - Establish a dedicated Liquidity Analysis Team in Market Operations to lead ELA preparation, execution, monitoring, and reporting. ### Bank corrective action framework - Legal and legislative changes: - Amend BA and BoBA to strengthen legal powers enabling BoB to respond quickly, effectively, and decisively to banking problems, and to strengthen and clarify powers and mandate to extend ELA (paragraphs 19 and 59). - Ensure powers apply to banks and any entity in the regulated banking group (holding companies and subsidiaries), not only to banks. - Strengthen bail-in provisions to include any category of liability other than insured deposits and secured liabilities. - Provide statutory safeguards, defined moratorium limits, and a clear judicial-review framework where compensation is the principal remedy if creditors/shareholders are worse off than in liquidation. - Corrective action framework and contingency planning: - Develop a corrective action framework and contingency plan for responding to banking problems (paragraph 21). - Strengthen early warning system arrangements to enable early detection of bank stress and liquidity vulnerabilities (paragraph 25). - Require BoB to establish and maintain a contingency plan setting out policies and practices for undertaking corrective actions, including guidance on triggers and indicative remedial measures. - Guidance should specify triggers (capital ratios, liquidity positions, loan concentration, NPL ratios) and indicative remedial actions (suspending distributions, curtailing related-party lending, raising capital, replacing management, structural changes). - Institutional capacity: - Engage senior legal advisers and recruit staff with legal qualifications and experience in banking and insolvency law to refine legislation, draft ELA agreements, examine legal risks, mobilize potential ELA collateral, and develop recovery and resolution policy. ### Bank recovery and resolution — planning, tools, and funding - Recovery planning and resolvability: - Require all banks to establish recovery plans and mandate banks to develop, maintain, and regularly test those plans (paragraph 28). - BoB to undertake resolvability assessments and develop resolution plans for at least all systemically important banks (paragraph 39). - Revise and strengthen proposed amendments to BoBA and BA to establish comprehensive powers for bank recovery and resolution, benchmarking against the FSB Key Attributes (paragraph 28). - Resolution toolkit and strategies: - Develop a resolution toolkit including crisis diagnostics, resolvability assessments, resolution strategies and implementation steps, and cross-border crisis resolution guidance (Appendix II). - Resolution strategies to cover: closed resolution and pay-out, transfer of insured deposits, transfer to bridge bank, sale to another bank, recapitalization via bail-in, and government-funded recapitalization as last resort. - Principle: “No creditor or shareholder left worse off than under whole-of-bank liquidation.” - Deposit insurance and resolution funding: - Establish a deposit insurance scheme as part of the crisis management framework; absence of deposit insurance impedes cost-effective resolution and exacerbates depositor runs (Sections I and J). - Develop comprehensive policy proposals for a deposit insurance scheme, with a view to establishing the scheme "within the next two to three years, if possible" (paragraph 46). - Given small banking sector and need to build deposit insurance fund, defer establishment of a separate resolution fund until deposit insurance is well established and target fund reached; interim role of government as last-resort funder is likely (Section 76). - Government-provided resolution funding should be subject to statutory safeguards: - Clear statutory purposes anchored to financial stability. - Requirement that shareholders and creditors have absorbed losses to the extent practicable before drawing on government funds. - Powers to attach enforceable conditions to support provided. - Powers to levy banks to recover net-present-value shortfalls if government funding used. - Suggested statutory triggers for government funding include BoB/MFDP/minister satisfaction that funding is necessary for financial stability, that assessed losses have been absorbed by shareholders and creditors (other than insured deposits), and that recovery of NPV of outlays is feasible. ### Governance, coordination, and institutional arrangements - Internal BoB governance: - Establish a small, senior-level resolution team within BoB, separate from supervision to minimize conflicts of interest, working closely with supervisors and with a separate reporting line. - Establish an internal Financial Stability Committee (FSCOM) within BoB to provide input from supervision, proposed resolution team, financial markets, financial stability, and Payment Systems Department into Board decisions on financial stability; convene FSCOM upon an ELA request to inform the governor (paragraph 83). - Amend BoBA to clarify Board vs governor powers in financial stability functions; allow formal delegation with safeguards. - Require BoB to publish a financial stability report at least every six months, setting out stability analysis, policy developments, and metrics to assess effectiveness. - Inter-agency and cross-border coordination: - Establish an inter-agency Financial Stability Council (FSC) to promote information exchange, cooperation, and coordination between BoB, MFDP, and NBFIRA; FSC should not have resolution or regulatory powers (paragraph 54). - Establish a multilateral Memorandum of Understanding (MoU) on financial crisis resolution between BoB, MFDP, and NBFIRA (paragraph 53). - Establish liquidity management, bank recovery and resolution MOUs between BoB and foreign counterparts; seek participation in supervisory colleges and crisis management groups for systemically important foreign banks (paragraph 56). - Seek MoUs with home authorities of local systemically important banks and maintain regular dialogue; participate in supervisory colleges and crisis management groups where possible. - FSC composition: senior-level representatives of all government agencies with responsibilities relating to financial system stability; FSC should have a written mandate published on authorities’ websites; meeting frequency: regularly (e.g., quarterly) and as necessary during crises. ### Contingency planning, capacity building, and other sectors - Contingency planning: - BoB has not developed contingency plans for implementing different forms of bank resolution; essential to develop internal guidance and contingency plans covering resolution options, recapitalization methods, bridge bank and asset management company procedures, transfer of assets and liabilities, cross-border coordination, and communications. - Training and exercises: - Develop a program of workshops, staff training, and regular bank crisis exercises (Table 1: MT; in-house and cross-agency simulation exercises every two to three years). - High-level workshops for senior management to assess resolution strategies. - Nonbank financial institutions and payment systems: - Significant deficiencies exist in legal powers and policy frameworks for resolution of NBFIs and payment and settlement systems; recommend addressing after substantial completion of bank recovery and resolution framework. - Clarify BoB responsibilities for resolution of payment and settlement system distress in BoBA. - Capacity building: - Build capacity across BoB, MFDP, and NBFIRA for crisis resolution: annual training, periodical crisis exercises, cross-border exercises where possible. ### Table of main recommendations (selected items extracted) - Bank corrective action (Relevant authority; Time) - Amend BA and BoBA to strengthen legal powers for BoB to respond to banking problems and clarify ELA powers. Relevant authority: BoB, MFDP. Time: ST. - Develop a corrective action framework and contingency plan. Relevant authority: BoB. Time: ST. - Strengthen early warning system arrangements. Relevant authority: BoB. Time: MT. - Emergency liquidity assistance - Review liquidity management capabilities and interbank market functioning. Relevant authority: BoB. Time: ST. - Establish an ELA framework and internal ELA governance and authorization procedures. Relevant authority: BoB. Time: ST. - Set clear ELA eligibility criteria including solvency, systemic importance, viability, and capital assessments. Relevant authority: BoB. Time: ST. - Document and authorize ELA principles, guidelines, and criteria to ensure adequate collateralization. Relevant authority: BoB. Time: ST. - Devise a detailed collateral assessment and valuation approach for ELA. Relevant authority: BoB. Time: ST. - Develop clear trigger points and metrics for ongoing assessment of funding provision. Relevant authority: BoB. Time: ST. - Bank recovery and resolution - Devise framework for ongoing ex post monitoring of banks’ use of funds and conditionality on ELA borrowers. Relevant authority: BoB. Time: ST. - Revise and strengthen BoBA and BA amendments to establish comprehensive powers for bank recovery and resolution, benchmarking against FSB Key Attributes. Relevant authority: BoB, MFDP. Time: ST. - Establish a Financial Stability Council to facilitate coordination between BoB, MFDP, and NBFIRA. Relevant authority: BoB, MFDP, NBFIRA. Time: ST. - Establish a Financial Stability Committee within BoB to oversee financial stability. Relevant authority: BoB. Time: ST. - Require banks to establish recovery plans and mandate regular testing. Relevant authority: BoB. Time: MT. - Undertake resolvability assessments and develop resolution plans for systemically important banks. Relevant authority: BoB. Time: MT. - Establish multilateral MoU on financial crisis resolution between BoB, MFDP, and NBFIRA. Relevant authority: BoB, MFDP, NBFIRA. Time: ST. - Establish liquidity management and bank recovery MOUs with foreign counterparts and participate in cross-border crisis management groups. Relevant authority: BoB. Time: MT. - Develop program of workshops, staff training, and regular bank crisis exercises. Relevant authority: BoB, MFDP, NBFIRA. Time: MT. - Develop comprehensive policy proposals for a deposit insurance scheme, with a view to establishing the scheme "within the next two to three years, if possible." Relevant authority: BoB, MFDP. Time: MT. - Develop comprehensive policy proposals for resolution funding arrangements (beyond deposit insurance) with safeguards. Relevant authority: BoB, MFDP. Time: MT. - Review adequacy of resolution arrangements for payment and settlement systems and develop proposals. Relevant authority: BoB. Time: MT. *Source: IMF MCM technical assistance mission report, "1. Key Recommendations."* ### 1. Key Recommendations ................................................................................................. ### 1. Key Recommendations ### Preface and mission - An MCM technical assistance (TA) mission visited Gaborone from February 24 to March 4, 2016. - The mission comprised Messrs. Peter Lohmus (Mission Chief, MCM), Geof Mortlock (Independent Consultant), and David Doran (Central Bank of Ireland). - The mission met with Deputy Governors Moses D. Pelaelo and Andrew M. Motsomi, Permanent Secretary Solomon M. Sekwakwa (MFDP), senior staff and advisors of the Bank of Botswana (BoB), public officials of the Nonbank Financial Institutions Regulatory Authority (NBFIRA), and private sector representatives. ### Executive summary — main deficiencies identified - The current legislative framework guiding bank resolution and financial sector crisis management is weak; the BoB lacks some legal powers required for corrective action and resolution. - Corrective action powers are: - Too dependent on the BoB having exercised examination powers. - Constrained by linkage to de-licensing powers. - Missing contingency plans and guidance on indicative remedial measures based on well-defined triggers. - Once a bank is acutely distressed, BoB powers are largely limited to: - Issuing directives to a bank, - Placing a bank into temporary management, - Applying to the court for winding up or commencement of judicial management. - These powers are "not sufficiently certain or wide enough in scope" for effective resolution. - Major amendments are required to the Bank of Botswana Act (BoBA) and the Banking Act (BA), including remedial amendments to emergency liquidity assistance (ELA) capabilities, corrective action framework, and bank resolution powers. ### Key system observations and statistics - The banking sector of Botswana is relatively small: - Banks’ assets to GDP was 55 percent as of end-2015. - Credit to GDP ratio was 32 percent as of end-2015. - About 15 percent of the balance sheet consists of banks’ claims on the BoB, including central bank securities holdings. - Nonperforming loans (NPLs) remain relatively low at 3.9 percent. - Corporate deposit concentration and liquidity: - About 70 percent of deposits are corporate deposits, which are more volatile than household deposits. - Recent environment: - High policy interest rates (‘bank rate’) and high yields on Bank of Botswana Certificates (BoBCs) supported profitability historically. - Recent slowdown of the economy and reduction of policy rates have reduced interest rate margins and tightened liquidity. - The banking system still has a structural liquidity surplus, but it is distributed unevenly, leading to occasional idiosyncratic liquidity shortages. - Timeframes referenced: - Mission builds on prior work including an IMF LEG TA mission in 2014 and an FSAP concluded in early 2007. ### Emergency Liquidity Assistance (ELA) — recommendations and design features - A new ELA facility should: - Enable BoB to provide liquidity support to solvent and systemically important banks with urgent liquidity needs who have exhausted eligible collateral for interbank and BoB liquidity-providing operations. - Be provided against an adequate—but extended—list of collateral and subject to ongoing conditionality of solvency, capital adequacy, and viability, and further restrictions on business activities. - Risk controls and governance: - Put in place a detailed and robust set of risk-control measures to ensure BoB is adequately collateralized and not exposed to undue risks. - Internally document and authorize ELA principles, guidelines, and criteria to be followed so BoB is adequately collateralized and not unduly exposed to potential losses (paragraph 92). - Devise a detailed and robust collateral assessment and valuation approach surrounding ELA (paragraph 95). - Develop clear trigger points and metrics against which provision of funding by BoB to a counterparty can be assessed on an ongoing basis (paragraph 104). - Operational reviews: - Review existing liquidity management capabilities of the banking system, including effectiveness of current BoB liquidity-providing market operations and the functioning of the interbank market (paragraph 79). - Establish an ELA framework and clearly set out internal ELA governance and authorization procedures (paragraph 81). - Set clear criteria for when and why to provide ELA, including reliable solvency, systemic importance, viability, and capital assessments (paragraph 84). ### Bank corrective action framework - Amend BA and BoBA to strengthen legal powers enabling BoB to respond quickly, effectively, and decisively to banking problems, and to strengthen and clarify powers and mandate to extend ELA (paragraphs 19 and 59). - Develop a corrective action framework and contingency plan for responding to banking problems (paragraph 21). - Strengthen early warning system arrangements to enable early detection of bank stress and liquidity vulnerabilities (paragraph 25). - Further strengthen draft legislation to: - Conferring on BoB specific responsibility for resolution of banks. - Strengthening transparency and accountability of BoB in financial stability assessments and actions. - Legal capacity: - Engage staff with appropriate legal skills and experience to refine draft legislation and enhance BoB capacity to draft ELA legal agreements, examine legal risks and mobilization of potential ELA collateral, develop recovery and resolution policy, and other aspects of supervision. ### Bank recovery and resolution — planning, tools, and funding - Recovery and resolvability: - Develop and implement policies and arrangements to require all banks to establish recovery plans, and require banks to develop, maintain, and regularly test those plans (paragraph 28). - Develop policies and arrangements for BoB to undertake resolvability assessments and develop resolution plans for at least all systemically important banks, and for other banks if resources permit (paragraph 39). - Revise and strengthen proposed amendments to BoBA and BA to establish a comprehensive set of powers for bank recovery and resolution, benchmarking against the FSB Key Attributes (paragraph 28). - Deposit insurance and resolution funding: - Establish a deposit insurance scheme as part of the crisis management framework; absence of deposit insurance is an important gap and impedes cost-effective resolution, and exacerbates depositor runs and contagion. - Develop comprehensive policy proposals for a deposit insurance scheme, with a view to establishing the scheme "within the next two to three years, if possible" (paragraph 46). - Resolution funding beyond deposit insurance is likely required for systemically important banks; suggest establishment of a resolution-funding mechanism in which government is the initial provider of funding, with clear purposes, preconditions, and capacity to attach terms and conditions, and robust safeguards to ensure funding is only provided as a last resort after loss absorption by shareholders and—to the extent practicable—creditors (paragraph 51). ### Governance, coordination, and institutional arrangements - Internal BoB arrangements: - Develop and maintain bank recovery and resolution arrangements by a small, senior-level resolution team established within BoB, separate from supervision to minimize conflicts of interest, but working closely with supervisors and with a separate reporting line. - Establish a Financial Stability Committee (FSCOM) within BoB to provide input from supervision, proposed resolution team, financial markets, financial stability, and Payment Systems Department into Board decisions on financial stability; upon an ELA request, convene FSCOM to bring relevant information to the governor (paragraph 83). - Inter-agency and cross-border coordination: - Establish an inter-agency Financial Stability Council (FSC) to promote information exchange, cooperation, and coordination between BoB, MFDP, and NBFIRA; FSC should not have resolution or regulatory powers (paragraph 54). - Establish a multilateral Memorandum of Understanding (MoU) on financial crisis resolution between BoB, MFDP, and NBFIRA (paragraph 53). - Establish liquidity management, bank recovery and resolution MOUs between BoB and foreign counterparts, and seek participation in cross-border crisis management groups for systemically important foreign banks (paragraph 56). - Seek MoUs with home authorities of local systemically important banks and maintain regular dialogue; participate in supervisory colleges and crisis management groups where possible. - Coordination across BoB departments: - Ensure close coordination between proposed resolution team, banking supervision, financial markets, financial stability, and payment systems given interconnections in recovery and resolution issues. ### Contingency planning, capacity building, and other sectors - Contingency planning: - BoB has not developed a contingency plan for implementing different forms of bank resolution, including resolution strategies and guidance for implementation. It is essential BoB develop internal guidance to be prepared to respond timely and effectively (Executive summary). - Training and exercises: - Develop a program of workshops, staff training, and regular bank crisis exercises to build capacity in crisis resolution (Table 1: MT). - Nonbank financial institutions and payment systems: - Significant deficiencies exist in legal powers and policy frameworks for resolution of NBFIs and payment and settlement systems; recommend addressing these matters after substantial completion of the bank recovery and resolution framework. ### Table of main recommendations (selected items extracted from Table 1) - Bank corrective action - Amend BA and BoBA to strengthen legal powers for BoB to respond to banking problems and clarify ELA powers. Relevant authority: BoB, MFDP. Time: ST. - Develop a corrective action framework and contingency plan. Relevant authority: BoB. Time: ST. - Strengthen early warning system arrangements. Relevant authority: BoB. Time: MT. - Emergency liquidity assistance - Review existing liquidity management capabilities, including BoB liquidity-providing market operations and interbank market functioning. Relevant authority: BoB. Time: ST. - Establish an ELA framework and internal ELA governance and authorization procedures. Relevant authority: BoB. Time: ST. - Set clear ELA eligibility criteria including solvency, systemic importance, viability, and capital assessments. Relevant authority: BoB. Time: ST. - Document and authorize ELA principles, guidelines, and criteria to ensure adequate collateralization. Relevant authority: BoB. Time: ST. - Devise a detailed collateral assessment and valuation approach for ELA. Relevant authority: BoB. Time: ST. - Develop clear trigger points and metrics for ongoing assessment of funding provision. Relevant authority: BoB. Time: ST. - Bank recovery and resolution - Devise framework for ongoing ex post monitoring of banks’ use of funds and conditionality on ELA borrowers. Relevant authority: BoB. Time: ST. - Revise and strengthen BoBA and BA amendments to establish comprehensive powers for bank recovery and resolution, benchmarking against FSB Key Attributes. Relevant authority: BoB, MFDP. Time: ST. - Establish a Financial Stability Council to facilitate coordination between BoB, MFDP, and NBFIRA. Relevant authority: BoB, MFDP, NBFIRA. Time: ST. - Establish a Financial Stability Committee within BoB to oversee all aspects of financial stability. Relevant authority: BoB. Time: ST. - Require banks to establish recovery plans and mandate regular testing. Relevant authority: BoB. Time: MT. - Undertake resolvability assessments and develop resolution plans for systemically important banks. Relevant authority: BoB. Time: MT. - Establish multilateral MoU on financial crisis resolution between BoB, MFDP, and NBFIRA. Relevant authority: BoB, MFDP, NBFIRA. Time: ST. - Establish liquidity management and bank recovery MOUs with foreign counterparts and participate in cross-border crisis management groups. Relevant authority: BoB. Time: MT. - Develop program of workshops, staff training, and regular bank crisis exercises. Relevant authority: BoB, MFDP, NBFIRA. Time: MT. - Develop comprehensive policy proposals for a deposit insurance scheme, with a view to establishing the scheme "within the next two to three years, if possible." Relevant authority: BoB, MFDP. Time: MT. - Develop comprehensive policy proposals for resolution funding arrangements (beyond deposit insurance) with safeguards. Relevant authority: BoB, MFDP. Time: MT. - Review adequacy of resolution arrangements for payment and settlement systems and develop proposals. Relevant authority: BoB. Time: MT. *Source: IMF MCM technical assistance mission report, "1. Key Recommendations."* ### 3. The banking sector in Botswana is moderately concentrated. It consists of ### 3. The banking sector in Botswana is moderately concentrated. It consists of ### Banking sector structure and market concentration - 10 commercial banks and 3 state-owned “statutory banks” (specially chartered banks). - Within commercial banking, 79 percent of banking assets are held by four banks. - Two members of that group held about 46 percent of total banking assets as of end-2015. - Two out of 10 commercial banks have only recently entered the market. - All of the commercial banks are foreign owned in one way or another; some are direct subsidiaries of United Kingdom, South African, and other countries’ banking groups. ### Bank exits and IFSC-related licensing - Three banks exited from the market during 2014–2015. - In February 2015, the BoB assumed temporary management of one bank to “find a resolution to its unsound and deteriorating financial condition.” That bank was licensed as an offshore bank and was conducting all of its businesses overseas as part of the International Financial Services Centre (IFSC) initiative. - In 2014, two foreign subsidiaries voluntarily returned their bank licenses granted under the IFSC umbrella. ### Nonbank financial institutions (NBFIs) and systemic linkages - Total assets of NBFIs surpass those of the banking sector. - As of end-2015, investment institutions’ assets under management accounted for 44 percent of GDP. - As of end-2015, pension fund assets accounted for about 41 percent of GDP. - NBFIs’ wholesale deposits constitute almost 10 percent of banks’ total deposits and have increased in recent years, posing potential propagation and amplification of system-wide contagion. ### Supervision and regulatory responsibilities - The financial sector is supervised by the BoB and the Nonbank Financial Institutions Regulatory Authority (NBFIRA). - The BoB has regulatory and supervisory responsibility for commercial banks, bureaux de change, one deposit-taking microfinance institution, and statutory banks; it also has oversight responsibilities for the payment system. - The NBFIRA supervises nonbank financial institutions, including the insurance industry, pension funds, stock exchange, fund managers, other investment advisory service providers, and micro-lending businesses. - The NBFIRA is accountable to the MFDP. - NBFIRA was established in 2006. ### Prior assessments and legal framework status - The 2007 FSAP recommended establishing a bank resolution framework with internal guidelines tailored to a market with predominantly foreign-owned subsidiaries and recommended internal guidance on triggers, intervention procedures, authority, liquidation issues, and accountability. - Botswana’s current legislation for central banking and banking lags behind the evolving financial sector and best international practices. - The BoBA and the BA last significant revisions date back to 1996 and 1995, respectively, and no longer provide an adequate framework for BoB responsibilities. - The NBFIRA, established in 2006, has stronger powers and a more advanced regime but still has deficiencies relative to international best practice. - A LEG TA mission from April 2014 provided assistance in revising the BoBA and the BA, but limited progress has been made since then. ### Framework elements for dealing with bank distress and failure (as assessed) Key elements the framework should include: - Clearly defined and transparent objectives for dealing with bank distress and failure. - Robust institutional arrangements, including designation of a resolution authority with well-defined responsibilities, resources, and accountability. - Comprehensive legal powers. - Well-developed policies and guidelines for dealing with bank distress and failure, including corrective action, resolution strategies, and a toolkit for implementation. - Requirements for bank recovery planning. - A framework for bank-specific resolvability assessments and resolution plans. - Deposit insurance where a bank is no longer viable. - A means of funding resolution (beyond deposit insurance) when externally sourced funding is required. - Domestic and cross-border cooperation and coordination arrangements. - A program to build and maintain institutional capacity for dealing with bank distress and failure. ### Objectives for bank recovery and resolution - Standard objectives emphasize restoring a bank to sound financial condition and compliance with prudential requirements, maintaining financial system stability, and protecting depositors. - The Key Attributes’ resolution objectives include: - ensuring continuity of systemically important financial services; - protecting depositors, in accordance with deposit insurance arrangements; - allocating losses to shareholders and unsecured and uninsured creditors consistent with the hierarchy of claims; - avoiding reliance on public solvency support; - avoiding unnecessary destruction of value; - providing for speed, transparency, and predictability through legal and procedural clarity and advanced planning for orderly resolution; - promoting effective domestic and cross-border coordination; - facilitating market-based solutions, where practicable. - The current law in Botswana does not set out clear objectives for dealing with bank distress and failure. - Proposed amendments to the BoBA and the BA developed with IMF assistance are largely satisfactory but should be further clarified to strengthen the focus on promoting financial stability in the BoBA and to include objectives in the BA related to banking supervision, corrective action, and resolution (see recommendations in Appendix I). ### Institutional arrangements and designated authority - The law does not explicitly designate a resolution authority; in substance, the BoB functions as the resolution authority by virtue of existing powers, though those powers are inadequate. - BoB proposes amendments to the BA to confer new resolution powers; however, no proposed amendment to the BoBA explicitly designates bank resolution responsibility to the BoB—an amendment to the BoBA is recommended (see Appendix I). - Clarification is desirable of BoB responsibilities for resolution of payment and settlement systems; the BoBA currently lacks reference to the BoB’s role in resolving payment and settlement system distress or failure. - Resolution responsibilities of other agencies, particularly the MFDP, should be explicitly recognized in law. - The NBFIRA should be assessed for appropriate resolution responsibilities and powers for the institutions it licenses and supervises; current law falls short of Key Attributes and best international practice. ### Legal powers required for effective corrective action and resolution Necessary legal powers include the authority to: - require banks to take corrective actions when breaching or likely to breach prudential requirements or operating prejudicially to depositor safety and financial stability; - enable the supervisor to directly change a bank’s operations and structure, including removing and replacing directors and management; - require banks to prepare recovery plans, test them periodically, make required changes, and obtain external reviews where appropriate; - enable the resolution authority to obtain information from banks for resolvability assessment and resolution planning; - require banks to make pre-positioning changes to operations and structure to facilitate resolution; - obtain information for solvency assessments; - declare a bank in resolution and assume control of the bank or appoint an administrator; - implement a range of resolution options upon non-viability triggers, including recapitalization, sale of equity, transfer of assets and liabilities to another bank or bridge bank, bail-in liabilities, establishment of a bridge bank, and transfer of impaired assets to an asset management vehicle; - share information and coordinate resolution actions with domestic and foreign agencies. Other important features: - comprehensive moratorium for a defined maximum period to facilitate resolution; - appropriate safeguards, including specified triggers for exercising resolution powers and a process ensuring no creditor or shareholder is worse off than in conventional liquidation. ### Assessment of existing law and identified deficiencies - Existing law in Botswana is inadequate for effective corrective actions or resolution; BoB’s powers are very limited, impeding quick and effective responses. - Draft proposed amendments to the BoBA and BA are generally comprehensive and aligned with the Key Attributes but contain substantial deficiencies that should be remedied before submission to the MFDP (see Appendix I). Main deficiencies identified: - Legal powers for corrective action and resolution should apply to banks and any entity in the regulated banking group (holding companies and subsidiaries), not only to banks. - Triggers for invoking corrective actions need further specification to enable early intervention. - BoB should be required to establish a contingency plan for corrective action and resolution with clearly identified triggers. - BoB should be empowered to require banks to develop, maintain, and test recovery plans and to require changes to those plans. - BoB should be empowered to undertake resolvability assessments, develop resolution plans, obtain information from banks, and require audits of such information. - BoB should be empowered to require operational and structural changes to facilitate recovery and resolution. - Administration provisions should permit appointment of an administrator to any entity in the regulated banking group. - Administration provisions should allow resolution actions to be implemented at any time after an administrator’s appointment, without delays tied to reporting and BoB consideration. - Bail-in provisions should be strengthened to include any category of liability other than insured deposits and secured liabilities. - Law (possibly via a separate act) should provide for government funding for resolution purposes with appropriate safeguards, defined purposes and preconditions, and capacity to recover funding outlays from the banking industry through levies on banks to cover shortfalls (in net present value terms) from the assets of the bank in resolution. - BoB should be empowered to establish entities to acquire impaired assets from banks in resolution where cost-effective and less disruptive. - Safeguards for resolution powers should be extended and set out precisely in the BA, including processes for determining whether creditors or shareholders are worse off than in liquidation and associated compensation arrangements. - Moratorium provision should be limited in duration. - BA should enable affected parties to seek judicial review of resolution decisions, but courts should be prohibited from suspending the resolution process or ordering changes to resolution decisions, provided BoB and administrators exercised powers in accordance with the BA and not in bad faith. Compensation should be the only judicial remedy to the extent an affected party is rendered worse off than in conventional liquidation. ### Institutional and capacity recommendations - BoB should engage senior legal advisers to review and refine draft amendments to the BoBA and BA, working closely with BoB staff and the MFDP. - BoB should recruit staff with appropriate legal qualifications and experience, especially in banking and insolvency law, as permanent staff to build capacity for supervisory corrective action and resolution functions. ### Corrective action framework recommendations - There is no formalized corrective action policy framework yet; existing prudential requirements for capital, liquidity, and large exposures could form trigger elements. - BoB should develop internal guidance setting out a corrective action framework for ongoing supervision and for banks under financial stress. - Guidance should specify triggers for corrective action, including capital ratios, liquidity positions, loan exposure concentration, and NPL ratios, and set out indicative remedial actions for each trigger. - Indicative remedial actions could include suspending distributions to shareholders, suspending lending to related parties, curtailing new lending, raising additional capital, changing governance and management arrangements, replacing directors and senior management, strengthening risk management and governance, and implementing structural changes in the bank or wider group. *Source: cr1749 - 3. The banking sector in Botswana is moderately concentrated. It consists of (IMF country report).* ### 24. The corrective action guidance should be prepared in accordance with to ### 24. The corrective action guidance should be prepared in accordance with to ### Corrective action guidance — key elements - Should be prepared in accordance with international principles and practice, including the BCBS Guidelines. - Key contingency plan elements for corrective actions: - mechanisms by which the supervisor will become aware of a weak bank and/or systemic problems, including early warning indicators and stress testing; - a methodology and associated capacity for the BoB to assess the solvency and liquidity position of a bank and banking group for the purpose of determining the nature of the remedial measures and, if necessary, resolution measures required; - arrangements to discuss the problems at the bank with its Board and management without delay; - arrangements to conduct an in-depth assessment, including the use of independent experts, if necessary; - arrangements for reporting the assessment findings and who will be informed inside and outside the supervisory agency; - responsibilities for determining the supervisor’s detailed course of action; - the means of communicating and coordinating supervisory action with other relevant parties (in particular, resolution authorities, finance ministries, and central banks); - internal coordination between relevant departments; - arrangements for any public announcement, where appropriate, and the subsequent management of public information; - potential conflicts with the objectives of government or other relevant agencies and how these might be resolved; - mechanisms for monitoring the success (or otherwise) of supervisory actions and adjusting them as necessary; - adequate financial and staff resources for intense supervision, including arrangements for coordinating with, and contributing to, an ongoing resolution planning and resolvability assessment process. ### Early Warning Indicators (Section F) - Findings: - The BoB needs reliable early warning indicators of emerging financial system stress to facilitate prompt response and reduce crisis costs. - BoB conducts regular monitoring and stress testing but lacks a comprehensive framework of early warning indicators. - Suggested increased monitoring in stress events (may include): - data on daily deposits and withdrawals of deposits by category of deposit; - changes in holdings of liquid assets; - the maturity profile of debt (updated regularly); - actual and projected drawdowns on credit facilities; - lending to related parties; - lending to counterparties assessed as being at risk; - bank funding risk premiums; - payments or distributions of any kind to shareholders; - changes in NPLs. ### Crisis Diagnostics (Section G) - Recommendations: - Strengthen internal guidance and capacity to undertake crisis diagnostics, including systemic impact assessment (credit, liquidity, payments and settlements, interbank contagion). - Use FSB and BCBS guidance on domestic systemically important banks as reference material. - Ensure ability to assess solvency and liquidity, including capital position, economic solvency, and liquidity, potentially under acute time pressure. - Develop guidance and framework for asset quality reviews and valuations, including within a compressed timeframe. - Regular testing of diagnostics as part of capacity-building. ### Recovery Planning (Section H) - Findings: - Recovery planning by banks is essential to restore financial soundness after adverse capital or liquidity impacts. - The BoB has not initiated recovery plan requirements or policy guidance. - Recommendations and suggested actions: - Prioritize developing recovery plan requirements, especially for systemically important banks and all licensed banks. - Require banks to prepare recovery plans for two categories of scenario: idiosyncratic shocks; systemic shocks. - Require foreign-owned subsidiaries to prepare recovery plans in conjunction with parent banks under two scenarios: parent sound; parent has adverse impacts. - Establish a small team of senior-level staff responsible for bank recovery and resolution, with a separate reporting line to a deputy governor. - Suggested recovery plan content requirements: - restoration of capital to the required level (including through explicit parent bank support where applicable); - pre-positioning for capital restoration, including through appropriate preparation for asset sales and capital issuance; - maintenance of sufficient liquidity to meet obligations under stressed conditions, including pre-positioning for obtaining liquidity support from a parent bank (if applicable), and other private sector sources; - maintaining depositor and other counterparty confidence; - maintaining the confidence of credit rating agencies, where applicable; - identification of regulatory and other legal obstacles to recovery and how these are to be addressed; - communication with all relevant stakeholders; - coordination required between a parent bank and its subsidiary in Botswana. - BoB support measures to consider: - fast-tracking regulatory approvals for capital issuance; - temporary relaxation of capital requirements pending recapitalization; - temporary relaxation of large exposure limits as a result of a bank’s capital declining, pending recovery. - Testing: - Require all banks to regularly test recovery plans through crisis-resolution exercises. - For foreign subsidiaries, testing should ideally be coordinated with parent bank testing. ### Resolution policy framework - Findings: - No substantive resolution policy framework exists in Botswana; BoB has not developed contingency plans or guidelines for bank resolution, including cross-border resolution. - MFDP has not developed internal guidance on advising the minister about public funding/support in bank resolution, or recovery of shortfalls from the banking industry. - Recommendations: - BoB should develop a comprehensive contingency plan covering significant elements of bank crisis resolution, including: - resolution options (closed resolution, open resolution by sale to another bank, open resolution via transfer to a bridge bank, recapitalization of a failed bank); - methods of recapitalization (cancellation of existing shares, issuance of equity or other capital instruments to new shareholders, bail-in of liabilities); - guidance on implementation of Single Point of Entry (SPE) recapitalization; - guidance on implementation of Multiple Points of Entry (MPE) recapitalization; - guidance on procedures to establish a bridge bank; - guidance on procedures to establish an asset management company; - procedures for transferring assets and liabilities, and rights and obligations, from a failing bank to another bank or bridge bank, and transferring impaired assets to an asset management company; - guidance on coordination with the MFDP and the NBFIRA; - guidance on coordination with foreign resolution authorities; - guidance on communications with stakeholders. - MFDP should develop contingency plan criteria for public financial support, terms and conditions, safeguards to protect taxpayer interests and minimize moral hazard, and means to recover funding outlays (e.g., levies on the banking industry). ### Resolvability assessments - Recommendations: - BoB should undertake resolvability assessment of all systemically important banks to identify cost-effective resolution strategies consistent with financial stability and depositor protection. - Resolvability assessments should be reviewed regularly and updated. - Resolvability assessment components: - identify critical financial and economic functions, their legal entity and jurisdiction locations, and interdependencies; - assess extent of outsourcing of key operational functions and robustness of service-level agreements for continuity to bridge institutions or purchasers; - assess obstacles to separating critical functions and ensuring continuity in resolution; - assess whether the bank could retain membership of FMIs pending resolution and whether a bridge entity could access FMIs; - assess whether arrangements facilitate transfer of payment operations to a bridge institution or purchaser; - assess whether appointment of an administrator or transfer of business could trigger counterparties’ events of default. ### Bank-specific resolution plans - Recommendations: - Develop bank-specific resolution plans for systemically important banks based on resolvability assessments and identified resolution strategies. - Plan contents should include: - the critical functions for the bank and banking group; - inter-dependencies and impacts of resolution actions on business lines, legal entities, financial contracts, markets and other firms; - processes for preserving uninterrupted access to payment, clearing and settlement facilities, and exchanges and trading platforms; - internal processes and systems necessary to support continued operation of critical functions; - processes for cross-border implementation; - communication strategies and processes to coordinate communication with foreign authorities. - Foreign-owned banks: - Plans should identify SPE and MPE resolution options and actions to implement each, in coordination with home authorities (bilaterally or via crisis management groups). - Where home/host coordination is not achievable, develop stand-alone resolution strategies (e.g., SPE recapitalization, bridge bank, or merger options). - Pre-positioning: - May be necessary to require banks to pre-position operations, IT systems, and internal controls to enable separation and transfer of core banking services to a bridge bank or another bank prior to crisis events. ### Deposit Insurance (Sections I and J) - Findings: - Deposit insurance is essential to bank resolution frameworks to provide quick depositor access up to a defined limit, reduce deposit runs, facilitate transfers of deposit liabilities, and reduce government-funded bail-outs. - Botswana lacks a deposit insurance scheme; BoB has analyzed the issue and is developing preliminary proposals, but no substantive government progress. - Recommendation and timeline: - Develop proposals for a deposit insurance scheme as a high priority, with a view to establishing a scheme within two to three years. - BoB and MFDP should jointly develop a paper for referral to the Minister of Finance covering objectives, coverage, limits, functions, institutional arrangements, indicative fund size, funding options, and payout/recovery methods. - Suggested scheme features: - A relatively low deposit insurance limit to minimize moral-hazard risks and funding costs, but sufficient to cover a substantial majority of retail deposits, particularly transaction accounts. - A paybox scheme limited to collecting levies, ensuring single customer view pre-positioning, making rapid payouts or enabling deposit transfers, and recovering funding outlays from failed bank assets; the agency would not be a resolution authority. - Arrangements to enable depositors to be paid or otherwise given access to their deposits, up to the defined limit, within seven days of the closure of a bank. - Decision on affiliation to BoB or a stand-alone agency with separate governance. - Safeguards limiting fund use to protection of insured depositors and only up to the amount that would have been paid under a least-cost option, net of asset recoveries. - Funding by levies on banks, allowing the fund to reach its target over a reasonable period (e.g., 10 years); initially a uniform rate per deposit with scope to move to a risk-based levy. - A government funding line for additional resources if fund shortfalls occur; scheme to levy banks to repay any government debt plus interest and/or recover from failed bank assets. *IMF Country Report excerpt.* ### 48. In the case of a closed resolution, where a bank is closed and liquidated, funding ### cr1749 - 48. In the case of a closed resolution, where a bank is closed and liquidated, funding ### Funding sources and sequencing for resolution - In a closed resolution (bank closed and liquidated), funding to repay insured depositors would come from the proposed deposit insurance scheme. - Where a bank is kept open in some form (recapitalization, transfer to bridge bank or another bank), additional funding may be required for: - temporary guarantee of a resolved bank’s liabilities; - an indemnity to particular parties; - funding for recapitalization or business transfers where bail-in is not sufficient or practicable. - General rule: external funding should only be provided once all assessed losses in the failed bank have been fully absorbed by shareholders and then by creditors in accordance with the ranking of claims in a winding up. - External funding would only be drawn on where: - the bank in resolution has insufficient funding to complete the resolution; or - a decision has been made to exempt some categories of liability from bail-in (e.g., derivatives obligations). - Main options for resolution funding: - a resolution fund financed through levies on banks (often supplemented with a credit line); or - funding from the government. - Given the small size of the banking sector in Botswana and the need to first establish a deposit insurance scheme funded by banks, it is suggested that establishment of a resolution fund be deferred until deposit insurance has been well established and the deposit insurance fund has reached an appropriate target level. - Interim implication: the government will likely be the source for resolution funding, possibly on an ongoing basis, subject to important safeguards. - The draft amendments to the BA provide for the government to provide resolution funding; Appendix I notes the need to review and amend the draft provision to strengthen safeguards for the use of government funds for bank resolution. ### Recommended law and statutory safeguards for government-provided resolution funding - Recommendation: BoB and MFDP should develop proposals for a new law to provide for government funding for bank resolution, subject to safeguards including: - A clear set of statutory purposes for any financial assistance, anchored to maintaining the stability of the financial system; government funding could only be provided when the BoB, the MFDP, and the minister are all satisfied that funding is needed to protect financial system stability. - A requirement that all estimated losses in the failed bank have been fully allocated to shareholders and creditors to the extent practicable, and all market-based sources of funding have been drawn upon before external resolution funds are considered. - Powers to attach enforceable conditions to any support provided in a bank resolution. - Powers to levy banks to the extent that the government does not fully recover the amount of disbursements, including interest, in net-present-value terms. ### Statutory triggers for provision of government funding - Suggested statutory triggers to consider: - The provision of funding is considered by the MFDP and the BoB to be necessary for preserving financial system stability and other statutory resolution objectives. - The government is satisfied, on the advice of the BoB and the MFDP, that all assessed losses have been absorbed by the shareholders and creditors—other than insured deposits—of the failed bank, except where the BoB believes it would be contrary to resolution objectives to impose losses on certain categories of creditors. - The government is satisfied, on the advice of the MFDP and the BoB, that funding or financial support can be structured in a manner consistent with maximizing the probability of recovering the full NPV of funding outlays, to the extent practicable, over time, or of recovering losses through levies on the banking industry. - The minister, the MFDP, and the BoB are satisfied that funding or financial support can be provided on terms that enable all material risks associated with providing support to be prudently managed. ### Domestic coordination: MoU, FSC, and coordination structures - Essential coordination among BoB, MFDP, and NBFIRA in responding to bank distress or failure. - Recommendation: establish a multilateral Memorandum of Understanding (MoU) setting out respective responsibilities, including cooperation and coordination for: - assessment of the systemic and wider economic impact of a bank in distress; - assessment of the financial position of the bank, including capital position, solvency and liquidity; - options for resolution (assuming recovery not feasible) and assessment of each option; - matters for coordination with foreign counterparts, where applicable; - options for facilitating capitalization of the bank or recapitalization of a bridge bank; - possible need for resolution funding or other forms of government financial support; - key stakeholders for communication and coordination responsibilities. - Recommendation: establish an FSC or similar body to coordinate and oversee monitoring of financial stability and coordinate bank resolution and financial sector stability issues. - FSC composition: senior-level representatives of all government agencies with responsibilities relating to financial system stability, regulation, and resolution. - FSC should have a written mandate published on authorities’ websites. - FSC should not have regulatory or resolution powers; those remain with member agencies. - FSC meeting frequency: regularly (e.g., quarterly) and as necessary during a banking crisis. - FSC chair: could be the BoB governor or on a rotating basis. - Recommendation: establish working groups or sub-committees of the FSC as needed; specifically, a permanent FSC sub-committee chaired by the BoB and comprising senior staff from all member agencies to coordinate policies, processes, and procedures relating to bank resolution and financial crisis management. ### Cross-border coordination - Botswana financial system is dominated by foreign-owned banks; cross-border cooperation and coordination is essential. - Current status: no substantive cross-border coordination arrangement for effective bank recovery and resolution; some MoUs exist but are basic information-exchange agreements with only brief bank crisis resolution provisions. - Recommendation: BoB should seek MoUs on bank recovery and resolution with counterparts in parent-bank home jurisdictions, particularly for systemically important banks, including provisions to facilitate cooperation on: - assessment of capital and liquidity position of parent bank and subsidiary; - recovery planning, resolvability assessments and resolution planning; - guidance on implementation of resolution options, identifying responsibilities and coordination of home and host authorities, including SPE and MPE implementation guidance; - burden-sharing arrangements between parent authorities and Botswana authorities, where practicable; - key stakeholders for communication and coordination responsibilities. - Recommendation: BoB should seek to participate in supervisory colleges and crisis management groups of foreign banks with a systemically important presence in Botswana; where full participation is not possible, establish a lower level of participation to remain informed of supervisory developments and recovery and resolution planning. ### Capacity building for crisis resolution - Important to build capacity across all agencies on bank crisis resolution, especially BoB. - Suggested initiatives: - High-level workshops for senior management to assess different resolution strategies and refine contingency plans. - In-house and cross-agency training as ongoing capacity building: annual training for supervision and resolution staff and staff involved in liquidity support, payment system, and financial stability issues, as well as relevant MFDP and NBFIRA staff. - Periodical crisis exercises: - In-house exercises within BoB to test resolution functions. - Cross-agency crisis simulation exercises every two to three years involving BoB, MFDP, and NBFIRA. - Explore cross-border exercises with applicable parent authorities. ### Emergency Liquidity Assistance (ELA): legal powers and framework recommendations - Review of existing BoBA provisions: - Existing BoBA contains provisions allowing ELA to be extended to banks, but some provisions are too general and may permit provision without adequate collateral (BoBA 1996, Part VII, Section 38 ‘Operations with account holders’ sub-sections 3(a) and (b)). - Other existing provisions are too specific and may unduly curtail BoB’s ability to provide ELA; specifically, Section 38 indicates credit can be provided up to a maximum of 92 days and links eligibility of collateral to sub-section 2 of Section 38, restricting eligible securities to those maturing within 184 days. - Draft BoBA Revision 4 (June 16 2015) Part IX, Section 47 ‘Lender of last resort’: - Tightens general provisions by making explicit that BoB can only provide ELA to a licensed bank where the recipient is solvent and can provide adequate collateral and where provision is based on need to improve liquidity (not to improve solvency). - Draft incorporates additional references to BoB objectives (Part II, Section 4 ‘Objectives of the Bank’) including stability of the financial system. - Concerns with draft BoBA provisions: - The draft stipulates ex ante that provision of ELA may not exceed 184 calendar days in all cases; this could be unduly restrictive where a credible recapitalization plan requires longer ELA. - Draft explicitly limits ELA provision to licensed banks only, excluding other systemically important financial entities. - Draft contains a requirement that a guarantee will be sought from the minister to ensure amounts owing to BoB under ELA will be guaranteed; while recommended in most cases, a government guarantee could sometimes negatively affect the sovereign rating and create further instability. - Recommendations regarding the draft BoBA: - Consider amending the draft BoBA to remove: - the ex ante restriction on provision of ELA to licensed banks only; - the provision curtailing provision of liquidity support to no more than 184 days in all cases; - the provision requiring a guarantee from the government. - If BoB grants ELA to entities outside licensed banks, ensure: - these entities are either directly or indirectly regulated by BoB; and - BoB fully understands the underlying liquidity need and puts in place measures to prevent (re)occurrences of regulatory arbitrage. - Alternative approach: address granular ELA policy decisions in a comprehensive internal BoB ELA decision and framework policy document or accompanying ELA guideline approved by BoB’s Board and the governor. Such policy documents would cover: - eligible ELA recipient entities and duration of provision; - collateral eligibility and risk criteria; - oversight and other policy decisions; - facilitate timely amendment of criteria as circumstances necessitate. *IMF technical assistance report excerpt (selected sections).* ### 67. While it is outside the terms of reference of this mission to deal comprehensively ### While it is outside the terms of reference of this mission to deal comprehensively ### Monetary policy operations and compatibility with ELA - Existing monetary policy operations must act as an initial shock-absorber to liquidity stress and be compatible with an ELA framework; ambiguity or overlap between normal liquidity-providing monetary operations and an ELA operation could impair monetary policy transmission. - The BoB conducts monetary policy in an excess liquidity environment; interbank market rates are close to the interest rates paid by the BoB through absorption operations. - The BoB’s main operation is to offer 14-day liquidity absorption auctions on a weekly basis. - Ninety-one-day paper is also auctioned once a month. - A reference rate is set by the Monetary Policy Committee (MPC) and a maximum absorption amount is specified, although in practice the BoB has absorbed larger amounts than the maximum limit specified for the tender. - If excess liquidity remains on a daily basis, an overnight fine-tuning absorption operation—reverse repo—mops up the remaining liquidity. ### Current liquidity-providing mechanisms and their limits - Primary straightforward access to BoB liquidity for banks is on an overnight basis via a repo operation against a narrow list of collateral. - After settlement closing, a bank can automatically access the overnight credit facility subject to having sufficient eligible collateral and up to one-third of the bank’s agreed quote (150 percent of core capital) at a rate of the Bank Rate plus a margin. - At time of writing, the repo rate is 5.5 percent, the Bank Rate is 6 percent, and the CF margin is 6 percent, equating to an overnight credit facility rate of 12 percent. - A bank can borrow in excess of its agreed quote subject to sufficient collateral and a BoB-specified threshold, but at a much more penal interest rate analogous to an ELA facility; at the time of writing, the penal interest rate for borrowing under the extended credit facility in excess of one-third of the bank-specific limit, known as special repo or secured lending facility, is 50 percent. - There exists a theoretical unsecured facility at Bank Rate for up to three months, requiring application to the governor; the facility is undocumented and analogous to a lender-of-last-resort operation. ### Interbank market functioning and fragmentation - Evidence of increasing fragmentation in the interbank market as liquidity tightens: big banks and smaller banks do not easily transact with each other and there is unwillingness to document agreed credit lines between banks. - Contributing factors include counterparty credit risk concerns and banks’ desire to purchase BoBCs to meet liquid asset regulatory requirements. - Banks are placing money with the BoB (in the BoBCs) at a little over 1 percent while their average cost of funding is closer to, or above, the bank rate (6 percent), which helps explain low interbank rates close to BoB absorption rates. - TA reports (2007 FSAP and 2012 TA) highlighted shallowness of the interbank money market, low transaction volumes (mostly overnight), and a two-tiered market where large banks trade among themselves but not frequently with small banks; small banks may be forced to use BoB facilities even when the system is in excess liquidity. ### Vulnerabilities under tight liquidity conditions - If liquidity conditions become tight, the fragmented interbank market and limited willingness to transact would be amplified, and the market would be unlikely to function well. - The BoB’s current ability for banks to access funding for normal liquidity management is largely limited to an overnight basis. - Existing overnight liquidity-providing standing facilities (Credit Facility and Secured Lending Facility) have strict limits and penal interest rates that make them analogous to an ELA facility; overlap with ELA rationale and disincentives should be examined. - There is a possibility that the undocumented Bank Rate operation (bilateral unsecured funding up to three months) could be subsumed by an ELA facility and should be assessed accordingly. ### Recommendations for liquidity operations and ELA sequencing - Consider offering secured term credit-providing operations simultaneously with active term liquidity-absorbing operations to ease tight liquidity—e.g., offering a 14-day liquidity providing tender at the same time as the main 14-day BoBC issuance tender to create a two-sided term market operation consistent with monetary policy objectives. - Consider whether the Bank Rate should become the minimum bid rate for longer-term liquidity-providing repo operations to anchor the policy rate to the main liquidity-providing operation. - It is advisable that banks have access to a certain amount of central bank liquidity in the normal course of business, prior to reaching the need for ELA. - Access to liquidity-providing monetary policy and overnight operations should be subject to tender limits consistent with monetary policy stance and availability of eligible collateral; only then should ELA funding be considered against a broader set of collateral for a solvent bank unable to source other market funding to meet normal business liabilities. - A 14-day liquidity providing operation should not conflict with the need to absorb liquidity when sterilization is required; it should be a mechanism for banks short due to inefficient allocation of excess liquidity in the interbank market to obtain liquidity using high-quality eligible collateral. - The BoB would need to adjust liquidity forecasts and absorption operations so that more active sterilization produces overall liquidity conditions consistent with monetary policy objectives. - Given market confusion about BoB’s precise policy stance and concerns over the cost of absorbing excess liquidity, technical assistance (TA) in monetary policy implementation is suggested. - Given the vulnerabilities identified, prepare an ELA framework and the capacity to take additional types of collateral as soon as possible. - Further TA should examine the overall monetary policy framework in more detail and in conjunction with money market functioning, forex policy, and consistency with provision of ELA; collateral eligibility windows (e.g., BoBA limits certain eligible collateral to maturities within 184 days of purchase) could be reconsidered with pricing and haircut categories by maturity. ### ELA governance and executive decision making - The BoB should establish an ELA framework to respond to idiosyncratic liquidity needs of banks; temporary liquidity may be provided at the initiative of the counterparty and at a penalty rate, at the BoB’s discretion, distinct from monetary policy. - Internal BoB ELA governance and authorization procedures should be clearly set out; the initial decision whether to provide ELA should be taken by the correct authority (Board or delegated to governor) and be implementable quickly in an emergency. - It is recommended that an internal BoB Financial Stability Committee (FSCOM) be established; this committee would meet at least once a month to discuss information relevant to financial stability. - Upon an ELA request, the governor should be informed of the views and key information from BoB departments; a meeting of FSCOM would be convened to present relevant information for an informed decision. - Clear criteria for providing ELA should be set out, including reliable solvency, viability, and capital assessments; ELA should be temporary and provided to solvent entities only when they cannot obtain market funding to meet critical liabilities, and for only as long as the liquidity shortage exists. - LOLR resources must be provided only to temporarily illiquid but solvent institutions; ELA should not support insolvent institutions or substitute for resolution of problem banks. - Distinguishing liquidity support from capital support can be difficult under tight timelines; best efforts should be made to assess solvency at the time of request, and strict short-term conditions and deadlines should be set and adhered to. - Advance planning and diligence should be carried out in anticipation of ELA applications to reduce the need to opine on solvency under time pressure. *Source: cr1749 - 67.* ### 87. Some indicators may be useful to signal potential insolvency. Having a positive ### cr1749 - 87. Some indicators may be useful to signal potential insolvency. Having a positive ### Indicators, capital adequacy, and recapitalization requirements - Having a positive level of capital in itself is not sufficient to fulfill capital adequacy requirements and may introduce moral hazard issues. - Compliance with prescribed supervisory ratios should be required. - Approved recapitalization and/or restructuring plans should be required for institutions that: - have levels of capital below minimum prescribed levels; and - are in need of, or are drawing down, ELA. - A timeframe can be defined to restore the capital ratios to the regulatory requirement; missed targets within set timelines should push the lender toward deciding whether the borrower is non-viable and likely insolvent. - Compliance with regulatory liquidity ratios can guide a liquidity assessment, but other qualitative elements are needed (e.g., counterparty quotes, supervisors’ and market participants’ assessment). Prolonged liquidity need may indicate more fundamental problems (e.g., bad business management). (See footnote 27.) ### Insolvency, viability, and interaction with ELA and resolution regimes - Banks that are insolvent, not viable, or have no prospect of reaching sound and sustainable capital levels should be wound down rather than funded through ELA. - Adoption of an ELA framework should be complemented by a comprehensive resolution regime to liquidate or merge banks and create bridge and wind-down entities where necessary. ### Systemic importance and eligible recipients of ELA - ELA should be provided only to systemically important banks; the definition of ‘systemically important’ may depend on the circumstances at each point in time. - ELA access is often limited to financial institutions that hold reserve accounts at the central bank (typically commercial banks), but some countries allow access to systemically important entities or institutions whose default would cause contagion across the system. (See footnote 28.) - Systemic importance considerations: - Direct impact on financial stability if the entity were refused support and allowed to fail. - Wider considerations, such as whether public confidence or sentiment in the financial system would deteriorate substantially if support were refused, leading to financial instability. ### ELA to subsidiaries of foreign parent banks — additional complications and prerequisites - Provisions of ELA to subsidiaries of foreign parent banks carry additional complications (relevant to BoB given most banks in Botswana are subsidiaries of foreign-owned banks), including: - risk that the local bank may upstream funds to the parent; and - risk that the parent may no longer support the local subsidiary. - Before providing ELA to subsidiaries of foreign-owned parents, further steps to give comfort to the BoB should be sought, including: - evidence from the parent that alternative funding cannot be sourced from other parts of the banking group or from the parent’s central bank; and - an MoU between the home and host central banks (or supervisory authority) for the sharing of prudential information so that the financial position of the local entity and the group can be assessed. (See footnote 29.) ### ELA principles, guidelines, and criteria - Solvency and systemic importance are key initial considerations to provide ELA, but additional principles/guidelines are necessary to ensure the BoB is adequately collateralized and not unduly exposed to potential losses. - The BoB should document and duly authorize internal ELA principles, guidelines, and criteria. - Important factors to consider include collateral adequacy, collateral recoverability, and length of ELA provision. (Appendix VIII referenced for more detail.) - Duration limits: - Duration of ELA may be longer during a systemic liquidity crisis than in normal times, but ELA should still be temporary. - A total of one year of continuous (rolling) ELA provision would be considered as the outer limits in most cases. - In restricted circumstances, a central bank may continue ELA for an extended period to a bank being wound down after receiving ELA—central bank controls may need to be extensive; transfer to a resolution vehicle and use of a deposit guarantee fund advisable. - The BoB may identify an explicit or implicit risk-tolerance level to guide the extent of risk when providing ELA (e.g., implicit removal from funding if a bank is likely to become insolvent, or explicit measures such as Value at Risk (VaR)). - A detailed and robust collateral assessment and valuation approach is necessary, including pricing and haircut methodologies and rigorous valuation techniques benchmarked against other central banks. (Appendix IX referenced.) ### Guarantees, government indemnity, and collateral from parent banks - The BoB should typically seek a direct indemnity from the MFDP that it will make good any losses incurred by the BoB in the course of an ELA operation so that the government’s obligations to the BoB rank at least pari passu with other government obligations. - Proposed draft amendments to the BoBA contain a proposal that “the minister has issued to the bank a guarantee in writing on behalf of the government securing the repayment of the loan” (noted as discussed further). (See footnote 30, 31.) - In circumstances where a bank has no adequate collateral available, an additional specific guarantee from the minister may be sought to cover advancement of agreed amounts of ELA. - Given predominant foreign ownership of commercial banks in Botswana, the BoB may consider taking collateral from foreign parent banks of subsidiaries if the parent cannot provide liquidity support: - Collateral from the subsidiary is usually preferable; if inadequate, the parent may provide suitable collateral. (See footnote 32.) - Taking collateral from a foreign parent requires additional due diligence and legal oversight: - It may not always be legally possible to take charge over collateral located in a foreign parent bank; legal advice is needed on charge or repo agreement enforceability, jurisdiction, and cross-border implications on default. - Tradable securities may be the only practical ELA collateral from foreign parents; mortgages or claims over real estate/commercial assets may not be enforceable cross-border. - Mobilized parent collateral may require additional pricing and haircuts if greater risks exist compared to domestic equivalents. ### Operationalizing the provision of ELA - Ownership of the ELA process (preparation, collateral, policy, implementation) should rest with the Financial Markets Department (FMD) of the BoB. - Close cooperation between FMD and Banking Supervision Department (BSD) is essential; interaction with Financial Stability, Monetary Policy and Payments, Legal, and Risk Management units is important. - Detailed ELA organizational and workflow plans are recommended, including a designated liquidity analysis team in FMD to analyze banks’ funding flows and potential ELA drawdown requirements. - Enhanced monitoring by FMD of counterparties’ liquidity needs and projections should commence after a BoB early warning indicator is triggered or based on counterparty-provided information. - ELA deals should generally be provided on a T+1 basis (especially where the decision to provide ELA has already been made by the governor in response to the initial request). - Clear procedures and contact details should be agreed between BoB staff involved in ELA provision and relevant counterparties; ELA trial runs or simulation exercises are useful but do not represent a pre-commitment by the BoB. ### Ongoing oversight, conditionality, and enforcement - Adequate oversight and conditionality should monitor ELA recipient entities and collateral to encourage market funding where possible (see Appendix XI). - Strong conditionality may be necessary to protect the BoB balance sheet, with a dedicated risk management view monitoring compliance with established conditions. - Clear trigger points and metrics should be developed to assess ongoing provision of funding; develop key indicators (real time and forward looking) to inform decisions on continued ELA provision or whether the counterparty is not viable and should be wound down or resolved. - Ongoing continuous assessment of ELA criteria should be made when important developments occur or at least monthly; assessments prepared jointly by an ELA working group and submitted to decision makers (e.g., governor chairing an FSCOM meeting). - Supervision is responsible for solvency assessment. - Early warning indicators and opinion on viability prepared jointly by market operations, supervision, and financial stability. - Ex post monitoring of use of funds, business practices, transactions, and additional conditionality should be carried out (Supervision Inspection Department could perform this with legal consultation). - Risk-management-tasked staff typically oversee collateral, documentation, and related terms and conditions. - Non-adherence to ELA conditions and compliance targets (e.g., inaccurate certification or data, undue delay in updating internal data or credit rating systems) should result in: - removal of that collateral from ELA operations; and - reduction of ELA provision if necessary. - Where ELA was provided quickly without full due diligence, the BoB should check progress of retrospective due diligence committed by borrowing banks. - Non-compliance with conditions or due diligence should render the concerned collateral ineligible for ELA operations and withdrawn; if no suitable substitute collateral is available or the entity cannot repay ELA within a short time frame, the situation should be treated as an initial ELA request without eligible collateral—either: - (i) a government guarantee would be required to substitute the collateral; or - (ii) an alternative source of funding would be required to repay the ELA amount being recalled (e.g., capital/investment from government or resolution/recovery process). ### Appendix I — suggested legislative improvements (summary of policy substance) - Suggestions focus on policy substance for proposed amendments to the BoBA and BA; legal advisers should review draft amendments and develop appropriate revisions. - Section 4. Objectives of the Bank: - Consider whether the objective of financial stability should rank equally with (rather than be subordinated to) the price stability objective. - Consider replacing “contributing to the stability of the financial system” with “promoting the stability of the financial system.” - Section 5. Functions of the Bank: - Amend to explicitly designate the BoB as the resolution authority by stating a function to facilitate resolution of banks. - Include reference to BoB’s function to undertake corrective actions to restore a bank to financial soundness. - Amend BoBA to require the governor/Board to ensure supervision and resolution functions are established to avoid conflicts of interest and ensure robust accountability. - Financial Stability Committee (FSCOM): - Recommend amending the BoBA to establish an FSCOM to oversee coordination of financial stability functions (licensing, regulation and supervision, resolution, ELA, financial stability surveillance and policy). - Provisions could be modeled on draft sections for the MPC, with membership determined by the governor and potential external members. - Financial stability report: recommended as part of the wider set of reforms. *Source: cr1749 - extract.* ### 6. In order to provide focus to the financial stability functions of the BoB and to ### 6. In order to provide focus to the financial stability functions of the BoB and to ### Financial stability reporting - Include a new provision in the BoBA requiring the BoB to publish a report, at least every six months, that: - sets out its analysis of the stability of the financial system; - summarizes relevant policy developments relating to financial stability; and - provides a range of metrics with which the effectiveness of financial stability policies and actions can be assessed. ### Section 12. Establishment, powers, and functions of the Board - Amend section 12 to include reference to the Board’s functions in relation to the proposed FSCOM, broadly consistent with the Board’s functions as they relate to the Monetary Policy Committee (but modified to reflect the functions of the FSCOM). - Clarify the Board’s powers (vis-à-vis the governor’s powers) in relation to all financial stability functions, especially functions related to dealing with bank distress and failure. - Ensure absolute clarity as to who is empowered to exercise the BoB’s powers in relation to bank corrective actions and resolution (the Board, the governor, or the proposed FSCOM). - Ensure the Board can formally delegate powers in these areas, within appropriate safeguards, to the governor, and for the governor to sub-delegate those powers to enable swift BoB action. ### Section 18. Powers and functions of the governor - Amend to include reference to the proposed FSCOM, and clarify whether the committee is a decision-making body in relation to all financial stability matters or an advisory body such that decision-making authority is vested in the governor. ### Section 43. Supervisory functions - Amend to include reference to the BoB’s functions in relation to bank corrective actions and resolution; consider changing the title to “Supervisory, remedial and resolution functions.” ### Section 46. Operations with account holders - Reconsider the sub-section 2(a) provision that limits dealing in certain collateral to those maturing within 184 days from the date of acquisition; assess necessity and consider accepting longer dated collateral with additional risk controls such as pricing and haircuts. ### Section 47. Lender of last resort - Consider removing some explicit criteria from section 47 and include them instead as best practice principles in an accompanying ELA guideline or ELA policy document approved by the BoB’s Board or the governor. - Recommended amendments to remove: - the ex ante restriction on provision of ELA to licensed banks only, to allow consideration of ELA to other systemically important financial entities; - the restriction on provision of liquidity support to no more than 184 days in all cases; - the stipulation that the minister has issued to the bank a guarantee securing the repayment of the loan. - Rationale: Explicitly stating these in the BoBA may unduly restrict the BoB in providing ELA in a range of circumstances. ### Section 53. Cooperation with the government and other authorities - In subsection 2, reference the financial stability functions of the BoB and require the governor to hold meetings at least biannually with the minister on monetary, financial stability and fiscal policies, and other matters of common interest. Suggested rewording: “The governor shall hold regular meetings, and at least on a biannual basis, with the minister to consider monetary, financial stability and fiscal policies, and other matters of common interest.” ### Section 71. Legal protection - Consider including a provision exempting the BoB from liability arising from the exercise of its powers relating to bank corrective action and resolution, provided the powers are not exercised in bad faith (i.e., fraudulently). ### Banking Act — Powers in relation to banking groups - Amend the draft BA to enable the BoB to exercise corrective action and resolution powers in relation to banks and banking groups (where banking groups include bank holding companies and bank subsidiaries). ### Section 24. Liquidity management in banks - Insert wording such as “or at higher frequency as may be directed by the central bank from time to time” after the word “monthly” in sub-section (3) to avoid ambiguity. - Clarify sub-section (6) which requires a bank not to pledge or encumber any portion of its liquid assets without prior authorization of the central bank: - Determine whether this applies only to the 10 percent liquid assets ratio or to all liquid assets; clarify motivation and scope to avoid hindering banks’ use of liquid assets as collateral in markets. ### Section 49. Corrective measures, administrative penalties and other enforcement actions - Amend so that powers can be exercised in relation to banks and banking groups. - Expand grounds for exercising powers so the BoB can act before a bank or banking group has breached the Act or prudential requirements, and before the ‘unsafe or unsound’ trigger is breached—enabling early-stage corrective action where the BoB has concerns that business conduct could lead to an unsafe or unsound situation. - Suggested additional powers to include: - Power for the BoB to remove and replace a director or senior officer of a bank and any member of the banking group where necessary to implement timely and effective corrective action (extend current draft power beyond banks to all entities in the regulated banking group). - A general power for the BoB to issue directions to a bank or any member of the banking group to take or cease actions specified by the BoB to assist in achieving timely and effective corrective action. ### Requirement to establish a contingency plan - Include a provision requiring the BoB to establish and maintain a contingency plan setting out policies and practices for undertaking corrective actions, including guidance on triggers for particular actions and the nature of potential actions. - Recommend that the BoB regard BCBS guidance in the Core Principles and Guidelines for Identifying and Dealing with Weak Banks when developing its contingency plan and internal guidance. ### Section 51. Commencement of official administration - Add a trigger enabling the BoB to appoint an administrator if it believes a bank or any member of a banking group is non-viable and cannot restore viability within the timeframe regarded as necessary by the BoB. - Empower the BoB to appoint an administrator to any member of a banking group. ### Non-viability - Draft a new section requiring the BoB to establish and publish guidance on how it interprets “non-viability” as a trigger for appointing an administrator and undertaking resolution actions. ### Section 52. Objectives and tasks under official administration - Align objectives more closely with the Key Attributes, including: - ensuring continuity of systemically important financial services; - protecting depositors in accordance with deposit insurance arrangements; - allocating losses to shareholders and unsecured and uninsured creditors in a manner that respects the hierarchy of claims; - avoiding reliance on public solvency support; - avoiding unnecessary destruction of value; - providing for speed, transparency, and predictability through legal and procedural clarity and advanced planning for orderly resolution; - promoting effective domestic and cross-border coordination; and - facilitating market-based solutions where practicable. ### Section 53. Appointment of an administrator - Consider amendments to: - enable the BoB to appoint an administrator for an initial term of up to one year, with capacity to extend the term for a further year; - enable the BoB to replace an administrator; - empower the BoB to issue binding directions to an administrator on any matters relating to the administrator’s powers and obliging the administrator to comply. ### Section 55. Inventory of assets and liabilities and plan of action - Recommend substantially deleting section 55 in its current form because: - It requires the administrator to submit a restructuring plan or proposal for liquidation within 60 days, with the BoB given a further 10 days—this timeframe is unnecessarily restrictive and could create prolonged uncertainty. - If retained: - Require the administrator to deliver reports within the timeframe specified by the BoB; - Empower the administrator to make recommendations for resolution or liquidation to the BoB; - Remove the fixed timeframe and empower the BoB to issue directions to the administrator to implement specified resolution actions any time from commencement of administration. ### Section 56. Resolution measures - Amend so any resolution actions in this section and section 54 can be implemented at the BoB’s direction at any time following commencement of administration, regardless of whether the administrator has made recommendations. - Rationale: Time is of the essence in bank resolution; the BoB should be empowered to determine resolution actions without waiting for administrator reports. ### Bail-in (section 54) - Broaden the bail-in provision beyond a bank’s bonds and notes to apply to any unsecured liability (other than deposits covered by deposit insurance) of the bank in administration, through conversion to equity or other eligible loss-absorbing instruments, or through write-down. ### Bridge bank (section 56(6)) - Amend to align with conventional practice: - The bridge bank should be established by the BoB (not the administrator). - The bridge bank may continue in existence beyond the proposed two-year period where necessary to transition to new, permanent ownership or merger or liquidation. - The bridge bank should not be owned by the BoB; ownership should be by shareholders and/or bailed-in creditors, or by the government or a resolution fund if they provide equity funding. If funding from shareholders and creditors is insufficient, the government or a resolution fund should provide equity. - The initial Board of the bridge bank should be appointed by the BoB, pending establishment of standard governance under shareholder control. - Rationale: Central banks should not provide equity funding/solvency support to banks or be owners of banks. ### Section 57. Moratoria during official administration - Current provision creates an open-ended moratorium that may allow suspension of financial obligations for an unlimited period; retail deposit suspension is capped at 10 days. - Amend to align with moratoria guidance in the Key Attributes and place a relatively short maximum limit on suspension periods. - Example: For derivatives obligations, current international thinking is for a moratorium that prohibits counterparties from exercising rights under events of default clauses for a period of just two to three days. ### Section 58. Creditor safeguards - Amend so creditor safeguards apply to all resolution actions (not only transfers of assets and liabilities), including bail-in (conversion or write-down), transfers, and capital restructuring. - Clarify the process for determining compensation, including: - whether the independent valuer is appointed by the BoB or by a court on application by the BoB (court appointment may be preferable for transparency and challengeability); - the valuer must be completely independent of the BoB. - Other clarification needs: - require the valuer to report findings to the court transparently to stakeholders; - specify a maximum period within which the valuer must report to the court; - require the valuation report to comprehensively set out methodology and assumptions, open to challenge in court; - specify stakeholders’ rights to challenge valuation findings and compensation recommendations through the court; - allow the court to require the report and recommendations be reviewed by a third party. - Make clear that once the court rules on valuation and compensation, decisions are final (subject to allowed appeals), and that the court cannot reverse or amend any resolution action; its sole function is to ensure valuation fairness. - Specify compensation funding source: fund from the bank’s assets in resolution, with any shortfall funded via a resolution fund or by the government (with capacity for government to recover from the banking industry through levies on banks). - Model creditor safeguards closely on the Key Attributes and international best practice such as the EU BRRD. - Note: Points above also pertinent to section 59 – Shareholder safeguards. ### Section 75. Cross-border cooperation - Amend to: - ensure any administrator actions implementing a home resolution authority’s resolution (where the bank in Botswana is a subsidiary of a foreign bank) are under strict BoB control and oversight; - require BoB satisfaction that implementation of home authority resolution actions in Botswana is consistent with maintaining Botswana’s financial stability and other BA resolution objectives before directing or allowing the administrator to give legal recognition to or facilitate implementation; - empower the BoB to enter into crisis resolution MOUs with foreign supervisory and resolution authorities and other relevant agencies; - empower the BoB to participate in (rather than necessarily establish) supervisory colleges and/or crisis management groups to facilitate bank-specific resolution planning, resolvability assessments, resolution pre-positioning, and implementation of resolution. *IMF technical assistance recommendations as contained in the supplied PDF content.* ### Section 76. Funding of bank resolution ### Section 76. Funding of bank resolution ### Funding of bank resolution — overall recommendation - Paragraph 42: Suggests fundamental review of this section with close regard to the resolution funding guidance in the Key Attributes, other FSB publications and international practice (such as in the EU BRRD). - Consideration of establishing a resolution fund (beyond deposit insurance) funded via levies on banks may be appropriate. - Given the small size of the banking system and the need to establish deposit insurance (and associated levies on banks), the inclination is to defer consideration of a resolution fund until: - resolution laws have been established; - resolution policies are in place; and - deposit insurance has been established and a target fund achieved. - After those steps, consider whether a sound case exists to establish a resolution fund and, if so, consider: - purposes of the fund; - governance arrangements; - preconditions for drawing on the fund; - calibration of the size of the fund; - levy arrangements; - and many other factors. ### Interim mechanism — government as last resort funder (Paragraph 43) - A resolution funding mechanism should be incorporated into the BA under which the government would, as a last resort only, be the source of resolution funding, subject to the following requirements: - Clearly defined objectives for which government funding may be provided; e.g., to maintain the stability of the financial system and the continuity of critical banking functions. - Preconditions on which the minister must be satisfied before agreeing to the provision of funding—such as shareholders and subordinated creditors of the bank in resolution have absorbed losses to the full extent of their claims, other creditors have been bailed in to the extent practicable and consistent with financial stability objectives, and all market-based sources of funding have been exhausted. - Ministerial power to impose terms and conditions on which any funding will be provided, with a view to ensuring that the risks to the government are appropriately managed and compensated, including in respect of fees, charges, interest rates, dividends, monitoring arrangements, restrictions on the bank’s activities, control over the appointment of directors and senior officers, etc. - Ministerial power to levy the banking industry to recover any funding outlays (in net present value terms) that are not able to be recovered from the assets of the bank in resolution. ### Provision for bank recovery plans (Paragraph 44) - Draft a new section to empower the BoB to require banks to develop and maintain recovery plans to facilitate their recovery from adverse events and restore financial soundness. Empowerments should include the power to: - specify the requirements in relation to recovery plans, including matters to be covered and responsibility for sign-off of the plans (e.g., at Board level); - require recovery plans to be subject to regular testing in a manner specified by the BoB; - require recovery plans to be subject to review or audit by an independent party approved by the BoB where the BoB considers this to be beneficial; - require banks to make specified changes to their recovery plans; and - require banks to undertake specified pre-positioning actions to enable recovery plans to be readily implemented if triggers for recovery are reached. ### Resolvability assessments (Paragraph 45) - Draft a new section to require the BoB to undertake resolvability assessments of banks. - Require banks to provide the BoB with specified information for the purpose of undertaking such assessments. - Permit the BoB to require such information be audited or reviewed by an independent party approved by the BoB where the BoB considers this to be desirable. ### Resolution planning (Paragraph 46) - Draft a new section to require the BoB to prepare resolution plans for each bank considered by the BoB to be systemically important, and to enable the BoB to prepare resolution plans for other banks. - Empowerments should include the power to: - require banks to provide specified information to enable resolution plans to be prepared; - require such information to be audited or reviewed by an independent party approved by the BoB where the BoB considers this to be desirable; and - require banks to make specified changes to their operating arrangements and structure to facilitate resolution in accordance with resolution plans. ### Appendix II. Guidance on the development of a resolution toolkit — purpose and coordination (Paragraphs 1–3) - Purpose: Provide indicative guidance on the development of a resolution toolkit to facilitate the resolution of banks, to assist the BoB in coordination with the MFDP and NBFIRA. - The toolkit guides activation of resolution, selection of resolution strategy, implementation, communication, and coordination of resolution actions between domestic agencies and for cross-border cases. - The toolkit must be supplemented by bank-specific resolution plans. ### Key elements of a resolution toolkit (Paragraph 3) - Crisis diagnostics — solvency assessment and systemic impact assessment. - Resolution strategies, criteria for selection, and implementation steps. - Cross-border crisis resolution. ### Crisis diagnostics — solvency and financial soundness assessment (Paragraphs 4–8) - In emerging stress, the supervisory authority should assess each potentially vulnerable bank’s: - solvency (i.e., surplus of assets over liabilities); - common equity tier 1 capital position; - total tier 1 capital position; - total capital position; - exposure to shareholders and other related parties; - level of NPLs; - level of specific provisions in relation to NPLs; and - expected loss on NPLs. - Analysis should estimate a range of capital values from best case to worst case, with assets estimated at expected recoverable values net of realization expenses. - Valuations should be on a ‘going concern’ basis unless closure is expected, in which case valuations should be on a ‘gone concern’ basis. - Liquidity assessment should include analysis of: - the amount and quality of liquid assets; - access to parent or other shareholder liquidity (where applicable); - access to committed standby facilities with other banks; - amount and nature of assets capable of being used for collateral to obtain liquidity from the BoB or other sources; - maturity profile of liabilities, both using contractual and behavioral maturities, under assumed stress conditions; - schedule of projected payment and settlement obligations for a defined period (e.g., next one, two weeks, month, etc.); and - stress testing of liquidity by estimating the bank’s capacity to meet payment and settlement obligations, including deposit withdrawals, under a range of plausible stress scenarios. - Where a bank has subsidiaries that perform essential functions, perform solvency and liquidity assessments of relevant subsidiaries. - It would be desirable for the supervisory authority to develop the capacity to undertake solvency assessments, capital adequacy assessments and liquidity assessments under acute time pressure (e.g., within 24 hours), and undertake periodic testing of that capacity. ### Systemic impact assessment (Paragraphs 9–13) - The BoB, in liaison with the MFDP and NBFIRA, should assess the systemic impact of a bank in distress, based on the BoB’s framework for systemically important banks and the prevailing circumstances at the time of distress. - Recognize that systemic impact varies over time; small- to medium-sized banks may have low systemic impact in stable periods but significant impact during instability. - Systemic impact assessments should draw on the D-SIB framework developed by the BCBS, taking into account: - the market shares of each bank in each of the key lending sectors; - the market shares of each bank in the deposit market (differentiating between retail and wholesale deposits); - the share of payments services, differentiated by payment system and payments product; - the share of lending to economic and social infrastructure providers; - inter-connectedness (including intra-group and between banks); - potential for the bank to cause contagion (drawing on the contagion analysis referred to earlier); - substitutability of systemically important financial functions (including considerations related to the concentrated nature of the banking sector); and - complexity (including complexities arising from group structures and the location of essential banking functions in subsidiaries, and cross-border activity). - Conduct assessments on both a solo entity basis and a banking group basis where banks have significant business in subsidiaries. - Contagion risk assessment should include: - contagion via inter-bank exposures; - contagion arising from related party exposures, such as credit exposures to parent banks and other substantial shareholders; - credit rating downgrade risks associated with parent bank stress; - reputation impacts associated with parent bank or other major shareholder distress; - contagion risks associated with functional dependencies between banks with common shareholdings; - contagion via banks having common credit exposures (e.g., syndicated lending); - the contagion impact of bank defaults on interest rate and foreign currency derivatives (i.e., requiring other banks to replace interest rate and currency contracts they had with the failed bank, and the potential difficulty in doing so under stressed conditions, possibly leaving them with unhedged exposures); and - confidence-linked contagion risks and the potential for a generalized depositor run on banks. - The systemic impact assessment will significantly influence the resolution strategy: small banks with little systemic impact may be closed and insured depositors paid or deposits transferred; systemically important banks are likely to receive an ‘open resolution’ to keep core banking functions operating. ### Resolution strategies and implementation (Paragraphs 14–16) - The toolkit should identify main resolution strategies and options for banks that cannot restore financial soundness, and criteria for determining which option is appropriate. - The plan should identify procedures required to implement particular resolution options and refine stylized options into bank-specific resolution plans by category (e.g., domestically owned systemically important banks, foreign-owned systemically important banks, medium-sized banks, and small banks). - The toolkit should establish guidance on systemically important functions that need to be continued (in a recapitalized bank, bridge bank, or acquiring bank) to minimize adverse impacts. It should set out generic critical functions and guidance on quantitative thresholds for determining whether continuity of these functions warrants an ‘open resolution’. - Systemically important functions would generally include, as a minimum: - transaction-capable deposit facilities; - committed credit facilities; - payment system interface and payments execution functions; - inter-bank settlement functions; - settlement functions performed for other financial institutions on an agency basis; - currency and interest rate derivatives functions; and - IT support, risk management, and other back-office arrangements required for systemically important functions. *Source: cr1749 - Section 76. Funding of bank resolution (PDF).* ### 17. Resolution options which could be considered in developing the resolution toolkit ### 17. Resolution options which could be considered in developing the resolution toolkit ### Overview of resolution options - Option 1. Closure of a bank and pay-out of insured deposits followed by liquidation of the bank. - Appointment of an administrator and withdrawal from all payment channels. - Eligible deposit balances calculated on end-of-day positions. - Deposit insurance agency confirms and pays amounts to each depositor, capped at the level of the deposit insurance cover per depositor. - Payments made via an appointed paying agent, funded by the deposit insurance fund. - Payments should be made as soon as practicable following the bank’s closure and, desirably, within seven days. - Option 1 might be appropriate where: - a. The bank is insolvent (i.e., negative equity) or close to insolvent, or otherwise very substantially below minimum capital requirements. - b. The bank cannot recover; i.e., there is no prospect of shareholder support or external financial private sector support in the required timeframe. - c. No other bank is prepared to acquire equity in the failing bank or to assume all deposit liabilities or even just insured deposit liabilities and acquire assets from the failing bank. - d. Closure of the bank would not have a significant adverse impact on the stability of the financial system or economy. - e. Closure and pay-out is a lower cost option than the alternative closed resolution options. - Option 2. Closure of a bank and transfer of insured deposit accounts to a receiving bank (either an existing bank or a bridge bank). - Appointment of an administrator and withdrawal from payment channels. - Eligible deposit balances calculated on end-of-day positions; deposit insurance agency confirms entitlements, capped at deposit insurance cover per depositor. - Deposit accounts and associated IT systems transferred to an acquiring bank or bridge bank; account numbers remain unchanged. - Receiving bank may purchase assets at market value. - Net cost to acquiring bank of assuming insured deposit liabilities funded by the deposit insurance agency. - Failed bank wound up through insolvency law; deposit insurance agency has a subrogated claim of the insured depositors on assets in liquidation. - Option 2 might be appropriate where: - a. The bank is insolvent (i.e., negative equity) or close to insolvent, or otherwise very substantially below minimum capital requirements. - b. The bank cannot recover; i.e., there is no prospect of shareholder support or external financial private sector support in the required timeframe. - c. No other bank is prepared to acquire equity in the failing bank or to assume all deposit liabilities and acquire assets from the failing bank. - d. One or more banks are willing to assume the insured deposits, funded either fully by the deposit insurance agency or funded through a combination of deposit insurance funding and assets transferred to the acquiring bank. If there is sufficient time available, the deposit insurance agency would seek competitive bids from banks which the BoB regards as being in a sufficiently sound financial condition to acquire the insured deposits of the failed bank. - e. Closure of the bank would not have a significant adverse impact on the stability of the financial system or economy. - f. Closure and transfer of insured deposits are assessed as being a lower cost option than the alternative closed resolution options. - Option 3. Transfer of some or all of the failed bank’s assets, liabilities, and business functions to another existing bank or a bridge bank. - Appointment of an administrator and withdrawal from payment systems. - Transfer of systemically important and otherwise viable business (including critical functions and performing assets) at assessed market value to an acquiring bank or bridge bank. - If assets (including estimated franchise value) transferred equal at least the liabilities assumed, no resolution funding required. - Surplus of assets over liabilities transferred: net amount paid to bankruptcy estate. Deficiency: funding from bail-in, deposit insurance agency, or government (last resort only). - Deposit insurance agency’s funding capped at amount it would have paid (net of recoveries) under a least-cost deposit insurance pay-out or insured deposit account transfer. - Failed bank closed and residual business wound up under insolvency law; ex post compensation to shareholders and creditors to the extent worse off than under conventional winding up, applying statutory ranking of claims. - NPLs could be retained in the failed bank, transferred to an asset management company established by the BoB, or sold to an existing private-sector workout entity. - Option 3 might be appropriate where: - a. The bank is still solvent (i.e., has positive equity), at least with respect to deposit liabilities and possibly other senior unsecured debt. - b. The bank cannot recover—i.e., there is no prospect of shareholder support in the required timeframe. - c. The closure of the bank would have a significant adverse impact on the stability of the financial system. - d. At least one suitably capitalized bank is able and willing to acquire the systemically important business of the bank or a bridge bank could be established to acquire the relevant business. - Option 4. Sale of the bank to another bank. - Place bank into administration and sell a majority shareholding to an acquiring bank. - Could be achieved by cancelling existing shares with compensation to shareholders and issuing new shares to acquirer, or issuing new shares to acquirer and diluting existing shares to assessed market value. - Distressed bank recapitalized to appropriate target level to exceed regulatory requirements, maintain credit rating and confidence. - Option 4 might be appropriate where: - a. The bank is still solvent (i.e., has positive equity), at least with respect to deposit liabilities and, possibly, other senior unsecured debt. - b. The bank cannot recover; i.e., there is no prospect of shareholder support in the required timeframe. - c. The bank’s closure would have a significantly adverse impact on the stability of the financial system. - d. At least one suitably capitalized bank is able and willing to acquire either 100 percent or a majority shareholding sufficient to recapitalize the bank to the required target level. - e. The acquisition would not lead to excessive market concentration or systemic risk. - Option 5. Recapitalization of the bank through bail-in. - Appointment of an administrator, assessment of worst-case capital position (including essential subsidiaries), and determination of capital required to meet a target capital ratio. - Bail-in via write-down of liabilities or conversion of liabilities to equity or preference shares; liabilities bailed in in inverse order of winding-up ranking (subordinated debt first, then senior unsecured bonds, then uninsured deposits, etc.). - Insured deposits either exempted from bail-in or deposit insurance agency bears bail-in cost if applied to insured deposits. - Some liabilities may be exempted from bail-in (e.g., suppliers of essential services, liabilities in relation to derivatives required to maintain balance sheet hedges). - Option 5 might be appropriate where: - a. The bank cannot recover; i.e., there is no prospect of shareholder support in the required timeframe. - b. The bank has sufficient subordinated debt and senior unsecured debt (excluding insured deposits) to be a source for recapitalization, either through conversion to equity or other eligible capital instrument or write-down, after first writing down existing equity. - c. The closure of the bank would have a significant adverse impact on the stability of the financial system. - d. Bail-in would not trigger contagion or other systemic disruption on a significant scale; more viable for idiosyncratic failures where other banks are prudentially sound and market confidence is reasonably strong. - Option 6. Recapitalization of the bank through bail-out via public funds (last-resort). - Appointment of an administrator, assessment of worst-case capital position, determination of capital required to meet a target capital ratio. - Recapitalization by issuance of shares to the government (directly or via government-owned entity) sufficient to achieve target capital ratio. - Last-resort only after other options (including bail-in) assessed and found non-viable or systemically destabilizing. - Existing shareholders fully bailed in first (shares cancelled if of no value or diluted to assessed market value); subordinated debt also bailed in. - Government shareholding could be ordinary shares with full voting rights or preference shares with full or limited voting rights. - Government should price shares and any other support at appropriate commercial pricing and ensure sufficient control to manage risks arising from equity stake and other support. - Option 6 might be appropriate where: - a. The bank cannot recover; i.e., there is no prospect of shareholder support in the required timeframe. - b. The bank does not have sufficient subordinated debt and senior unsecured debt (excluding insured deposits) to be a source for full recapitalization after writing down existing equity. - c. The bank’s closure would have a significantly adverse impact on the stability of the financial system. - d. Bail-in would likely trigger contagion or other systemic disruption on a significant scale. - e. The government ensures that existing shareholders and subordinated creditors are required to absorb all losses to the extent of their holdings before any government-funded support is provided. - Principle to apply across options: - “No creditor or shareholder left worse off than under whole-of-bank liquidation” — shareholders and creditors are compensated to the extent the chosen resolution leaves them worse off than had the bank been retained whole and liquidated under conventional insolvency law. ### Issues and operational measures for recapitalization, transfers, and bridge banks - Nature of directions to the bank. - BoB may need to issue directions to pre-position the bank (e.g., documentation for capital issuance, IT changes) and may need to remove directors and management who are obstacles to resolution. - New directors and management. - BoB should pre-identify candidates for appointments, potentially including senior staff from the NBS or suitable foreign banks. - Administration. - BoB should document appointment process, maintain list of possible appointees for administrator, and include draft terms of reference and documentation; administrator may be supported by advisers. - Directions to an administrator. - Identify business functions to keep open (deposit-taking, payments, derivatives commitments, committed credit facilities) and those to suspend; actions to keep necessary subsidiaries functioning. - Toolkit should identify pre-positioning directions applicable to each type of resolution. - Public and stakeholder communications. - Toolkit should include guidance for communications for each resolution type, identifying information, timing, and channels. - Key stakeholders to be addressed: - a. depositors of the bank being resolved; - b. depositors in other banks; - c. other creditors of the bank being resolved; - d. borrowers of the bank being resolved, especially those with overdraft and other committed credit facilities; - e. the management of other banks; - f. the financial institutions which meet their payment obligations through the bank being resolved; - g. foreign regulators (e.g., of the foreign banks operating in the country); - h. the financial news media and general news media; - i. social media; and - j. the general public. - Determination of the capital requirement for the recapitalized bank or bridge bank. - BoB must determine an appropriate capital ratio and capital injection to restore financial soundness or to capitalize a bridge bank. - Target capital ratio should be at least around the same level as peer banks and sufficient to obtain a credit rating similar to pre-distress; likely higher than pre-distress based on a target credit rating (e.g., at least investment grade and likely higher for any major bank). - Capital ratio influenced by whether a government guarantee is provided; with a guarantee required capital ratio would be lower, but preferable to set ratio allowing operation without a guarantee. - Capital support by the government (guidance MFDP should develop). - a. Whether government capital is preference shares or ordinary shares. - b. Pricing of shares paid for by the government, based on a conservative valuation of the bank immediately pre-resolution. - c. Voting rights on preference shares if used. - d. Other forms of control the government may wish to exercise (e.g., right to appoint directors in proportion to government share, veto rights over directors’ appointments, right to appoint or veto CEO/CFO/CRO, right to approve key transactions, right to determine risk appetite and business strategy, and nature of exit arrangements such as sale of government’s shares subject to RA approval). - Government underwriting of a rights issue. - If capital injection is a rights issue, priced on estimated bank value pre-resolution; government may underwrite to provide certainty. MFDP should develop indicative terms and documentation for a government underwriting agreement. - Establishment of a bridge bank. - Contingency plan should identify steps and include pre-prepared documentation (company constitution, governance structure, management structure); maintain updated lists of potential directors and senior management; include guidance on fast-tracking bank licensing and consent processes. - Government guarantee of a bridge bank. - Avoid unless necessary; if used, should be on commercial terms with a fee and include covenants conferring specific powers on government (e.g., approval of transactions, director/management appointments). MFDP responsible for indicative terms sheet and draft documentation. - Business transfer to a bridge bank. - Consider what assets and liabilities to transfer (systemically important business vs entire business); determine treatment of impaired assets (retain in failed bank, transfer to bridge bank, or transfer to asset management vehicle). - Identify risks of counterparty defaults from transfers and how to avoid them (assurances/guarantees that contracts will continue). - At a minimum, plan to transfer systemically important business and performing assets, including deposit liabilities, payments functionality, committed credit facilities, risk hedges, relevant IT infrastructure. ### Bail-in mechanisms and considerations - Bail-in to minimize government funding and taxpayer risk — consider subordinated debt and possibly senior unsecured bonds. - Possible mechanisms to implement bail-in: - a. Require banks, as part of recovery planning, to have a tranche of debt contractually convertible to eligible capital instruments or writable down upon defined triggers (e.g., capital ratio falling below a trigger level). - b. Use statutory powers in the BA to bail-in any unsecured debt instrument by converting it to an eligible capital instrument or writing it down, applied consistent with winding-up ranking. - c. Implement bail-in using business transfer powers by retaining a tranche of debt in the failed bank so that reduced level of debt transferred to a bridge bank provides funding for capital in the bridge bank; creditors of retained/transferred debt compensated ex post to the extent they are worse off than under full liquidation (based on ranking of claims in winding up). *Source: cr1749 - 17. Resolution options which could be considered in developing the resolution toolkit* ### 18. Communications and coordination are essential in a crisis. For each resolution ### 18. Communications and coordination are essential in a crisis. For each resolution ### Communications in a resolution - The toolkit must identify communications to each category of stakeholder: depositors, the wider public, banks, other financial institutions, foreign counterparties, foreign regulators, rating agencies, news media, and social media. - The toolkit should identify: - The key information to be conveyed to each category of stakeholder. - Which agency has responsibility for each element of communication. - The toolkit should include development of checklists for issues to be considered by each agency in preparing media statements and other forms of communication. ### Cross-border coordination and cooperation - The toolkit needs to include guidance on cross-border coordination and cooperation. - Matters to be covered: - A clear delineation of resolution responsibilities between the parent authorities (the prudential supervisor/resolution authority) and the Ministries of Finance in the home and host countries. These should be documented in either a multilateral MoU (for all agencies) or bilateral MoUs. - Identification of information exchange arrangements between the respective agencies, based on the above-mentioned MoU(s). - Coordination of the development and enforcement of recovery plans, resolvability assessments and resolution plans, such that the recovery plans and resolution plans for the subsidiary banks in the host country are informed by, and not materially inconsistent with, the parent bank recovery and resolution plans. - Processes for coordinating the solvency/capital assessment and liquidity assessment for the parent banking group and subsidiaries in the host country. - Process for coordinating the identification and assessment of resolution options, including recapitalization options for the subsidiary drawing on two generic group-based recapitalization models: Single Point of Entry (SPE) and Multiple Points of Entry (MPE). - Under SPE: - Recapitalization of the subsidiary in a host country is performed by the parent bank, either via bail-in of liabilities in the parent bank, bail-in of liabilities in the subsidiary (in exchange for shares in the parent bank) or external injection of capital into the parent bank, with the capital being cascaded to the subsidiary in the host country. - The parent bank remains the shareholder of the subsidiary. - Under MPE: - Recapitalization of the subsidiary in the host country is performed at the level of the subsidiary, either by bail-in of liabilities of the subsidiary or injection of capital into the subsidiary by the government or another party approved by the BoB. - The subsidiary might cease to be a member of the parent banking group, reflecting its new shareholding arrangements. - If the subsidiary ceases to be a member of the parent group, contractual arrangements must be entered into to ensure continuation (on commercial terms) of all essential functional support provided by the parent bank until alternative arrangements can be made. ### Liquidity-providing operations (overview) - Liquidity providing operations to solvent banks include: - Overnight Facility - OMO Tenders - ELA - Characteristics noted: - Short-term funding to address liquidity shortages. - High quality collateral for normal operations; ELA uses a separate list of collateral subject to additional risk control. - OMO tenors can range from one-week to three-month duration, but should match liquidity absorption OMOs (14 days for BoB). - Some central banks provided long term refinancing operations in response to the global financial crisis (e.g., one to four year ECB LTROs). - Short-term operations typically at a rate linked to the monetary policy rate; longer-term operations usually at a market rate or indexed to the prevailing policy rate. - ELA: interest rate at a penalty—usually Overnight Facility plus a margin; enhanced criteria and conditionality. ### Collateral eligibility (BoB illustrations and principles) - Current BoB situation: - BoB has a relatively narrow list of eligible collateral for use in normal liquidity providing monetary policy operations. - The list for normal monetary operations should be driven by liquidity needs according to the monetary policy stance. - Where low levels of liquidity need to be provided to the system as a whole (such as the current situation in Botswana), a narrow list of eligible collateral for normal operations is sufficient. - Example narrow list for normal market operations: - Bills of exchange and promissory notes (<184 days) - Botswana government bills or securities (<184 days) - Certificates issued by BoB - Example separate ELA collateral (narrow-list context): - Longer dated securities issued by government, banks or corporates - Pools of high quality residential mortgages - Quality pools of vehicle loans - Claims on commodities - Real estate/land - Commercial mortgages backed by real estate/land - Other assets can be considered once necessary risk and legal issues have been assessed; unsecured credits or obligations could be considered only if accompanied by an explicit government guarantee. - Example broader list for normal market operations (if broader collateral base required): - Bills of exchange and promissory notes drawn of made for commercial, industrial or agricultural purposes (<184 days is proposed in BoBA Revision 4, but longer maturities could be considered) - Botswana government bills or securities - Certificates issued by BoB - Plus, where required, other assets such as pools of very high quality mortgages - Example separate ELA collateral (broader-list context): - Certain credit claims backed by government guarantee - Pools of high quality residential mortgages not eligible for O/N or OMO - Quality pools of vehicle loans - Claims on commodities - Real estate/land - Commercial mortgages backed by real estate/land - Unsecured credits or obligations could be considered only if accompanied by an explicit individual government guarantee. - Notes on expansion of normal collateral eligibility: - Some central banks (e.g., the ECB and the Bank of England) have expanded collateral lists for normal liquidity operations in response to the financial crisis where larger amounts of liquidity needed to be injected into the system. - Expansion is subject to the collateral being of sufficiently high quality and should not be confused with providing ELA to support individual banks. - If BoB considers that banks should borrow more through normal market operations to meet monetary policy targets, or banks cannot obtain sufficient quantities on the existing narrow list, consideration could be given to expanding the list for normal operations; remaining collateral would potentially be eligible for ELA. - Proposed amendment to BoBA Part IX Section 46, sub-section 2(b) envisages BoB may take government securities with no time to maturity restrictions, whereas currently restricted to <184 days. - Any expanded list for normal operations should be comprised of assets generally available to banks across the system. ### ELA governance and high-level procedures - Authority and decision-making: - Authority to approve ELA is often delegated to the governor. - Generally, the decision whether to provide ELA or not resides with the Board of the central bank; responsibility may be delegated to the governor for timeliness. - The governor/Board will decide in accordance with BoB powers and objectives of financial stability, solvency, and systemic importance, stipulating ELA advancements should be against approved collateral adequacy and taking the monetary policy stance into consideration. - Role of FSCOM: - A meeting of a FSCOM could be convened, chaired by the governor and including relevant directors and heads of department to advise on bank solvency, systemic importance, monetary policy, BoB risk management, and market and bank-specific liquidity and flows developments. - A decision in principle to grant ELA should stipulate funding up to a certain amount on a short-term basis over a specified period (e.g., to cover expected cash outflows over the next one month). - Approval could be given to provide ELA within specified limits and subject to adequate collateral, as per risk specifications agreed by the Board. - Shorter-term, one- or two-week ELA deals carried out within that month could be authorized by the director or department level. - Board/FSCOM should meet monthly to discuss the bank’s solvency, progress to restore normal market funding and exit out of ELA, continued systemic importance, monetary policy consistency and meeting targets such as capital raising; ad hoc FSCOM meetings should be called if important developments arise. - The governor, in conjunction with the FSCOM, will discuss related issues such as resolution of banks and enforcement, and will make decisions as to whether a bank should be removed from ELA funding; these issues require close cooperation with other national authorities. ### High-level steps when a counterparty first requests ELA - Process steps: - A written request from the chairman (or similar level) of the financial institution to the governor requesting ELA, detailing the reason. - Consideration of the request by the governor/Board (advised by Financial Stability Committee) on the basis of detailed supporting information from Financial Stability, Supervision, And Markets Departments (and risk management and legal, where applicable). - Approval of the request, acknowledgement of the financial stability grounds, confirmation of term and rate, and agreement to advance funds once documentation and collateral details are in order. - The governor/Board formally writes to the requesting institution approving the provision of ELA (electronically with hard copy to follow), outlining that BoB will liaise with the institution regarding collateral and associated haircuts and requesting: - A list of authorized signatures for personnel authorized by the institution to carry out ELA transactions; - Minutes of the institution’s Board meeting where ELA was agreed. - Confirmation from the prudential area of BoB that the requesting institution is solvent or, if below capital ratios, is in compliance with or has an agreed restructuring plan. - Confirmation from BoB’s legal/relevant area that associated legal documentation is prepared and ready for execution. - Inform the monetary policy area of the pending provision of ELA, amounts, and duration. - A written request from the governor/Board to the minister requesting the provision of an indemnity in the name of BoB to cover the full value of the ELA to be provided. - Provision of ELA funding T+1 (aim for maximum of cash delivery one day after the application, both after initial application and for ELA roll-over deals). ### Stylized central bank lending decision logic (key checkpoints) - Decision flow highlights: - If a bank needs liquidity, first assess if it has eligible collateral for normal central bank operations. - If yes: bank borrows in O/N, OMO or other normal central bank term auctions and facilities. - If runs out of eligible collateral: consider it for ELA. - Determine if the bank is systemically important. - If not systemically important: Bank Resolution/Restructuring. - Determine if the bank is solvent or needs capital. - If not solvent or lacks suitable collateral: Bank Resolution/Restructuring. - If solvent and has suitable collateral: give it ELA. - When providing ELA: - Set targets and timelines. - Continue to provide ELA until not needed after targets are met. - Assess whether necessary capital will be placed with the bank immediately. - Review whether targets are being met and whether to continue or remove ELA. ### Key concepts of lender-of-last-resort (LOLR) funding - Relationship with monetary policy: - An appropriate monetary policy framework forms a good basis for an effective ELA framework. - Monetary policy frameworks should have clear counterparty and collateral eligibility criteria, ensuring only solvent counterparties access these operations and counterparties with capital or management difficulties are not supported. - Monetary policy collateral frameworks should be confined to a limited set of liquid assets with clear eligibility criteria. - Clear separation of monetary policy and ELA frameworks ensures separate objectives: monetary policy vs financial stability. - Central bank liquidity provision modes: - Through open market operations, central banks can provide reserve money on a multilateral basis to the market or bilaterally to support the payment system. - The objective of conventional OMOs is generally to steer short-term market rates. - Central banks can respond to idiosyncratic emergency needs or a market/systemic shock when normal market functioning is disrupted. - Emergency response role: - The emergency response role is one of the most important functions of a central bank; in a closed system of reserves supply, the central bank is the last lender an institution can resort to after exhausting all other funding options. - Distinction between: - Systemic, multilateral lending at the central bank’s initiative: aggregate systemic liquidity needs can change OMO terms (e.g., lengthening tenure such as the ECB’s three-year long-term operations) to inject necessary liquidity for market functioning and to achieve inflation targets. - Idiosyncratic, bilateral lending at the counterparty’s initiative: provided under the central bank’s financial stability mandate as Lender of Last Resort (ELA) strictly in response to a solvent and systemically important institution facing an urgent liquidity need that cannot be sourced elsewhere. *Source: cr1749 - 18. Communications and coordination are essential in a crisis. For each resolution* ### 4. LOLR is provided to temporarily illiquid but solvent institutions. It should not be ### 4. LOLR is provided to temporarily illiquid but solvent institutions. It should not be ### Core principle and purpose - LOLR/ELA is provided to temporarily illiquid but solvent institutions. - It should not be the role of a central bank to support insolvent institutions. - ELA should in no way be seen as a substitute for the resolution of problem banks. - Providing support to insolvent institutions risks: - encouraging excessive risk-taking (moral hazard), and - de-anchoring medium-term price stability expectations. ### Legal basis and access - Before ELA can be provided, the central bank must have the legal power to provide such liquidity. - Legal acts generally stipulate that the central bank can lend in exceptional circumstances for financial stability purposes or to perform a lender-of-last-resort function. - Counterparty access: ELA access is generally limited to financial institutions that hold reserve accounts at the central bank (typically commercial banks); some countries restrict or allow access to systemically important institutions whose default would cause contagion. ### Key operational principles for providing ELA - Solvency of counterparty: - Central bank should be satisfied, as far as possible, that the bank is solvent when using public funds and accepting non-standard collateral. - Viability of counterparty: - Even if solvent, an institution may be non-viable; central banks should avoid lending to non-viable entities. - A viability assessment should be forward looking. - Supervisory intrusion and conditionality: - ELA is temporary; recipients should be subject to enhanced supervision and conditionality to ensure repayment and appropriate use of funds. - Conditionality can include limits on exposures, dividends, or staff bonuses. - Collateral criteria: - ELA collateral will generally be less liquid and often includes loan collateral or securities not eligible for monetary policy operations. - Central bank risk-control measures and risk limits determine acceptable collateral given protection of central bank capital. - Interest rate: - ELA should apply a penalty interest rate to dissuade unnecessary market access; the rate should be above market-available rates but not so penal as to make repayment impractical. - Maturity: - LOLR is temporary and should be provided only for the period necessary to address the liquidity shock. - There is no international consensus on maximum duration; generally, 90 days is an appropriate target, but in some circumstances it may be longer, even up to one year. - Prolonged liquidity needs may indicate insolvency or non-viability. - ELA is not an open facility: - ELA should only be accessed in exceptional circumstances at the discretion of the central bank. - Central bank may agree in principle for a defined initial period (e.g., one-month) with monthly review; individual deals may be shorter. - Trial runs or crisis-management exercises should not be viewed as pre-commitment to provide ELA. - Exit plans: - ELA should be a temporary bridge to more stable funding; a funding plan detailing how the entity will exit ELA should be prepared prior to receipt or shortly after drawdown. - From the plan it should be evident that the institution can repay the funding or that further liquidity needs are expected; if in doubt, enforce conditionality. - Internal understanding and coordination: - Provision of ELA requires input from banking, operations, legal, financial stability, and supervision; central bank should establish an internal working group to share information and clarify roles. - Monitoring and preparedness: - Central bank should actively monitor liquidity flows and carry out liquidity projections under specified stress assumptions. - Market operations and supervision should provide input on asset-liability management. - Recommended practices include daily phone calls with banks “on-watch,” daily internal reports, and weekly liquidity projections and collateral-buffer analysis. ### Role within the financial safety net and coordination with government - Central bank ELA support is a key component of the financial safety net, supported by strong supervision, enforcement, and resolution frameworks. - ELA is provided only after private sector solutions are first explored. - Effective ELA frameworks require close cooperation between the central bank and government for indemnities and coordinated restructuring or resolution actions. ### BoB (Bank of Botswana) collateral eligibility (current and proposed) - Current BoBA (PART VII Relations with Financial Institutions (ss 36-43)) provisions cited: - BoB may purchase, sell, discount and rediscount bills of exchange and promissory notes maturing within 184 days from acquisition. - BoB may purchase, sell, discount and rediscount treasury bills or other securities issued or guaranteed by government maturing within 184 days of acquisition. - BoB may grant loans and advances for periods not exceeding 92 days secured by specified instruments or unsecured/other assets on special terms when exceptionally necessary. - Proposed BoBA revision (Part IX, S. 47 Lender of Last Resort): - (1)(b) “The licensed bank... provides adequate collateral...” - (2) “The Bank shall determine the maximum percentage of the value of the surety deposited to guarantee each of the credit operations set forth in the previous subsection.” - Current BoB risk control measures: - Collateral accepted: BoBCs and government paper (184 days to maturity and below). - CF quota comprises up to 150 percent of core capital. - Facility is very short term (Intra-Day and Overnight). - BoB marks BoBCs and government notes to market on an ongoing basis and perceives collateral as carrying almost zero-default risk, though good practice suggests applying haircuts even to government-issued debt. - Collateral custody: collateral sits with the bank as custodian and is transferred to lender upon lending to reduce default risk; BoB is settlement agent and custodian of BoBCs and government notes. - If a wider range of instruments is allowed, haircut and pricing frameworks would apply, especially for longer-term sovereign bonds. ### Collateral haircut and pricing principles - Use market or theoretical values (not nominal or book values); theoretical valuations may require extrapolation/interpolation and reference to comparably rated sovereign bonds. - Establish differentiated haircut schedules to equalize market, credit, maturity, and liquidity risks across asset classes consistent with BoB risk tolerance. - Consider limits on the quantum use of certain collateral types to reduce concentration risk. - Require up-to-date valuations of property or assets backing loan obligations; update according to BoB schedule if already held as collateral. - No a priori checklist of collateral; accept only subject to appropriate risk controls and assurance of recovery in default. - Loans accepted as collateral should be graded into credit-quality buckets and ideally visible on banks’ internal ratings-based systems; rate with deference to probability of default and loss-given-default where available. - Haircuts for real estate vary by property type, region, and rental cash flow; similar variation for loan obligations backed by property. - Ideally bundle loans into pools with over-collateralization; market-type structures (securitization) offer better protection but may not always be feasible. - Stipulations should be made regarding loan performance (e.g., exclude loans > 65/90 days in arrears; group other performance levels into buckets). - Loans should have capped loan-to-value (LTV) ratios, e.g., capped at 80 percent (any loan with higher LTV recognizes a maximum of 80 percent of the loan value when calculating nominal amount before haircut). - Terms may trigger events of default requiring reporting to BoB. - Loan-by-loan data requirements and provision per BoB timelines. ### Example selection criteria for inclusion of a mortgage loan in an ELA collateral pool 1) First legal mortgage securing the loan. 2) LTV ratio no more than 80 percent by reference to last property valuation. 3) Borrower consent to transfer/create charge over the mortgage contained in standard documentation or otherwise given in writing. 4) No arrears of principal or interest outstanding for more than 65/90 days. 5) Loan (unless a ‘further advance’) advanced not less than 90 days prior to segregation for inclusion. 6) Mortgage expected to be in annuity form. 7) Mortgage not subject to any encumbrance. 8) Loan residual maturity not greater than 40 years. 9) Borrower income verified by the bank prior to granting the loan. 10) Counterparty policy: exclude loans where (i) proceedings to obtain payment have been commenced; or (ii) an adverse court judgment has been issued during the three-year period immediately preceding the granting of the loan. - Note: Residential property excludes commercial/nonresidential property and property not yet under development as residential. ### Operational ownership and workflow - Key step: Ownership of the ELA process. - Once the governor decides to provide ELA, it is recommended that FMD take ownership of the process instead of supervision. - Supervision retains advisory roles on solvency, overall assessment, and ongoing monitoring of bank data, conditions, and management practices. *Source: 4. LOLR is provided to temporarily illiquid but solvent institutions. It should not be* ### 2. Establish a Liquidity Analysis Team. The market operations area should establish a ### 2. Establish a Liquidity Analysis Team. The market operations area should establish a ### Mandate and institutional setup - Establish a designated team to lead the preparation and planning for ELA and to then carry out ELA transactions when necessary. - Establish a cross-departmental ELA working group (WG) including market operations, payments/back office, and legal and risk management personnel where appointed. - FMD should chair and lead the group’s work, which will oversee end-to-end procedures and testing (trial-run operations). - Procedures should include description of ELA governance structure, including decision making and inter-departmental coordination policy. ### Interaction with supervision and governance - Establish regular dialogue with banking supervision. - The FMD (and risk management) should have regular dialogue with banking supervision to discuss the banks’ capital and funding developments. - Contact should be daily where issues arise, but meetings should be held at least weekly. - Decision on whether an indemnity from the minister is necessary. - The governor and Board should decide whether a guarantee from the minister is needed, based on an assessment of projected funding requirements, the requesting bank’s condition and an assessment of collateral risks. ### Legal, guidelines, and documentation preparedness - Preparation of guidelines and criteria. - Necessary legal powers to enable a sound ELA framework should be prepared by legal staff and reflected in the BoBA. - Further internal rules and guidelines should be approved by the Board or the governor and assessed by legal staff. - Legal frameworks should be drafted to enable all potential and adequate forms of assets to be taken as collateral under ELA operations with the relevant banks/entities. - Documentation preparedness. - Legal staff should be engaged by the FMD to ensure that the BoB understands the specific issues related to the collateral proposed. - Ensure legal agreements to allow adequate mobilization of the collateral are effective and address peculiarities in taking secured loans as collateral. ### Data, collateral, and risk preparations - Preparation of data base. - The WG should prepare counterparty eligibility criteria (the FMD, with assistance of the BSD and, perhaps, Financial Stability) by establishing a data set in the form of an early warning system comprising supervisory and market data. - Collateral preparedness. - The WG should preemptively engage in collateral identification on each bank’s balance sheet, establishment of haircuts, and risk control measures (operations and risk management, with assistance of supervisory area for balance sheet review, if necessary). ### Operational design and transaction rules - ELA transaction details. - The length of ELA operations and interest rate applicable should be outlined by the FMD. - The rate should be agreed at the Board level at a margin over the O/N facility. - The Liquidity Team performing the ELA operations, in conjunction with back office/payments, needs to consider how frequently it is feasible to carry out ELA deals; e.g., can they operationally handle transactions on a weekly basis. - Operational flow. - The new Liquidity Team will be the primary interface with the banks and will receive the ELA deal request, process front office deal tickets and check that there are eligible collateral limits available. - Risk management/middle office staff would normally check that the deal tickets correspond with agreed counterpart and collateral limits. - Back office/payments will receive any necessary signed collateral confirmations from the counterparty and will perform settlement of the deals. - Automation. - ELA will remain somewhat more manual than normal open market tenders due to ad-hoc nature and checks required. - Documents should be able to be signed in the respective institutions, scanned, and emailed to provide confirmation. - Each party will have copies of other institutions’ authorized signatories to check signatures against. - Within the BoB, use of facilities such as a SharePoint page for ELA might aid process, flow, and storage of documents between departments involved. - ELA deals should generally see money transferred at T+1 from day of request, both for rollover deals and for the first deal when the counterparty makes its first request for ELA and the governor’s decision needs to be made. - Contingency. - Departments involved in transacting ELA deals should periodically review and test internal process and incorporate improvements and efficiencies where identified. - Prepare contingency operational arrangements should the normal conditions or business site where ELA is carried out be unavailable. - It is recommended that an alternative contingency site be available and equipped to facilitate ELA deals. ### Monitoring, projections, and reporting - Monitoring of flows and liquidity developments. - The Liquidity Team shall set up liquidity flows monitoring based on daily phone calls and data returns from banks that are on watch for liquidity concerns, to prepare for likely ELA requests and to inform decision makers of developments. - This should include: (a) Daily calls with the institutions of concern to ascertain daily net flows in, e.g., retail and corporate deposits and collateral buffers. A daily report should be circulated to management showing these movements. (b) Preparation of weekly projections, assuming institution-specific stress assumptions with regard to deposit retention and debt capital market rollover where applicable. The formulation of these assumptions should be done in close cooperation with the prudential area, and should include: - projected net liquidity (out)flows (e.g., retail and corporates, debt capital markets, interbank and market repos); - liquidity net flows related to collateral, such as fulfillment of margins in market repos; - loss of collateral under stress assumptions; and - projected cash buffer. - The net of (a) + (b) above should show anticipated recourse to monetary policy liquidity providing operations and, combined with the individual institutions’ collateral buffers, would show any shortfall and, therefore, the potential for recourse to ELA going forward. - A weekly report outlining these projections should be circulated to the BoB’s senior management. - Advance projections and exact T+1 ELA requirements should be advised to the FMD staff forming the liquidity forecasts for monetary targeting. ### Communication and confidentiality - Communication and disclosure. - Consider central bank ELA communication strategy and coordinate with external stakeholders such as the banks and the Minister for Finance. - While transparency gives confidence, ELA is lender of last resort and the provision of ELA to individual named banks is not normally publicized by the central bank. - Often, the central bank may announce ELA provision to banks in aggregate in its annual report only. - It is up to individual banks to announce to the market that they are in receipt of ELA where required by their market or accounting reporting. - Staff within the BoB need to be cognizant of the delicate nature of ELA provision and only staff involved in the relevant operations and work should know the details. ### Example of central bank operational duties regarding ELA transactions - High-level steps: Front Office (FMD Liquidity Analysis Team) duties a. Following receipt of request for ELA, staff checks the liquidity need of the counterparty by cross-referencing the reserves balance, current collateral holdings, deposit and repo flows, and recent and forthcoming debt capital market maturities. b. Following receipt of confirmation of approval of the size, term, and rate applicable to ELA, the Front Office liaises with the Back Office to inform of collateral to be mobilized. c. Confirm with requesting institution the size, term, rate, and collateral for LOLR operation and request a written bid submission. d. Confirm that the signatories on the ELA request are those as per agreed authorized list. e. Check bid submitted for correctness and, once approved, forward to the Back Office. - Middle Office (Risk Management) duties a. Establish order of preference of collateral to be accepted for the ELA operation. b. Inform the Front Office of the maximum liquidity amount that can be provided per collateral type, specifying the nominal amount of the collateral, the valuation and haircut, and resultant maximum liquidity amount that can be provided. c. Confirm receipt of an acceptable indemnity from the Minister for Finance, specifying the maximum amount covered, where applicable. - Back Office (Payments) duties a. Receipt of checked counterparty bid from the Front Office. b. Management confirmation to pay funds to the requesting institution. c. Check that collateral exchange documents submitted contain correct authorized signatures and countersign any collateral exchange legal agreements where necessary. d. Payment of funds to the counterparty. ### Example set of ELA counterparty procedures (high-level and transaction steps) - Initial high-level steps: 1. Request for ELA—a senior official duly authorized by the Board of the counterparty seeking ELA sends a formal request to the bank addressed to the governor and copied to the relevant deputy governor with a scanned copy sent to the BoB’s designated ELA email account. 2. Board minutes—The counterparty must furnish the bank with evidence (e.g., the minutes of the relevant Board meeting) that the application for ELA was duly authorized in accordance with its internal corporate governance procedures. 3. Other information—The counterparty must provide any other information the bank may require before it makes a decision on whether to grant ELA, including any information required to confirm the solvency of the counterparty or information on available collateral to secure ELA. 4. Receipt of letter approving ELA—If the bank decides to grant ELA to the counterparty, the governor (or someone else duly authorized) will write to the counterparty confirming this decision (letter scanned and to follow by hard copy). 5. List of authorized signatures—The counterparty must send a list of signatories for personnel authorized to request and sign documentation relating to ELA transactions, along with evidence of appropriate signing authorities and a set of sample signatures. Contact details for the BoB personnel who are dealing with ELA transactions should be documented and provided to the counterparty. 6. Collateral and haircuts—The bank will liaise with the counterparty in relation to what collateral is available to secure ELA. 7. Designated email addresses—In advance of any ELA transactions, the counterparty must notify the bank of a designated email address for ELA communications. All email correspondence with the bank in regard to ELA transactions should be sent to the BoB’s designated ELA email account (accessible by front and back office staff). - Sample steps for each ELA transaction subsequent to governor approval of initial request 1. Counterparty requests an advance of ELA by phone (FMD Liquidity Analysis team). 2. Counterparty forecasts liquidity needs and trades within the ELA transaction calendar to be specified by the bank where ELA is being rolled over. 3. The bank (Liquidity Analysis Team) responds to the counterparty’s ELA request by phone. 4. Once an ELA request is agreed by the bank, the counterparty will email a scanned copy of an ELA request form that has been signed by a duly authorized person or persons to the BoB’s ELA email account. The original signed request should be immediately forwarded by the counterparty to the BoB’s Liquidity Analysis Team. 5. The subject line of this email attaching the scan of the signed ELA request form should read [counterparty name], ELA request value dd/mm/yy. 6. Simultaneously, the counterparty will email details of the proposed ELA collateral for analysis to the BoB’s ELA email account. 7. The bank’s Back-Office team will contact the counterparty to identify specific collateral. 8. The bank will confirm to the counterparty when the transaction is complete via email from the Back Office to the counterparty’s designated email address. 9. The counterparty shall confirm receipt of funds via email to the BoB’s designated email address. - Paragraphs 10 to 12 apply where ELA is provided by way of repo (or other mechanism requiring countersigning of a legal agreement to mobilize collateral), subject to the provisions of the relevant (master repurchase) agreement. 10. Where ELA is provided by way of repo, and, if required, by the relevant (master repurchase) agreement, the counterparty will send a scanned copy of a physically signed purchase confirmation to the BoB ELA email account. The subject line of this email attaching the scan of the signed purchase confirmation should read [counterparty name], Purchase Confirmation Form(s), ELA value dd/mm/yy. 11. If required by the relevant (master repurchase) agreement, the bank will arrange for any purchase confirmation to be countersigned on behalf of the bank and will send a scanned copy of same back to the counterparty. 12. Within three business days of an ELA repo transaction, the counterparty will deliver the original hard-copy version of any signed purchase confirmation to the bank (marked for the attention of a nominated person in the BoB’s Payments Department). ### Example of counterparty conditionality and expected commitments - Main objectives 1. Legal agreements between the BoB and the borrower could, where possible and allowable, contain clauses, actions, and conditions reflecting market standards regarding underlying collateral and borrower behavior. 2. Exact terms may be stronger or less onerous reflecting the collateral taken and balance between BoB’s risk management, need to advance liquidity, and expected behavior of borrowing bank’s management. Collaboration with the Banking Supervision Department to help monitor conditions is important. 3. Key concept: ELA funding is only provided where a solvent bank suffers a liquidity shortage, cannot obtain funding elsewhere, and needs funding from the central bank to pay depositors or interbank or debt market funding. It may also be used to allow continuation of the bank’s core functioning in its normal course of business (e.g., paying normally accrued utilities bills, paying normal staff wages). 4. General clauses should stress that funding can only be used to maintain bank functioning as normal until it obtains alternative funding to repay ELA. The onus should be on the borrowing bank to report any non-normal transactions to the BoB in advance and obtain agreement. 5. Conditions may be inserted into each legal agreement relating to each different type of collateral, or as an over-arching undertaking signed at initial application for ELA (e.g., CEO personal undertaking). - Overview of potential high-level commitments for any entity in receipt of ELA (i) ELA shall always be the recourse of last resort (a) All requests for ELA funding should only be made when the requesting bank has explored and exhausted ALL other sources of funding. (b) The cost of alternative market funding should not be considered as a factor in deciding whether or not ELA is a more attractive source of funding. ELA should always be a last resort, and, generally, irrespective of the price of alternative funding. (ii) Compliance with reserve requirements (a) The ELA recipient bank should ensure compliance with minimum reserve requirements as set out by the BoB. The use of the reserve account should be in accordance with standard operating procedures and an average reserve account balance in excess of the average requirement at the end of the maintenance period (so-called ‘burnt reserves’) should be avoided. (b) The bank should use the cash balance on its minimum reserve account in the event of small liquidity events, which can then be replenished before the end of the maintenance period. (c) ELA cannot be provided to ‘frontload’ the reserve account. (iii) Limited use of deposit facilities - The bank should only place funds in the BoB’s deposit/absorption facilities in exceptional circumstances, such as at the end of the maintenance period when the average reserve requirement has been met. Proposed use of the deposit facility by a bank in receipt of ELA should be flagged to the Market Operations Department of the BoB no later than the morning of the intended placement. (iv) Limited use of interbank deposit placements - Interbank deposit placements should be very limited, as any surplus funds should be used to maintain the reserve requirement or to reduce ELA. (v) Overnight standing facility - Where eligible collateral for liquidity providing standing facility and refinancing operations becomes available to the ELA recipient bank, this should be notified to the Market Operations Department of the BoB. - In general, the recipient bank should aim to utilize all available collateral in normal the BoB market operations and, subsequently, access the O/N facility, where collateral is available, during the time until the next normal the BoB liquidity providing open market operation.1 - If necessary, the recipient bank may use the collateral for its intraday credit buffer in the O/N facility to be used to top up its minimum reserve account balance. (vi) Use of ELA funds—senior management commitment - The Chairman or Chief Executive of the ELA recipient bank will provide a letter to the Market Operations Department of the BoB, stating that ELA will only be sought as a last resort and that all other sources of funding will constantly be explored with the aim to reduce ELA to the minimum level. It will also state that ELA funding will only be used to meet the recipient bank’s commitments in the ordinary course of business and will outline the business areas for which it is intended to use ELA. (vii) Use of ELA funds—management of new and existing assets - The recipient bank will carry out all regular banking activities subject to the terms set out in any agreed restructuring plan. (viii) Use of ELA funds—ban on acquisition - The recipient bank will, in general, not be authorized to use ELA to acquire or take participations in any other firm. Prior notification of such an interest and consultation with the BoB is necessary. (ix) Use of ELA funds—subordinated debt and hybrid capital instruments (a) The recipient bank will not pay coupons or exercise calls on subordinated debt instruments and hybrid capital instruments, unless it is legally obliged to do so. (b) The bank cannot use ELA for the purpose of a liability management exercise. (x) Use of ELA funds—notification to the BoB of non-standard activities - The recipient bank must notify the BoB of any proposed activity not in the normal course of business that may require funding while in receipt of ELA. (xi) Restrictions on payments to staff or related persons other than core wages - There could be a restriction that no bonuses or any other type of non-essential payment can be made to senior staff, management, or related persons or parties. (xii) Audits - ELA recipient banks may be requested to have a report prepared by its own external auditors as to the bank’s compliance with the guidelines issued for the use of ELA funds. *Source: cr1749 - 2. Establish a Liquidity Analysis Team. The market operations area should establish a (PDF).* --- _Source: https://www.imf.org/-/media/files/publications/cr/2017/cr1749.pdf_