## cr18139 - Preface ## Source details **Canonical URL:** [cr18139 - Preface](https://www.imf.org/-/media/files/publications/cr/2018/cr18139.pdf) ## Other formats - [Markdown version](/-/media/files/publications/cr/2018/cr18139.pdf.md) - [Structured JSON version](/-/media/files/publications/cr/2018/cr18139.pdf.json) --- ### Preface and mission context - A Monetary and Capital Markets Department (MCM) technical assistance (TA) mission visited Vientiane, Lao P.D.R., during the period November 13–24, 2017. - Mission objective: further assist the Banking Supervision Department (BSD) of the Bank of Lao P.D.R. (BoL) in transitioning to risk-based supervision (RBS) of banks. - Mission engagement: discussions with Deputy Governor Vathana Dalaloy and BSD staff; hands-on cooperation noted. ### Executive summary — key findings and status - A new supervisory manual reflecting key principles of risk-based approach to supervision has been drafted; includes templates of Institutional Profile (IP), Risk Assessment Summary (RAS), and Report of Onsite Examination (ROX). - Work advanced on benchmarking financial soundness indicators (FSIs) and enhancing onsite examination procedures. - New staff members with specialist skills have been recruited. - Adoption of the supervisory manual and preparation of IP and RAS for all banks are important milestones; mission supported BoL’s plan to adopt the manual before end-2017 but cautioned against compromising quality to meet ambitious deadlines. - The mission reviewed draft IP, RAS, and ROX templates and provided guidance to BSD staff on preparation for one bank. - Benchmarks for 17 out of 19 financial indicators were drafted; mission recommended improvements to benchmark analysis and emphasized the need for relevant and reliable data and for qualitative analysis to support quantitative assessment. - The draft ROX broadly aligns with past TA recommendations; suggested improvements include supporting trend analysis over longer periods and emphasizing exceptions to prudential/regulatory norms. - Implementation of RBS remains a multi-year project requiring: - adoption of procedures followed by training of all BSD staff; - supervisors to be more analytical and able to explain assessments to bank management/boards; - comprehensive review of legal and regulatory frameworks; - focus on ensuring corrective measures are adopted and monitored. ### Main recommendations (summary from Table 1) - General - Finalize working version of RBS manual and supporting documents (IP, RAS, ROX) — Priority: High, Timeframe: ST - Continue development of RBS analytical and examination skills among all BSD staff through appropriate training — Priority: High, Timeframe: ST - Conduct periodic reviews of the coverage and quality of the collected data — Priority: Medium, Timeframe: LT - Review the legal and regulatory frameworks to support the risk-based approach to supervision — Priority: Medium, Timeframe: LT - Begin developing internal BoL policy for applying appropriate regulatory responses and corrective/enforcement actions — Priority: Medium, Timeframe: MT - Offsite Supervision - Prepare and utilize IP and RAS for all banks — Priority: High, Timeframe: ST - Further develop and refine benchmarks for FSIs — Priority: Medium, Timeframe: MT - Onsite Supervision - Prepare risk priority-based onsite examinations schedule for 2018 — Priority: High, Timeframe: ST - Apply RBS onsite examination procedures for all examinations — Priority: High, Timeframe: LT - Formulate the scope and areas of focus for onsite examinations using IP/RAS/last ROX and discussing with offsite analysts — Priority: Medium, Timeframe: LT - Note: ST means short-term (3–6 months), MT means medium-term (6 month to one year), LT means long-term (more than one year). ### Background — banking sector structure and risks - Banking sector growth and structure - Number of banking institutions: 42 (up from 12 in 2006). - Composition: 28 branches or subsidiaries of foreign banks, 7 locally owned private banks, 3 joint-venture banks, 3 state-owned banks, and 1 specialized bank. - Asset shares: three state-owned banks hold approximately 43 percent of total assets, foreign banks 28 percent, private banks 19 percent, joint-venture banks 10 percent. - Systemic concerns - Rapid growth placed significant burden on BSD’s compliance-based supervision and limited its effectiveness. - Reported FSIs may mask vulnerabilities given rapid—albeit decelerating—credit growth. - Particular concern: recent increase in foreign currency lending financed by external borrowing. - Weaknesses in regulatory and supervisory capacity; at end-2016, less than one-third of the combined staff of the on-site and off-site supervision divisions had more than five years’ experience. ### Progress since prior TA (2016–17 FIRST Initiative project) - Project consisted of three short-term missions at approximately six-month intervals (April 2016, November 2016, April 2017) to help BoL transition to RBS. - Achievements: - Drafted comprehensive RBS manual incorporating step-by-step procedures for offsite analysis and onsite examinations. - Field testing of new methods by BSD staff. - An IP and RAS prepared for one bank; a ROX prepared using the revised CAMELS-format. - Two dedicated teams of five people each (onsite and offsite) maintained throughout the project, aiding knowledge exchange and learning-by-doing. ### Current challenges in implementing RBS — supervisory manual and offsite analysis - Supervisory manual adoption - Adoption of the manual and completion of IP and RAS for all banks are critical milestones. - As of late November 2017, IP and RAS for only five banks were completed. - Recommendation: Finalize and adopt the RBS manual; complete IP and RAS for all banking institutions; draft supervisory strategy in consultation between Offsite and Onsite divisions. - Need for coordination - One strategy, IP, RAS, and CAMELS rating should exist per bank; regular information sharing and uniform formats across BSD divisions are crucial. - Benchmarks and FSIs - Benchmarks for 17 financial indicators drafted based on 3½ years of Lao P.D.R. data and industry prudential norms. - Mission recommendations include possible use of two or three peer groups, refinement of one indicator, and review of benchmark ranges once during first year of use. - Recommendation: Continue referencing and testing data benchmarks; test possible use of peer groups; review effectiveness of listed key indicators. - Data gaps and reporting - Preparation of three ratios focused on short-term liquidity was not possible due to absence of remaining maturity information for assets and liabilities less than one year. - BoL drafted a new reporting requirement to achieve better granularity. - Recommendation: Conduct periodic reviews of coverage and quality of collected data; test and implement new liquidity reporting requirement to provide data for short-term asset and liability ratios. - Qualitative analysis and consistency - Supervisory conclusions must be supported by qualitative analysis; offsite team completed five RAS reports. - Challenges noted in estimating approximate risk levels and risk management quality for RAS. - Mission provided sample descriptive scales for risk levels (low, moderate, above average, high) and risk management quality (strong, acceptable, needs improvement, weak) and suggested adding a cross-relationship matrix (Figure 1) to the manual to support consistent conclusions. - Recommendation: Define qualitative descriptions of risk levels and risk management quality and incorporate them into the manual; add cross-relationship matrix of risk quantity and risk management quality. - Quality control - Guided discussions using actual data were effective for capacity building; identified opportunities to improve offsite presentation and ensure income ratios are annualized. - Recommendation: Implement a review or quality control process for analytical data in the IP. ### Onsite examination procedures (introductory observations) - The ROX draft is broadly in line with past TA recommendations. - Suggested onsite improvements: - Support trend analysis over longer periods of time. - Emphasize exceptions to prudential and/or regulatory norms. - Next step: Planning an onsite examination using new RBS methods is logical to put revisions into practice. ### Improvements to ROX format and presentation - The ROX format developed by the onsite team is largely based on the sample format provided at the previous TA mission. - Improvements should: - (i) support the analysis of trends over longer periods of time, and - (ii) emphasize exceptions to prudential and/or regulatory norms. - Example: presentation of FSIs and key ratios for the CAELS factors can be improved by using a longer time horizon. - The onsite team considers that ratios from five previous quarters (15 months) provide a more accurate picture of performance than the three year-ends plus year-to-date (3+ years) as recommended by the mission. - Recommendation: Onsite inspectors should formulate the scope and areas of focus for onsite examinations by reviewing IP/RAS/last ROX data and discussing with offsite analysts. ### Analytical commentary and risk focus - Observed tendency: analytical comments tend to emphasize compliance and changes over risks. - Positive note: the mission was favorably impressed with BSD’s first attempt at a forward-looking, risk-based analysis of findings in a recent draft examination report prepared in the new format. - Remaining gap: analytical commentary remains more on compliance issues and changes in stocks rather than on the underlying reasons and probable future impact. - Expectation: further exposure to working with actual data will substantially accelerate the learning curve and improve examination reports. ### Evaluating bank management (the “M” in CAMELS) - Evaluation and rating of management is a qualitative process based mainly on assessment of the adequacy of policies, procedures, controls, and oversight. Risk management in banks is an important component of management evaluation. - Contrast: CAELS components are quantitative and reflective of past performance; an assessment of “M” is more forward-looking. - Current practice: the “M” component is not currently rated by offsite analysts; an attempt is made during onsite examinations relying primarily on the ratings assigned to the CAELS components. - Mission advice: use a more detailed methodology for evaluating written risk-management policies and practices of bank management. - Objective: future TA missions will help BSD staff develop skills in making appropriate qualitative judgments. ### Planning and applying risk-based onsite examinations - The mission discussed planning methods for the 2018 onsite examination schedule with staff and offered input on priority, selection, and timing of banks to be examined. - Although the RBS manual has not yet been formally put into practice, BSD demonstrated awareness of risks and a common-sense approach to scheduling inspections. - Use of the IP and RAS will support further refinements and improvements to examination scheduling and scoping. - The mission provided assistance in planning an actual onsite examination using risk-based methods and offsite data, and answered practical questions on rating methodologies. - Once IPs and RASes have been prepared for all banks, the planning process will be much improved and more practical, “real-time” task. ### Capacity building of BSD staff - Implementation of RBS will require capacity building of the BSD staff. Supervisors are accustomed to point-in-time, comply-not-comply judgments and are anxious about making forward-looking risk-based judgments. - The two task force teams (offsite and onsite) are familiar with concepts and procedures and are beginning to implement them. - Transition timeline: full and effective implementation of RBS is likely to take 3–5 years as examiners and analysts become more proficient in making judgments about levels of risks and the quality of risk mitigation. - The RBS manual is analogous to a comprehensive guidebook; detailed instructions are provided, but achieving master level skills requires much practice and learning-by-doing. - Staff objectives: become more analytical and proactive; be able to explain the rationale for assessments to bank management or directors. - Management support: BoL senior management must give practical support during the learning/implementation phase, including embracing new report formats, emphasizing forward-looking assessments, and giving lesser attention to checking compliance with rules that may have impractical requirements or unintended consequences. - Job descriptions: may need review/revision to reflect practical changes from transition to RBS (e.g., offsite staff preparing and updating IP and RAS with close cooperation from onsite staff). - Recommendation: BSD staff should develop the necessary analytical skills to become more proactive while avoiding undue anxiety regarding the accuracy of judgments. ### Consolidated supervision and cross-border cooperation - Effective RBS requires supervision of banking institutions in a holistic manner; consolidated supervision is needed for BoL to fully understand risks faced by individual institutions and to improve ability to take supervisory action when necessary. - Information on foreign banks is critical: the majority of banks in the Lao P.D.R. are subsidiaries or branches of foreign banks or have foreign joint-venture owners. - Imperative: BoL should establish good lines of communication and cooperation with home country regulators, preferably by adopting reciprocal MOUs for data sharing. - Legal authority: authority for sharing information and cooperating with foreign regulatory authorities should be made explicit in the new banking law. In the interim, BSD managers should continue informal communication channels with home country counterparts. ### Review of legal and regulatory frameworks - Effective RBS must be supported by appropriate legal and regulatory frameworks; as RBS is put into practice, issues relating to prudential regulations and the banking law may require either RBS procedure amendments or law/regulation revisions. - Legal framework needs to provide BoL sufficient powers that do not constrain implementation of RBS; regulations should be practical and enforceable to contribute to sound risk management in banks. - The BoL is in the process of drafting a new banking law and relevant regulations. Close coordination between onsite/offsite BSD divisions and legal/regulations divisions will be beneficial. - Current law inadequacy: the current banking law does not provide adequate legal protection for BSD staff performing lawful duties. - Best practice: supervisors should have immunity from prosecution in the lawful performance of their duties; failure to provide such immunity can lead to supervisory forbearance and undermine discipline. - Risk of rigid numeric limits: reliance on compliance with specified parameters can have unforeseen consequences. Example: the 3 percent maximum threshold for the ratio of NPLs to total loans could prompt “evergreening” or contribute to a credit crunch. - Recommendation: The legal and regulatory frameworks should be properly reviewed to support the risk-based approach to supervision. ### Regulatory response and corrective measures - Potential weakness: RBS may focus more on diagnosis than cure; risk that regulatory efforts concentrate on assessment rather than on corrective actions. - Current tendency: BSD staff are accustomed to monetary penalties and fines as the standard approach for addressing deficiencies; supervisors' role is primarily fact-finding with regulatory responses decided at higher levels of BoL. - Importance: BSD staff must understand the need for clear and accurate analyses of condition and cause to recommend effective responses for senior BoL management. - Mission action: conducted a presentation for BSD staff on fundamental elements of effective regulatory responses and corrective measures. - Application principles: regulatory responses should be applied in a firm, prompt, and consistent manner as RBS is implemented. - Policy recommendation: BoL should adopt a formal policy for applying regulatory responses and corrective/enforcement actions. Guidance is available from the Basel Committee on Banking Supervision paper of July 2015; Sections 2 and 6 are noted as especially important for policy development. - Recommendation: BoL should develop and adopt a formal policy for applying regulatory responses and corrective/enforcement actions. ### Future TA needs and program phases - Further TA will be critical to support progress; senior management of BoL expressed a desire for more TA on a peripatetic basis. - Transition from compliance-based supervision to RBS requires extensive capacity building for all BSD staff, especially during initial implementation. - MCM is seeking external financing for a multi-mission project on strengthening RBS; the mission laid groundwork by agreeing with BoL on specific project outcomes, verifiable indicators, and deadlines. - Long-term goal: establish effective RBS and address weaknesses when identified while ensuring the banking system remains prudently responsive to the need for financial services in Lao P.D.R. - The TA program comprises three broad phases: - Phase 1: developing a framework, i.e., the RBS manual and supporting templates and documents; - Phase 2: training BSD staff in practical use of RBS methods and explaining RBS concepts to bankers; - Phase 3: developing a more formalized policy for applying appropriate and consistent regulatory responses and/or corrective actions when problems are identified, including revisions to the manual to fully support an effective risk-based supervision regime. - Mission-identified areas where TA will be beneficial: - Assist with the practical application of RBS manual and associated supervisory methods; - Review/updating IPs, RASes, CAMELS ratings, and benchmark criteria; - Review/update the annual examination plan; - Review/advice on writing a ROX; - Review BSD reporting to BoL senior management; - Designing/applying appropriate regulatory responses. *Source: cr18139 - 15. The new draft ROX template can be improved.* ### Preface ................................................................................................................ ### cr18139 - Preface ### Preface and mission context - A Monetary and Capital Markets Department (MCM) technical assistance (TA) mission visited Vientiane, Lao P.D.R., during the period November 13–24, 2017. - Mission objective: further assist the Banking Supervision Department (BSD) of the Bank of Lao P.D.R. (BoL) in transitioning to risk-based supervision (RBS) of banks. - Mission engagement: discussions with Deputy Governor Vathana Dalaloy and BSD staff; hands-on cooperation noted. ### Executive summary — key findings and status - A new supervisory manual reflecting key principles of risk-based approach to supervision has been drafted; includes templates of Institutional Profile (IP), Risk Assessment Summary (RAS), and Report of Onsite Examination (ROX). - Work advanced on benchmarking financial soundness indicators (FSIs) and enhancing onsite examination procedures. - New staff members with specialist skills have been recruited. - Adoption of the supervisory manual and preparation of IP and RAS for all banks are important milestones; mission supported BoL’s plan to adopt the manual before end-2017 but cautioned against compromising quality to meet ambitious deadlines. - The mission reviewed draft IP, RAS, and ROX templates and provided guidance to BSD staff on preparation for one bank. - Benchmarks for 17 out of 19 financial indicators were drafted; mission recommended improvements to benchmark analysis and emphasized the need for relevant and reliable data and for qualitative analysis to support quantitative assessment. - The draft ROX broadly aligns with past TA recommendations; suggested improvements include supporting trend analysis over longer periods and emphasizing exceptions to prudential/regulatory norms. - Implementation of RBS remains a multi-year project requiring: - adoption of procedures followed by training of all BSD staff; - supervisors to be more analytical and able to explain assessments to bank management/boards; - comprehensive review of legal and regulatory frameworks; - focus on ensuring corrective measures are adopted and monitored. ### Main recommendations (summary from Table 1) - General - Finalize working version of RBS manual and supporting documents (IP, RAS, ROX) — Priority: High, Timeframe: ST - Continue development of RBS analytical and examination skills among all BSD staff through appropriate training — Priority: High, Timeframe: ST - Conduct periodic reviews of the coverage and quality of the collected data — Priority: Medium, Timeframe: LT - Review the legal and regulatory frameworks to support the risk-based approach to supervision — Priority: Medium, Timeframe: LT - Begin developing internal BoL policy for applying appropriate regulatory responses and corrective/enforcement actions — Priority: Medium, Timeframe: MT - Offsite Supervision - Prepare and utilize IP and RAS for all banks — Priority: High, Timeframe: ST - Further develop and refine benchmarks for FSIs — Priority: Medium, Timeframe: MT - Onsite Supervision - Prepare risk priority-based onsite examinations schedule for 2018 — Priority: High, Timeframe: ST - Apply RBS onsite examination procedures for all examinations — Priority: High, Timeframe: LT - Formulate the scope and areas of focus for onsite examinations using IP/RAS/last ROX and discussing with offsite analysts — Priority: Medium, Timeframe: LT - Note: ST means short-term (3–6 months), MT means medium-term (6 month to one year), LT means long-term (more than one year). ### Background — banking sector structure and risks - Banking sector growth and structure - Number of banking institutions: 42 (up from 12 in 2006). - Composition: 28 branches or subsidiaries of foreign banks, 7 locally owned private banks, 3 joint-venture banks, 3 state-owned banks, and 1 specialized bank. - Asset shares: three state-owned banks hold approximately 43 percent of total assets, foreign banks 28 percent, private banks 19 percent, joint-venture banks 10 percent. - Systemic concerns - Rapid growth placed significant burden on BSD’s compliance-based supervision and limited its effectiveness. - Reported FSIs may mask vulnerabilities given rapid—albeit decelerating—credit growth. - Particular concern: recent increase in foreign currency lending financed by external borrowing. - Weaknesses in regulatory and supervisory capacity; at end-2016, less than one-third of the combined staff of the on-site and off-site supervision divisions had more than five years’ experience. ### Progress since prior TA (2016–17 FIRST Initiative project) - Project consisted of three short-term missions at approximately six-month intervals (April 2016, November 2016, April 2017) to help BoL transition to RBS. - Achievements: - Drafted comprehensive RBS manual incorporating step-by-step procedures for offsite analysis and onsite examinations. - Field testing of new methods by BSD staff. - An IP and RAS prepared for one bank; a ROX prepared using the revised CAMELS-format. - Two dedicated teams of five people each (onsite and offsite) maintained throughout the project, aiding knowledge exchange and learning-by-doing. ### Current challenges in implementing RBS — supervisory manual and offsite analysis - Supervisory manual adoption - Adoption of the manual and completion of IP and RAS for all banks are critical milestones. - As of late November 2017, IP and RAS for only five banks were completed. - Recommendation: Finalize and adopt the RBS manual; complete IP and RAS for all banking institutions; draft supervisory strategy in consultation between Offsite and Onsite divisions. - Need for coordination - One strategy, IP, RAS, and CAMELS rating should exist per bank; regular information sharing and uniform formats across BSD divisions are crucial. - Benchmarks and FSIs - Benchmarks for 17 financial indicators drafted based on 3½ years of Lao P.D.R. data and industry prudential norms. - Mission recommendations include possible use of two or three peer groups, refinement of one indicator, and review of benchmark ranges once during first year of use. - Recommendation: Continue referencing and testing data benchmarks; test possible use of peer groups; review effectiveness of listed key indicators. - Data gaps and reporting - Preparation of three ratios focused on short-term liquidity was not possible due to absence of remaining maturity information for assets and liabilities less than one year. - BoL drafted a new reporting requirement to achieve better granularity. - Recommendation: Conduct periodic reviews of coverage and quality of collected data; test and implement new liquidity reporting requirement to provide data for short-term asset and liability ratios. - Qualitative analysis and consistency - Supervisory conclusions must be supported by qualitative analysis; offsite team completed five RAS reports. - Challenges noted in estimating approximate risk levels and risk management quality for RAS. - Mission provided sample descriptive scales for risk levels (low, moderate, above average, high) and risk management quality (strong, acceptable, needs improvement, weak) and suggested adding a cross-relationship matrix (Figure 1) to the manual to support consistent conclusions. - Recommendation: Define qualitative descriptions of risk levels and risk management quality and incorporate them into the manual; add cross-relationship matrix of risk quantity and risk management quality. - Quality control - Guided discussions using actual data were effective for capacity building; identified opportunities to improve offsite presentation and ensure income ratios are annualized. - Recommendation: Implement a review or quality control process for analytical data in the IP. ### Onsite examination procedures (introductory observations) - The ROX draft is broadly in line with past TA recommendations. - Suggested onsite improvements: - Support trend analysis over longer periods of time. - Emphasize exceptions to prudential and/or regulatory norms. - Next step: Planning an onsite examination using new RBS methods is logical to put revisions into practice. *Preface — IMF MCM TA mission to Bank of Lao P.D.R., November 13–24, 2017.* ### 15. The new draft ROX template can be improved. The ROX format developed by the ### 15. The new draft ROX template can be improved. ### Improvements to ROX format and presentation - The ROX format developed by the onsite team is largely based on the sample format provided at the previous TA mission. - Improvements should: - (i) support the analysis of trends over longer periods of time, and - (ii) emphasize exceptions to prudential and/or regulatory norms. - Example: presentation of FSIs and key ratios for the CAELS factors can be improved by using a longer time horizon. - The onsite team considers that ratios from five previous quarters (15 months) provide a more accurate picture of performance than the three year-ends plus year-to-date (3+ years) as recommended by the mission. - Recommendation: Onsite inspectors should formulate the scope and areas of focus for onsite examinations by reviewing IP/RAS/last ROX data and discussing with offsite analysts. ### Analytical commentary and risk focus - Observed tendency: analytical comments tend to emphasize compliance and changes over risks. - Positive note: the mission was favorably impressed with BSD’s first attempt at a forward-looking, risk-based analysis of findings in a recent draft examination report prepared in the new format. - Remaining gap: analytical commentary remains more on compliance issues and changes in stocks rather than on the underlying reasons and probable future impact. - Expectation: further exposure to working with actual data will substantially accelerate the learning curve and improve examination reports. ### Evaluating bank management (the “M” in CAMELS) - Evaluation and rating of management is a qualitative process based mainly on assessment of the adequacy of policies, procedures, controls, and oversight. Risk management in banks is an important component of management evaluation.3 - Contrast: CAELS components are quantitative and reflective of past performance; an assessment of “M” is more forward-looking. - Current practice: the “M” component is not currently rated by offsite analysts; an attempt is made during onsite examinations relying primarily on the ratings assigned to the CAELS components. - Mission advice: use a more detailed methodology for evaluating written risk-management policies and practices of bank management. - Objective: future TA missions will help BSD staff develop skills in making appropriate qualitative judgments. ### Planning and applying risk-based onsite examinations - The mission discussed planning methods for the 2018 onsite examination schedule with staff and offered input on priority, selection, and timing of banks to be examined. - Although the RBS manual has not yet been formally put into practice, BSD demonstrated awareness of risks and a common-sense approach to scheduling inspections. - Use of the IP and RAS will support further refinements and improvements to examination scheduling and scoping. - The mission provided assistance in planning an actual onsite examination using risk-based methods and offsite data, and answered practical questions on rating methodologies. - Once IPs and RASes have been prepared for all banks, the planning process will be much improved and more practical, “real-time” task. ### Capacity building of BSD staff - Implementation of RBS will require capacity building of the BSD staff. Supervisors are accustomed to point-in-time, comply-not-comply judgments and are anxious about making forward-looking risk-based judgments. - The two task force teams (offsite and onsite) are familiar with concepts and procedures and are beginning to implement them. - Transition timeline: full and effective implementation of RBS is likely to take 3–5 years as examiners and analysts become more proficient in making judgments about levels of risks and the quality of risk mitigation. - The RBS manual is analogous to a comprehensive guidebook; detailed instructions are provided, but achieving master level skills requires much practice and learning-by-doing. - Staff objectives: become more analytical and proactive; be able to explain the rationale for assessments to bank management or directors. - Management support: BoL senior management must give practical support during the learning/implementation phase, including embracing new report formats, emphasizing forward-looking assessments, and giving lesser attention to checking compliance with rules that may have impractical requirements or unintended consequences. - Job descriptions: may need review/revision to reflect practical changes from transition to RBS (e.g., offsite staff preparing and updating IP and RAS with close cooperation from onsite staff). - Recommendation: BSD staff should develop the necessary analytical skills to become more proactive while avoiding undue anxiety regarding the accuracy of judgments. ### Consolidated supervision and cross-border cooperation - Effective RBS requires supervision of banking institutions in a holistic manner; consolidated supervision is needed for BoL to fully understand risks faced by individual institutions and to improve ability to take supervisory action when necessary. - Information on foreign banks is critical: the majority of banks in the Lao P.D.R. are subsidiaries or branches of foreign banks or have foreign joint-venture owners. - Imperative: BoL should establish good lines of communication and cooperation with home country regulators, preferably by adopting reciprocal MOUs for data sharing. - Legal authority: authority for sharing information and cooperating with foreign regulatory authorities should be made explicit in the new banking law. In the interim, BSD managers should continue informal communication channels with home country counterparts. ### Review of legal and regulatory frameworks - Effective RBS must be supported by appropriate legal and regulatory frameworks; as RBS is put into practice, issues relating to prudential regulations and the banking law may require either RBS procedure amendments or law/regulation revisions. - Legal framework needs to provide BoL sufficient powers that do not constrain implementation of RBS; regulations should be practical and enforceable to contribute to sound risk management in banks. - The BoL is in the process of drafting a new banking law and relevant regulations.4 Close coordination between onsite/offsite BSD divisions and legal/regulations divisions will be beneficial. - Current law inadequacy: the current banking law does not provide adequate legal protection for BSD staff performing lawful duties.5 - Best practice: supervisors should have immunity from prosecution in the lawful performance of their duties; failure to provide such immunity can lead to supervisory forbearance and undermine discipline. - Risk of rigid numeric limits: reliance on compliance with specified parameters can have unforeseen consequences. Example: the 3 percent maximum threshold for the ratio of NPLs to total loans could prompt “evergreening” or contribute to a credit crunch. - Recommendation: The legal and regulatory frameworks should be properly reviewed to support the risk-based approach to supervision. ### Regulatory response and corrective measures - Potential weakness: RBS may focus more on diagnosis than cure; risk that regulatory efforts concentrate on assessment rather than on corrective actions. - Current tendency: BSD staff are accustomed to monetary penalties and fines as the standard approach for addressing deficiencies; supervisors' role is primarily fact-finding with regulatory responses decided at higher levels of BoL. - Importance: BSD staff must understand the need for clear and accurate analyses of condition and cause to recommend effective responses for senior BoL management. - Mission action: conducted a presentation for BSD staff on fundamental elements of effective regulatory responses and corrective measures. - Application principles: regulatory responses should be applied in a firm, prompt, and consistent manner as RBS is implemented. - Policy recommendation: BoL should adopt a formal policy for applying regulatory responses and corrective/enforcement actions. Guidance is available from the Basel Committee on Banking Supervision paper of July 2015; Sections 2 and 6 are noted as especially important for policy development. - Recommendation: BoL should develop and adopt a formal policy for applying regulatory responses and corrective/enforcement actions. ### Future TA needs and program phases - Further TA will be critical to support progress; senior management of BoL expressed a desire for more TA on a peripatetic basis. - Transition from compliance-based supervision to RBS requires extensive capacity building for all BSD staff, especially during initial implementation. - MCM is seeking external financing for a multi-mission project on strengthening RBS; the mission laid groundwork by agreeing with BoL on specific project outcomes, verifiable indicators, and deadlines. - Long-term goal: establish effective RBS and address weaknesses when identified while ensuring the banking system remains prudently responsive to the need for financial services in Lao P.D.R. - The TA program comprises three broad phases: - Phase 1: developing a framework, i.e., the RBS manual and supporting templates and documents; - Phase 2: training BSD staff in practical use of RBS methods and explaining RBS concepts to bankers; - Phase 3: developing a more formalized policy for applying appropriate and consistent regulatory responses and/or corrective actions when problems are identified, including revisions to the manual to fully support an effective risk-based supervision regime. - Mission-identified areas where TA will be beneficial: - Assist with the practical application of RBS manual and associated supervisory methods; - Review/updating IPs, RASes, CAMELS ratings, and benchmark criteria; - Review/update the annual examination plan; - Review/advice on writing a ROX; - Review BSD reporting to BoL senior management; - Designing/applying appropriate regulatory responses. *Source: cr18139 - 15. The new draft ROX template can be improved.* --- _Source: https://www.imf.org/-/media/files/publications/cr/2018/cr18139.pdf_