## _cr16199 - EXECUTIVE SUMMARY

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### Executive summary — key findings
- The crisis preparedness and management framework is generally well developed. The authorities have the capacity to resolve smaller- and medium-sized banks.
- Additional legal powers set out in the draft lex specialis, which the government would table before parliament in a crisis situation, likely would need to be in place to be able to resolve a systemically important bank.
- Contingency planning has been undertaken, but more work is required to ensure that the policies, procedures, and documentation required to efficiently and effectively resolve failing banks of all sizes, as well as the simultaneous failures of multiple banks, needs to be undertaken.
- Eventual transposition of the European Union (EU) Bank Recovery and Resolution Directive (BRRD) in national legislation could be expected to provide additional legal powers and address many existing policy and procedural shortcomings, but further interim planning and preparation is recommended.

### Institutional arrangements (FSC and governance)
- FSC establishment and composition:
  - The Financial Stability Council (FSC) was established in 2010 to maintain financial system stability and avoid financial distress.
  - FSC composition: Central Bank of Montenegro (CBM) governor (chair), the Minister of Finance, the president of the Insurance Supervision Agency (ISA) Council, and the Securities and Exchange Commission (SEC) president.
- Current practices and weaknesses:
  - Only principals are allowed to attend FSC meetings; FSC members function in a personal capacity without authority to send representatives.
  - The Deposit Protection Fund (DPF) Director General is not a member and has not been invited to any of the 26 FSC meetings held to date.
  - Several inter-agency MOUs have not been updated; overlapping scopes and missing MOUs (DPF-MOF, CBM-ISA) raise coordination concerns.
- Recommendations (summary):
  - Designate and empower alternates to act for principals in temporary absence.
  - The DPF Director General should become a member of the FSC.
  - Replace existing MOUs with a single inter-agency Memorandum of Understanding (MOU) among FSC membership.

### Resolution authority and organizational arrangements
- CBM role:
  - The CBM functions as the de facto resolution authority for banks; historically responsible for managing bank failures, with the MOF looking to CBM recommendations.
  - CBM Council and the governor are responsible for resolution decision making.
- Organizational recommendations:
  - When the BRRD is transposed, the CBM should be identified as the resolution authority for institutions under its supervision; no need to establish a new resolution authority.
  - Establish a dedicated full-time Small Resolution Unit within the CBM:
    - Reporting line to the CBM Board.
    - Separation from the department responsible for emergency liquidity assistance (ELA) and, eventually, from the Bank Supervision Department (BSD).
    - The unit should have ready access to resources throughout the CBM.

### Early intervention and failure mitigation
- CBM early intervention powers and practice:
  - The CBM may impose a wide variety of measures (scaling down operations, establishing reserves, selling assets, restricting dividends, increasing capital, removing management/board members).
  - Measures can be implemented via letters, written agreements with timeframes, or written CBM orders with specified timeframes.
  - Special contingent legislation (draft lex specialis) provides additional powers in a financial crisis.
- Interim administration:
  - Required where the bank’s own funds or solvency ratio falls below half the prescribed level, or where failure to implement early intervention measures may jeopardize solvency or liquidity.
  - Interim administration can be used to rehabilitate under current ownership or to resolve a failing bank.
- Recovery planning—current requirements and gaps:
  - BSD requires liquidity contingency plans and capital plans updated annually; banks must conduct capital stress tests and define measures to restore capital.
  - A guideline for recovery (and resolution) plans has been drafted but not put into effect.
  - CBM has begun engagement with supervisory colleges and will participate in EBA-sponsored meetings.
- Recommendation:
  - Begin now to require banks to prepare recovery plans, as envisioned under the BRRD, and engage with relevant home supervisory authorities.
  - Accelerate implementation of recovery planning requirements, especially for larger domestic banks.

### Failure resolution regime — powers, gaps, and outcomes
- Resolution powers under the Banking Law:
  - CBM may appoint an interim administrator who assumes powers of the Board, executive managers, and shareholders.
  - CBM may impose a moratorium on payment of liabilities for up to six months (CBM may authorize payment of insured deposits during the moratorium).
  - Administrator to submit a resolution plan within 30 days.
  - Possible resolution outcomes: resolution via recapitalization, transfer of assets and liabilities to another bank, or bankruptcy.
- Recapitalization and creditor treatment:
  - Recapitalization sources: existing shareholders; existing and new shareholders; or solely new shareholders.
  - Existing shareholders may be given the opportunity to recapitalize, but are not guaranteed this right if they failed to comply with prior CBM orders.
  - If the bank has positive net asset value, existing shareholders’ shares are mandatorily sold to new shareholders under a pricing arrangement; if no or negative net asset value, shares reportedly can be transferred to new shareholders at no cost.
  - Subordinated debt claims are not written down or off when a bank is recapitalized under interim administration; hybrid capital would have been already converted into equity, but subordinated debt contracts or law do not require write-down or conversion into equity.
- Identified weaknesses:
  - Scope for existing shareholders to receive value for their shares when recapitalized by others.
  - Subordinated debt holders may incur no losses.
  - The DPF cannot finance an insured deposit transfer.
  - No provisions for the government to establish a bridge bank.
- Court challenges:
  - CBM decisions to impose interim administration or initiate bankruptcy may be challenged in an Administrative Court; challenges are procedural reviews and do not automatically suspend administration.

### Resolution planning and funding
- Status and capacity:
  - Institution-specific resolution planning has not yet been initiated; preparatory work in the National Contingency Plan (NCP) has not produced necessary policies, procedures, and documentation to implement lex specialis powers for a systemically important bank.
  - The DPF currently has the capacity to fund the resolution via a purchase (of assets) and assumption (of insured deposits) transaction of all but the seven largest banks.
  - Once the DPF reaches its target level of 10 percent insured deposits, it could reimburse all insured deposits of the six smallest banks simultaneously; funds sufficient to cover insured deposits of up to the twelfth largest bank on a single basis.
  - The DPF has a target ratio of 10 percent insured deposits to be reached in the next 5–6 years (provided there is no pay-out).
- Funding gaps:
  - DPF funds cannot currently be used to finance an insured deposit transfer; Deposit Protection Law (DPL) should be amended.
  - The Ministry of Finance (MOF) has no funding earmarked in the annual budget and no contingent lines of credit with banks or others.
- Funding recommendations:
  - Vest MOF with statutory authority to borrow or use budgetary means up to a certain limit without ex ante parliamentary approval, with ex post parliamentary accountability and safeguards.
  - Establish contingent credit lines for MOF with a reputable foreign bank outside the region or with an international financial institution (e.g., EBRD).
  - Adopt an explicit policy for CBM and MOF liquidity and capital support with strict and objective criteria for systemic importance and safeguards, and adopt a least-cost objective.
  - Ensure DPF can use its funds to finance a purchase-and-assume (P&A) transaction and make least-cost the explicit legal objective guiding pay-out vs. P&A decisions.

### Deposit insurance: capacity and reforms
- Current status:
  - DPF established in 2006, financed by annual premiums, supported by a standby credit line with the EBRD and a general back-up provision with the government.
  - Coverage level currently EUR 50,000 per depositor per bank.
  - DPF developed pay-out infrastructure to reimburse depositors within 15 working days; DPF has never been triggered.
  - DPF covers natural and legal persons.
- Recommendations:
  - Amend the DPL to enable the DPF to finance the transfer of insured deposits to another bank.
  - Allow the DPF to use other pay-out options (electronic payments to deposit accounts in other banks; interim/advanced payments).
  - In transposition of EU directives, shorten pay-out timeframe to seven working days and introduce risk-based premiums.
  - DPF should undertake testing of pay-out procedures, strengthen internal contingency planning with CBM and MOF, make depositor data testing more frequent and mandatory by the DPL, pre-arrange agent banks and contractors, and sign an MOU with MOF to address back-up finance and guarantees for borrowing.
  - Improve cross-border arrangements by reaching out to foreign deposit insurers.
  - Consider enhancing the DPF’s mandate to collect and manage resolution fund contributions and to manage the investor compensation scheme required by EU accession.

### Liquidity support and Emergency Liquidity Assistance (ELA)
- Existing framework and constraints:
  - Formalized ELA framework exists under the CBM law and additional arrangements are laid out in the lex specialis; both should be brought under a single framework.
  - CBM cannot create money; its liquidity assistance is constrained.
  - CBM liquidity facilities: intraday, overnight, and short-term (up to 15 days) loans against collateral and penal interest rates benchmarked on the treasury bills rate.
  - Reserve requirement ratios: 9.5 percent and 8.5 percent of short-maturity and longer-maturity deposits respectively; banks allowed to use up to 50 percent of their reserve requirement deposits during the day.
  - CBM capital stands at around 2 percent of total banking system deposits.
  - Potential deposit outflows could be as high as 15 percent of total deposits, which could rapidly deplete CBM capital.
- Operational recommendations:
  - CBM should prepare (for internal use) a list of acceptable collateral, and pricing and haircut methodologies; list should not be announced to preserve discretion.
  - MOF could establish a dedicated account at the CBM for ELA; MOF could reimburse CBM for ELA losses within 30 days upon independent audit.
  - Seek stand-by arrangements with international financial institutions and major central banks.
  - Bring ELA provisions under CBM Law and lex specialis into a single framework, including best-practice components and essential safeguards (for example, prohibition of transactions with related parties).
- Safeguards and conditionality:
  - Banks requesting ELA must exhaust all existing liquidity sources.
  - Require an objective, predetermined solvency test at start and during ELA.
  - Cap CBM’s ELA use up to a maximum amount and implement reimbursement measures.
  - Require letters of comfort from parents of foreign-owned banks.
  - Prohibit upstreaming of funds from subsidiaries/branches during assistance and increase supervisory intensity during assistance.
  - Allow temporary drawdown of reserve requirements beyond intraday only for illiquid but solvent banks seeking ELA.

### Systemic crisis preparedness and management
- Current status and gaps:
  - The National Contingency Plan (NCP) was adopted to complement agency contingency plans; CBM contingency plan is considered the NCP backbone.
  - Overall contingency plans were tested in a 2013 crisis simulation exercise (CSE); only CBM and MOF participated and no systematic revision or follow-up has been undertaken.
  - FSC focus has shifted toward systemic risk monitoring rather than crisis preparedness; progress with NCP implementation is not regularly tabled for FSC discussion.
  - No system-wide crisis simulation exercises involving all FSC members and the DPF have been organized; no cross-border crisis simulations with home resolution authorities.
  - The DPF does not have a contingency plan.
- Recommendations to operationalize crisis preparedness:
  - Focus on implementation of the NCP and agencies' readiness, with regular progress reports tabled for discussion by a new FSC committee dedicated to crisis preparedness and management.
  - Periodic system-wide crisis simulation exercises should be held involving all FSC member agencies to test contingencies (bank runs, depositor pay-outs, financial assistance to failing banks, resolution of SIFIs).
  - Establish two standing FSC working groups at the deputy principal level:
    - Macroprudential oversight working group to be led by the CBM (consider adding two external, independent members).
    - Crisis management working group to be led by the MOF.
  - Ensure the DPF is involved in contingency planning and crisis management (including joining the FSC).

### Key recommendations and timing (selected)
- Institutional Arrangements:
  - Amend the FSC Law to grant membership to the DPF, provide for representation by alternates. (I)
  - Streamline various inter-agency MOUs into a single updated multilateral agreement. (I)
  - Organize a dedicated, full-time Small Resolutions Unit within the CBM. (I)
- Failure Mitigation Regime:
  - Begin now to require banks to prepare recovery plans as envisioned under the BRRD. (NT)
- Failure Resolution Regime — Resolution Planning:
  - Start bank-specific resolution planning, including resolvability assessments, prioritizing banks based on their CAMEL ratings. (I)
  - Adopt explicit policy for CBM and MOF liquidity and capital support with strict criteria. (I)
- Resolution Funding:
  - Amend the DPL to enable DPF funding for transfer of insured deposits during resolution. (NT)
  - Vest MOF with statutory authority to borrow or use budgetary means up to a certain limit without ex ante parliamentary approval and with ex post parliamentary accountability. (NT)
  - Establish a credit line for MOF with a reputable foreign bank or IFI. (I)
  - Establish safeguards on use of MOF or CBM funds and adopt a least-cost objective. (I)
- Deposit Insurance:
  - Adopt and implement methodology for risk-based contributions and amend the DPL to introduce pay-out of insured depositors within seven working days in line with EU DGSD. (NT)
- Liquidity Support:
  - Bring ELA under the CBM Law and the lex specialis under a single framework. (NT)
  - Prepare list of acceptable collateral and pricing and haircut methodologies for internal use. (NT)
  - Strengthen safeguards to protect the CBM’s financial autonomy in case of ELA. (NT)
- Systemic Crisis Management:
  - Ensure regular progress reports on implementation of contingency planning and conduct simulation exercises for key contingencies. (I)
  - Establish two standing FSC working groups at the deputy principal level for macroprudential oversight (led by CBM) and crisis management (led by MOF); consider adding two external, independent members to the macroprudential oversight working group. (NT)

### Background — financial sector structure and recent crisis experience
- Financial sector structure (as of June 2015 and related data):
  - Banking sector accounts for about 90 percent of financial system assets, equivalent to about 93 percent of GDP as of June 2015.
  - There are 14 banks operating in Montenegro (up from 11 in 2013).
  - Foreign subsidiaries hold 79 percent of the sector’s assets.
  - Banks’ assets concentrated in lending products (60 percent), with most lending in the trade sector and households (mostly mortgages), each representing about 38 percent of total loans.
  - Loans to nonresidents represent 18 percent of the total.
  - Liabilities concentrated in deposits (75 percent of the total), split between demand (46 percent) and time (53 percent) deposits.
  - Foreign deposits represent about 20 percent of total deposits.
  - Insurance sector and nonbank financial system are very small: total insurance premiums represent only 2 percent of GDP; life insurance insures less than 10 percent of the population.
  - Five micro-credit institutions (MCIs) total size is 2 percent of GDP with assets slightly over 1 percent that of banks.
- Recent crisis experience and policy responses:
  - The economy has yet to recover from the collapse of the lending boom; crisis triggered prolonged balance sheet deleveraging and near uninterrupted credit contraction.
  - Banks remain vulnerable due to high nonperforming loans (NPLs), low profitability, weak capital, and high private sector indebtedness.
  - Progress to address debt overhang, reduce NPLs, and restructure/recover assets has been limited.
  - Policy measures taken:
    - In 2007 the CBM introduced stricter rules for asset classification and provisioning (which were relaxed during the crisis), and increased CAR by two percentage points to 10 percent.
    - Early 2008 temporary bank-specific ceilings on credit growth in the 30–60 percent range were introduced.
    - Reserve requirement base was broadened to include public sector deposits and required reserve rates on certain deposits were increased.
    - To reverse deposit outflows in late 2008, the government guaranteed all bank private deposits through a temporary Law on Measures for the Protection of the Banking System; the law also allowed liquidity support from CBM and government, with one large domestically owned bank receiving a sizeable loan from the government.
    - The anti-crisis law lapsed at end-2009; at the same time coverage of insured deposits was increased by four-fold to EUR 20,000 (now EUR 50,000).

*Source: _cr16199 - EXECUTIVE SUMMARY (IMF).*

### EXECUTIVE SUMMARY ___________________________________________________________________________ 4

### _cr16199 - EXECUTIVE SUMMARY ___________________________________________________________________________ 4

### Executive summary — key findings
- The crisis preparedness and management framework is generally well developed. The authorities have the capacity to resolve smaller- and medium-sized banks.
- Additional legal powers set out in the draft lex specialis, which the government would table before parliament in a crisis situation, likely would need to be in place to be able to resolve a systemically important bank.
- Contingency planning has been undertaken, but more work is required to ensure that the policies, procedures, and documentation required to efficiently and effectively resolve failing banks of all sizes, as well as the simultaneous failures of multiple banks, needs to be undertaken.
- Eventual transposition of the European Union (EU) Bank Recovery and Resolution Directive (BRRD) in national legislation could be expected to provide additional legal powers and address many existing policy and procedural shortcomings, but further interim planning and preparation is recommended.

### Institutional arrangements
- The Financial Stability Council (FSC) was established in 2010 to maintain financial system stability and avoid financial distress.
- FSC composition: Central Bank of Montenegro (CBM) governor (chair), the Minister of Finance, the president of the Insurance Supervision Agency (ISA) Council, and the Securities and Exchange Commission (SEC) president.
- Current FSC practices:
  - Only principals are allowed to attend FSC meetings.
  - The Deposit Protection Fund (DPF) is not a member.
- Recommendations (summary):
  - Designate and empower alternates to act for principals in temporary absence.
  - The DPF Director General should become a member of the FSC.
  - Replace existing MOUs with a single inter-agency Memorandum of Understanding (MOU) among FSC membership.

### Resolution authority and organizational arrangements
- The CBM functions as the de facto resolution authority for banks.
- When the BRRD is transposed, the CBM should be identified as the resolution authority for the institutions that are under its supervision at that time; there is no need to establish a new resolution authority.
- Given increased workload, establish a dedicated full-time Small Resolution Unit within the CBM with:
  - A reporting line to the CBM Board.
  - Separation from the department responsible for emergency liquidity assistance (ELA) and, eventually, from the Bank Supervision Department (BSD).

### Early intervention and failure mitigation
- The CBM has extensive early intervention powers to influence management and the Board, and may impose interim administration to effectively assume control of a bank’s operations.
- Where solvency or liquidity of a bank is jeopardized, the CBM is required to impose interim administration.
- Interim administration can be used to rehabilitate a bank under current ownership or to resolve a failing bank.
- Banks are required to undertake contingency planning for capital and liquidity:
  - BSD requires banks to prepare contingency plans for liquidity in crisis situations.
  - BSD requires banks to prepare capital plans that must be updated annually.
- Recommendation: Begin now to require banks to prepare recovery plans, as envisioned under the BRRD, and engage with relevant home supervisory authorities.

### Failure resolution regime — powers and gaps
- The CBM can resolve a failing bank through interim administration; a CBM-appointed interim administrator:
  - Manages affairs of the bank under CBM direction and support.
  - Assumes powers of the Board of Directors, executive managers, and shareholders.
  - Has wide powers to recapitalize, restructure, and resolve a bank.
- Possible outcomes of interim administration: resolution via recapitalization, transfer of assets and liabilities to another bank, or bankruptcy.
- Recapitalization sources in principle: existing shareholders, existing and new shareholders, or solely new shareholders.
- The CBM must approve the form of resolution; failing approval, the bank is liquidated and insured deposits paid-out.
- Identified weaknesses in the current resolution regime:
  - Scope for existing shareholders to receive value for their shares when a failing bank is recapitalized by others.
  - Subordinated debt holders may incur no losses.
  - The DPF cannot finance an insured deposit transfer.
  - No provisions for the government to establish a bridge bank.

### Resolution planning and funding
- Institution-specific resolution planning has not yet been initiated; preparatory work in the National Contingency Plan (NCP) has not produced the necessary policies, procedures, and documentation to implement powers envisioned in the lex specialis for a systemically important bank.
- There is no readily available source of finance for capital support in resolutions:
  - DPF funds cannot be used to finance an insured deposit transfer; the Deposit Protection Law (DPL) should be amended to provide for this.
  - The Ministry of Finance (MOF) has no funding earmarked in the annual budget for this purpose.
  - Recommendation: Vest MOF with statutory authority to borrow or use budgetary means up to a certain limit without ex ante parliamentary approval, with ex post parliamentary accountability and safeguards.
  - The MOF has no contingent lines of credit with banks; it should seek to establish stand-by arrangements with a reputable foreign bank outside the region or with an international financial institution (e.g., EBRD).
- Adopt an explicit policy for CBM and MOF liquidity and capital support, setting strict and objective criteria for determining systemic importance of receiving bank.
- Establish safeguards on the use of MOF or CBM funds to resolve a systemically important bank, and adopt a least-cost objective.

### Deposit insurance
- The deposit insurance system is relatively well developed and well capitalized, but needs closer integration in crisis preparedness mechanisms.
- Recommended legal and operational changes:
  - Amend the DPL to enable the DPF to finance the transfer of insured deposits to another bank.
  - Allow the DPF to use other pay-out options rather than mandating use of an agent bank.
  - In transposition of EU directives, shorten pay-out timeframe to seven working days and introduce risk-based premiums.
  - DPF should undertake testing of pay-out procedures and strengthen internal contingency planning in cooperation with CBM and MOF.
  - If DPF becomes a member of the FSC, involve it in contingency planning and crisis management.
  - DPF should sign an MOU with MOF to address back-up finance from the budget and guarantees from MOF for DPF borrowing to cover shortfalls.
  - Consider enhancing the DPF’s mandate to take over responsibilities introduced during EU accession (e.g., bank resolution fund, investor compensation scheme).

### Liquidity support and ELA
- A formalized ELA framework is in place under the CBM law and additional arrangements are laid out in the lex specialis; both should be brought under a single framework.
- Without the ability to create money, the CBM’s ability to provide liquidity assistance is constrained.
- Recommended operational preparations:
  - CBM should prepare (for internal use) a list of acceptable collateral, and pricing and haircut methodologies.
  - MOF could establish a dedicated account at the CBM for ELA.
  - Arrangements could be made for MOF to reimburse the CBM for losses stemming from ELA.
  - MOF and/or the CBM could set up stand-by arrangements with international financial institutions and major central banks.
- Safeguards for capital and/or ELA support by MOF or CBM:
  - Circumstances should be defined in written policy with quantifiable and measurable indicators to guide decisions on systemic importance.
  - Shareholders of banks benefiting from such support should lose the full value of their shares.
  - Losses should be fully borne by holders of the bank’s hybrid capital instruments, subordinated debt, and senior debt.
  - Use of MOF or CBM funds to support resolution of a systemically important bank should include a least-cost objective.

### Systemic crisis preparedness and management
- Recommendation to operationalize and deepen crisis preparedness:
  - Focus on implementation of the National Contingency Plan (NCP) and agencies' readiness.
  - Progress reports on NCP implementation should be regularly tabled for discussion by a new FSC committee dedicated to crisis preparedness and management.
  - Periodic system-wide crisis simulation exercises should be held with all FSC member agencies to test contingencies such as bank runs, depositor pay-outs, financial assistance to failing banks, and resolution of systemically important financial institutions (SIFIs).

### Table 1 — Key recommendations (selected, timing indicated)
- Institutional Arrangements:
  - Amend the FSC Law to grant membership to the DPF, provide for representation by alternates. (I)
  - Streamline various inter-agency MOUs into a single updated multilateral agreement. (I)
  - Organize a dedicated, full-time Small Resolutions Unit within the CBM. (I)
- Failure Mitigation Regime:
  - Begin now to require banks to prepare recovery plans as envisioned under the BRRD. (NT)
- Failure Resolution Regime — Resolution Planning:
  - Start bank-specific resolution planning, including resolvability assessments, prioritizing banks based on their CAMEL ratings. (I)
  - Adopt explicit policy for CBM and MOF liquidity and capital support with strict criteria. (I)
- Resolution Funding:
  - Amend the DPL to enable DPF funding for transfer of insured deposits during resolution. (NT)
  - Vest MOF with statutory authority to borrow or use budgetary means up to a certain limit without ex ante parliamentary approval and with ex post parliamentary accountability. (NT)
  - Establish a credit line for MOF with a reputable foreign bank or IFI. (I)
  - Establish safeguards on use of MOF or CBM funds and adopt a least-cost objective. (I)
- Deposit Insurance:
  - Adopt and implement methodology for risk-based contributions and amend the DPL to introduce pay-out of insured depositors within seven working days in line with EU DGSD. (NT)
- Liquidity Support:
  - Bring ELA under the CBM Law and the lex specialis under a single framework. (NT)
  - Prepare list of acceptable collateral and pricing and haircut methodologies for internal use. (NT)
  - Strengthen safeguards to protect the CBM’s financial autonomy in case of ELA, including multiple specific measures. (NT)
- Systemic Crisis Management:
  - Ensure regular progress reports on implementation of contingency planning and conduct simulation exercises for key contingencies. (I)
  - Establish two standing FSC working groups at the deputy principal level for macroprudential oversight (led by CBM) and crisis management (led by MOF); consider adding two external, independent members to the macroprudential oversight working group. (NT)

(Note: Timing codes — "I-Immediate" is within one year; "NT-near-term" is 1–3 years; "MT-medium-term" is 3–5 years.)

### Background — financial sector structure and recent crisis experience
- Financial sector structure:
  - Banking sector accounts for about 90 percent of financial system assets, equivalent to about 93 percent of GDP as of June 2015.
  - There are 14 banks operating in Montenegro (up from 11 in 2013).
  - Foreign subsidiaries hold 79 percent of the sector’s assets.
  - Banks’ assets concentrated in lending products (60 percent), with most lending in the trade sector and households (mostly mortgages), each representing about 38 percent of total loans.
  - Loans to nonresidents represent 18 percent of the total.
  - Liabilities concentrated in deposits (75 percent of the total), split between demand (46 percent) and time (53 percent) deposits.
  - Foreign deposits represent about 20 percent of total deposits.
  - Insurance sector and nonbank financial system are very small: total insurance premiums represent only 2 percent of GDP; life insurance insures less than 10 percent of the population.
  - Five micro-credit institutions (MCIs) total size is 2 percent of GDP with assets slightly over 1 percent that of banks.
- Recent crisis experience and policy responses:
  - The economy has yet to recover from the collapse of the lending boom; crisis triggered prolonged balance sheet deleveraging and near uninterrupted credit contraction.
  - Banks remain vulnerable due to high nonperforming loans (NPLs), low profitability, weak capital, and high private sector indebtedness.
  - Progress to address debt overhang, reduce NPLs, and restructure/recover assets has been limited.
  - Policy measures taken:
    - In 2007 the CBM introduced stricter rules for asset classification and provisioning (which were relaxed during the crisis), and increased CAR by two percentage points to 10 percent.
    - Early 2008 temporary bank-specific ceilings on credit growth in the 30–60 percent range were introduced.
    - Reserve requirement base was broadened to include public sector deposits and required reserve rates on certain deposits were increased.
    - To reverse deposit outflows in late 2008, the government guaranteed all bank private deposits through a temporary Law on Measures for the Protection of the Banking System; the law also allowed liquidity support from CBM and government, with one large domestically owned bank receiving a sizeable loan from the government.
    - The anti-crisis law lapsed at end-2009; at the same time coverage of insured deposits was increased by four-fold to EUR 20,000 (now EUR 50,000).

*Source: _cr16199 - EXECUTIVE SUMMARY (IMF).*

### 19.      In 2010 the Financial Stability Council (FSC) was established to maintain financial

### _cr16199 - 19.      In 2010 the Financial Stability Council (FSC) was established to maintain financial

### FSC establishment and mandate
- In 2010 the Financial Stability Council (FSC) was established to maintain financial system stability and avoid financial distress.
- FSC mandate: monitor, identify, prevent, and mitigate potential systemic risks.
- FSC composition: the CBM governor (chair), the Minister of Finance, the president of the Insurance Supervision Agency (ISA) Council, and the Securities and Exchange Commission (SEC) president.
- The CBM provides administrative and technical support to the FSC, including collecting pertinent data and information.
- Outputs:
  - After each meeting, the FSC issues a press release about its assessment.
  - Annually, the FSC reports to parliament on its activities.
- Note: This is separate from the CBM’s annual financial stability report.

### Assessment and identified weaknesses
- Attendance and representation:
  - FSC members function in a personal capacity; they are expected to attend the meetings in person without authority to send representatives. This could hamper the functioning of the FSC.
- DPF participation:
  - The DPF Director General is not an FSC member; while the FSC Law permits to do so, he has not been invited to any of the 26 FSC meetings that have been held to date—this includes the principals’ meetings concerning the NCP for financial crisis management.
  - This is not helpful for effective coordination with an important actor in crisis management.
  - The FSC did involve the DPF in the FSC working group that prepared the NCP.
- Inter-agency MOUs:
  - Several inter-agency MOUs have not been updated after establishment of the FSC; overlapping scopes with the FSC Law, varying participation, and the absence of MOUs between DPF-MOF and between CBM-ISA raises questions about the applicability and effectiveness of these MOUs.

### CBM role as de facto resolution authority
- The CBM functions as the de facto resolution authority.
- Historical practice: CBM has been responsible for managing bank failures in the past; MOF looks to the CBM for recommendations as to any role it may need to play.
- Resolution activities led mainly by the Bank Supervision Department in coordination with other relevant units.
- Decision-making: The CBM Council and the governor are responsible for resolution decision making.

### Recommendations (FSC governance and resolution authority)
- Designation of alternates:
  - In the temporary absence of an FSC member, an alternate should be designated.
  - The alternate would participate in FSC meetings and be empowered, to the extent possible, to take decisions on behalf of the principal.
- DPF membership:
  - The DPF should become a member of the FSC to allow the DPF early access to financial stability analyses and to strengthen the FSC’s focus on crisis preparedness and management.
- Single inter-agency MOU:
  - A single inter-agency MOU among the FSC membership should replace existing MOUs.
  - The MOU would cover all topics that require further detail, with possible chapters that apply to all FSC member agencies and chapters that address specific issues concerning two or more FSC member agencies.
- Resolution authority designation and resourcing:
  - When the EU Bank Recovery and Resolution Directive (BRRD) is transposed into national legislation, the CBM should be identified as the resolution authority for the institutions under its supervision.
  - Rationale: The CBM is the de facto resolution authority for banks; in light of the size of the country and its banking sector, there is no need to establish a new resolution authority.
  - If the CBM becomes supervisor for other financial institutions under new legislation being prepared by MOF, the CBM should also be the resolution authority for these institutions.
  - Establish a dedicated full-time, Small Resolution Unit within the CBM:
    - The unit should have ready access to resources throughout the CBM.
    - Its reporting line to the CBM Board should be separate from the department responsible for emergency liquidity assistance and, eventually, also separate from the Bank Supervision Department.

FAILURE MITIGATION REGIME

### Early intervention powers and practice
- CBM early intervention scope:
  - The CBM may impose a wide variety of early intervention measures on banks under a range of circumstances, including if, in its assessment, the bank’s financial viability could be threatened.
- Possible measures include:
  - scaling down or ceasing certain operations,
  - establishing adequate reserves for losses,
  - selling assets,
  - restricting or ceasing dividends,
  - increasing capital,
  - removing Executive Directors or Board members, among others.
- Implementation methods:
  - letter to the bank requesting certain actions,
  - written agreement between the bank and the CBM with specified timeframes,
  - written CBM orders requiring actions within a specified timeframe.
- Special contingent legislation:
  - Drafted under the auspices of the Financial Stability Council to give the CBM additional powers to impose more restrictive measures in a financial crisis.

### Interim administration triggers and use
- Interim administration required where:
  - the bank’s own funds or solvency ratio falls below half the prescribed level, or
  - the bank has failed to implement early intervention measures within the prescribed timeframe and that failure may jeopardize the bank’s solvency or liquidity.
- Purposes of interim administration:
  - rehabilitate a bank under its current ownership, or
  - resolve a failing bank (see Resolution Powers).
- Interim administration mechanics summarized in Resolution Powers section.

### Recovery planning: current requirements and gaps
- Contingency planning requirements:
  - The CBM requires banks to undertake contingency planning for restoring capital and liquidity.
  - Bank Supervision Department requires liquidity contingency plans and has issued detailed written guidance on plan governance, reporting requirements, early warning indicators and triggers, measures when triggers are reached, assessment of execution timeframes, and related matters.
  - Liquidity contingency plans are evaluated as part of individual bank supervision.
  - CBM requires banks to prepare capital plans updated annually; all banks must conduct capital stress tests and define measures to restore capital.
- Recovery (and resolution) plan guideline:
  - A guideline for the preparation by banks of recovery (and resolution) plans has been drafted in the context of the CBM and the NCP, led by the Financial Stability Department, though it has not been put into effect.
- Supervisory engagement:
  - CBM has begun engagement with the supervisory college organized by the home authority of one of the systemic bank subsidiaries in Montenegro in the context of recovery planning.
  - In October 2015, the CBM will participate in meetings sponsored by the European Banking Authority to clarify and deepen engagement of supervisory (and resolution) authorities in the region with respective home authorities.

### Recommendations (recovery planning)
- Accelerate implementation of recovery planning requirements, especially for larger domestic banks.
- Leverage existing supervisory practices (liquidity and capital contingency planning), engagements with home authorities, preparatory work for BRRD adoption, and the drafted guideline to implement supervisory requirements for recovery planning at an early stage.
- Apply knowledge gained from engagements with more advanced home authorities to the largest domestic banks where CBM’s role is critical.
- Note: Adopting provisions for formal recovery planning by banks need not wait for transposition of the BRRD into Montenegrin law.

FAILURE RESOLUTION REGIME

### Resolution powers under the Banking Law
- CBM authority:
  - The CBM has extensive powers under the Banking Law to resolve a failing bank through interim administration.
  - Authority to appoint an interim administrator with power to manage and restructure a bank.
- Effects of appointment:
  - Upon appointment, terms of office of Board members and duties of Executive Directors are terminated; the administrator assumes powers of the shareholders’ General Meeting, the Board, and the Executive Directors.
  - CBM directs and supports interim administration and has procedures in place for doing so.
- Moratorium powers:
  - CBM may impose a moratorium on the payment of liabilities for up to six months (though the CBM may authorize the payment of insured deposits during the moratorium).
  - During a moratorium:
    - all proceedings against the bank and administrator are suspended;
    - the bank’s assets may not be subject to the execution of a judgment;
    - the bank may not assume any new liabilities except to the Montenegro government, the CBM, and the DPF.
- Resolution plan timeline:
  - Within 30 days, the administrator is to submit a resolution plan.
- Possible resolution outcomes:
  - resolution via recapitalization,
  - transfer of some or all of the bank’s assets and liabilities to another bank,
  - bankruptcy.

### Court challenges and practical effect
- A decision by the CBM to impose interim administration could be subject to challenge in an Administrative Court.
- The court evaluates whether the CBM has fulfilled procedural requirements, but not the merits of the decision.
- Filing a challenge does not suspend the administration; if the court supports the challenge, administration would be suspended, but the CBM can immediately reimpose administration after remedying the procedural defect.

### Recapitalization, treatment of shareholders and creditors
- Recapitalization options:
  - existing shareholders,
  - existing and new shareholders,
  - solely by new shareholders.
- Shareholder participation and consequences:
  - Existing shareholders may be given the opportunity to provide additional capital, though the interim administrator is not obliged to offer this if shareholders failed to comply with prior CBM recapitalization orders.
  - Possible outcomes: full recapitalization by existing shareholders, partial recapitalization with new shareholders providing remaining capital, or loss of most or all value of existing shares if new shareholders recapitalize.
  - If the bank is deemed to have positive net asset value, shares of existing shareholders are mandatorily sold to new shareholders under a pricing arrangement set out in law.
  - If the bank is deemed to have no or negative net asset value, shares reportedly are able to be transferred to new shareholders at no cost.
- Treatment of subordinated debt:
  - Subordinated debt claims are not written down or off when a bank is recapitalized under interim administration, even when recapitalized by third parties.
  - Hybrid capital would have been already converted into equity, but subordinated debt contracts or law do not require write-down or conversion into equity.

### Sale of assets and bankruptcy process
- Sale to another bank:
  - Interim administrator may sell some or all assets and liabilities to another bank if full recapitalization is not achievable.
  - Sale does not require approval of depositors, creditors, debtors, or shareholders.
  - Value of assets and liabilities to be sold is negotiated by the interim administrator and the acquiring bank and is subject to CBM approval.
- License revocation and bankruptcy:
  - If recapitalization or sale not achieved, the bank’s license is revoked and it is placed into bankruptcy.
  - Interim administration may run for six months, extendable by three months; after that period, the bank is to be placed into bankruptcy in principle.
- Grounds for revocation:
  - Banking Law provides grounds for revocation; CBM cites undercapitalization and inadequate liquidity among grounds.
  - Liquidation initiated by the bank only if judged able to satisfy all claims; bankruptcy when CBM determines all claims cannot be satisfied.
  - Initiation of bankruptcy proceedings is subject to challenge in an Administrative Court, but this is not seen as a significant constraint.
  - Commencement of bankruptcy proceedings triggers the DPF’s obligation to pay out the bank’s guaranteed deposits.
  - A revoked license cannot be restored.

### Bankruptcy administration and claim hierarchy
- Bankruptcy administration:
  - CBM conducts both liquidation and bankruptcy proceedings.
  - Appointment of a bankruptcy administrator who assumes powers of the bank’s managing bodies.
  - Administrator drawn from a list of qualified individuals maintained by the CBM, is deemed a body of the CBM, and has adequate legal protections.
  - Administrator functions under oversight of a Bankruptcy Board comprised of five members appointed by the CBM.
  - Upon commencement of bankruptcy proceedings:
    - all pending lawsuits against the bank are suspended;
    - no lawsuit may be filed against the bank and no collateral could be foreclosed;
    - any proceedings related to security foreclosure and enforcement are stopped and no new lien or other encumbrances may be attached to the bank’s property;
    - all bank staff are terminated and the administrator may rehire only 10 percent of such staff.
  - Bankruptcy proceedings are closed when the administrator determines remaining property is insufficient to cover the costs of administration proceedings.
- Hierarchy of unsecured claims (Bank Bankruptcy and Liquidation Law):
  - (i) the CBM;
  - (ii) the DPF in subrogation of insured deposits;
  - (iii) claims of depositors eligible for deposit protection in excess of the insured amount;
  - (iv) claims of other depositors;
  - (v) claims of other creditors, including tax claims;
  - (vi) claims of creditors arising from subordinated debt and/or hybrid capital instruments.
  - Employee claims are settled as a cost of the bankruptcy proceedings.

### Limitations: suspension of creditor actions and systemic-bank continuity
- No resolution provisions enable continued operation of a systemically important bank while suspending certain creditor actions during the resolution process except via general moratorium under interim administration.
- Moratorium effects:
  - Applies to incurrence of new liabilities and payment of liabilities by the bank, with possible exception of payment of insured deposits.
  - Banks deemed systemically important would cease accepting deposits and would not be able to meet liabilities (other than potentially insured deposits) when due.
  - These actions could impede efficient resolution, lead to potential contagion, and undermine financial stability.

### Special legislation (lex specialis)
- Under the Financial Stability Council, special legislation providing additional resolution powers to the government, including “unconventional instruments,” has been drafted.
- The lex specialis:
  - Could be submitted to parliament if the CBM Council determines current circumstances constitute a financial crisis and existing legislation is insufficient.
  - Would be temporary and would lapse when the CBM determines the crisis has ended.

### Resolution planning: status and gaps
- Institution-specific resolution planning:
  - The CBM, as de facto resolution authority, has yet to initiate institution-specific resolution planning.
  - Groundwork is being laid in preparatory work for BRRD adoption.
- Contingency and planning documents:
  - Efforts undertaken under CBM and National Contingency Plans include drafting many documents to be used when dealing with banks in distress, particularly in systemic bank or systemic distress/crisis situations.
  - Work led by CBM’s Financial Stability Department and undertaken by a working group involving CBM units, the DPF, the MOF, and capital markets and insurance authorities.
- Missing documentation and procedures:
  - Charter (Articles of Association) of a government-owned bridge bank has not been drafted.
  - Detailed procedures under which powers available in the special law, likely combined with interim administration powers, would be implemented within a short period (such as a “resolution weekend”) have not been developed or tested.
- Crisis simulation and follow-up:
  - Overall contingency plans were tested in a 2013 crisis simulation exercise (CSE).
  - No revision of documentation or further work by staff who would implement the special law has been undertaken as a result of the CSE or subsequently.

*Source: _cr16199 - 19. In 2010 the Financial Stability Council (FSC) was established to maintain financial (IMF staff report excerpt).*

### 45.      The DPF currently has the capacity to fund the resolution via a purchase (of assets)

### _cr16199 - 45.      The DPF currently has the capacity to fund the resolution via a purchase (of assets)

### Resolution funding capacity and arrangements
- The DPF currently has the capacity to fund the resolution via a purchase (of assets) and assumption (of insured deposits) transaction of all but the seven largest banks.
- Once it has reached the target level of 10 percent insured deposits, the DPF could reimburse all insured deposits of the six smallest banks simultaneously.
- The funds would further be sufficient to cover the insured deposits of up to the twelfth largest bank on a single basis.
- Only limited ex ante arrangements to finance the CBM and government funding of bank resolutions are in place.
- The CBM could provide liquidity funding by drawing on its capital and by releasing the requesting bank’s required reserves.
- The government, at present, has no funding earmarked in the annual budget for these purposes, and no contingent lines of credit with banks or others.

### Resolution framework and institutional preparedness (Recommendations)
- The BRRD is largely consistent with the Key Attributes of Effective Resolution Regimes for Financial Institutions (Key Attributes).
- Recommendations are grounded in the Key Attributes and may be implemented during transposition of the BRRD; elements of the lex specialis could be incorporated into national legislation.
- Suggested immediate and near-term measures:
  - The CBM could immediately start bank-specific resolution planning, including conducting resolvability assessments to determine impediments to the resolution of specific banks; prioritize based on banks’ CAMEL ratings.
  - Coordinate with relevant home country resolution authorities where possible, but proceed regardless of the state of group-wide resolution plans by home authorities.
  - Develop policies and procedures required to implement a resolution of even a systemically important bank over a weekend, including supporting documentation and templates.
  - Establish a small dedicated full-time Resolutions Unit within the CBM to support increased resolution-related activities; the unit should have ready access to resources throughout the CBM and a reporting line to the CBM Board separate from departments responsible for ELA and, eventually, from the BSD.
  - Retain certain features of a moratorium upon transposition of the BRRD to ensure critical bank operations continue; if a moratorium is employed, insured deposits should not be blocked longer than the pay-out timeframe of the DPF under the DPL (currently, 15 working days), unless exempted by law.
  - Impose losses on holders of hybrid capital instruments, subordinated debt, and senior debt when the net asset value of a bank is negative, regardless of resolution means; subordinated and unsecured senior debt holders should bear losses up to the amount they would lose in bankruptcy.
  - Put legal provisions in place enabling write-downs and possible conversion of such debt into equity, with legal protections against losses in excess of bankruptcy outcomes.
  - Consider greater flexibility on the proportion of employees that could be re-hired in bankruptcy (current legal limit is 10 percent).
  - Ensure the DPF can use its funds to finance a purchase (of assets) and assumption (of insured deposits) transaction.
  - Make the objective of a least-cost resolution decision explicit in law to guide decisions between pay-out and P&A transactions and the use of “unconventional instruments” in the lex specialis.
  - Develop explicit policy criteria for any potential provision of extraordinary support by the CBM and/or the government:
    - Fundamental principle: failure of all banks should be resolved under either (i) a private sector solution (recapitalization or P&A, perhaps with assistance from the DPF); or (ii) bankruptcy.
    - Public sector financing for resolution acceptable only in exceptional circumstances with strict, written, quantifiable and measurable criteria to identify systemically important banks.
    - As a condition for public support, shareholders, hybrid capital instrument holders, subordinated debt holders, and senior unsecured debt holders should fully absorb losses estimated by relevant professionals using conservative valuation principles.
    - Policy criteria should be agreed in advance between the resolution authority (CBM) and the government (MOF), and decisions in particular cases should be made jointly.
  - Strengthen resolution funding options:
    - Establish credit lines for MOF and the CBM with international financial institutions that would not be affected by a crisis in the Western Balkans region.
    - Vest statutory authority in MOF to borrow or use budgetary means up to a certain limit without ex ante parliamentary approval and with ex post parliamentary accountability.
  - Develop policies for conditions and limits under which the DPF’s funds could be used to support an extraordinary public-sector-financed resolution:
    - DPF funds should be used only when the resolution results in a viable, solvent, and restructured bank and insured depositors continue to have access to their deposits.
    - Amount of assistance should be restricted to the costs the DPF would otherwise have incurred in a pay-out of insured deposits in a liquidation net of recoveries.
    - The DPF should be informed and involved in resolution decision-making and provided safeguards (via compensation) against incurring costs in excess of bankruptcy outcomes.

### Deposit Insurance — background and capacity
- The DPF was established in 2006 and operates under the narrow mandate of a pay-box.
- It is financed by annual premiums from banks, supported by a standby credit line with the EBRD, and a general back-up provision with the government.
- The current level of funding is sufficient to cover all insured deposits in the small banks.
- The deposit insurance fund has a target ratio of 10 percent insured deposits, which should be reached in the next 5–6 years (provided there is no pay-out).
- The coverage level was raised over the year and is currently EUR 50,000 per depositor per bank.
- The DPF covers natural and legal persons.
- The DPF has developed pay-out infrastructure to reimburse depositors within 15 working days after a bank failure, and an MOU to support information exchange and coordination with the CBM.
- The DPF and member banks engage in public awareness activities about deposit insurance benefits and limits.
- The deposit insurance system has never been triggered.

### Deposit Insurance — recommendations
- Amend the DPL to enable the DPF to finance the transfer of insured deposits to another bank (least disruptive for depositors).
- Allow the DPF to use other pay-out options, including:
  - Electronic payments to deposit accounts established by depositors in other banks.
  - Interim or advanced payments in case of prolonged delays.
- In the process of transposition of EU directives, further shorten the pay-out timeframe to seven working days.
- Introduce risk-based premiums:
  - The DPF should make use of its power to introduce risk-based premiums.
  - Finish work with other authorities on the premium methodology and ensure compliance with the EU DGSD and EBA Guidelines.
  - Design risk-based premiums so as not to negatively impact the fund’s ability to replenish itself; they must be income-neutral.
- Strengthen testing and contingency planning:
  - Undertake testing of pay-out procedures and strengthen internal contingency planning in close cooperation with the CBM and MOF.
  - Conduct system-wide crisis simulations (involving the DPF) focused on prompt pay-out, transfer of deposits, and availability of back-up finance arrangements.
  - Make depositor data testing more frequent, involve more banks, and make such testing mandatory by the DPL.
  - Pre-arrange use of agent banks for pay-outs, call centers, and other contractors for larger pay-outs.
  - The DPF should become a member of the FSC to be closely involved in contingency planning and crisis management.
- Improve cross-border arrangements:
  - The DPF has not signed MOUs with foreign deposit insurers and should reach out to foreign deposit insurers to be aware of parent-bank problems that might spill over to the local subsidiary.
- Enhance the DPF’s mandate to manage additional responsibilities arising from EU accession:
  - The BRRD foresees a mandatory bank resolution fund financed by contributions from financial institutions; the DPF has experience collecting annual premiums and could collect and manage resolution fund contributions.
  - Montenegro will have to transpose the Investor Compensation Scheme Directive (1997/9/EC) and establish an investor compensation scheme; such a scheme could also be managed by the DPF.

### Liquidity support — background and assessment
- Banks are allowed to use up to 50 percent of their reserve requirement deposits during the day to facilitate daily liquidity management.
- CBM liquidity facilities available: intraday, overnight, and short-term (up to 15 days) liquidity loans.
- To borrow from the CBM, banks need to pledge collateral and pay a penal interest rate benchmarked on the treasury bills rate.
- The CBM ELA framework and lex specialis include essential ELA conditions: assistance only to solvent banks against adequate collateral with minimum haircuts (10 percent) and under penalty interest rates (3 percent markup on ECB rates for refinancing operations) for limited periods (up to two periods of 90 calendar days).
- The CBM Law authorizes MOF to grant emergency financial assistance for up to 180 days without the conditions that apply to CBM ELA; the lex specialis covers emergency liquidity support as well.
- To date, there has been no activation of liquidity loans or ELA; some intraday use of required reserves has occurred.
- Reserve requirement ratios are 9.5 percent and 8.5 percent of short-maturity and longer-maturity deposits respectively, and required reserves could be used up to 50 percent during the day.
- The CBM simulated and tested ELA decision-making procedures as part of the World Bank Crisis Simulation exercise in 2013; procedural guidelines are available.
- Bank asset composition: assets classified as loans register around 70 percent of total, and limited supply of Montenegrin government securities implies likely use of non-standard collateral (e.g., loans) for financial assistance.
- CBM capital stands at around 2 percent of total banking system deposits.
- Potential deposit outflows could be as high as 15 percent of total deposits, which could rapidly deplete CBM capital.
- There is no specific provision for potential loss to the CBM in providing financial assistance; Article 70 of the CBM Law indicates a possibility of recapitalization if the CBM incurs a deficit on its initial capital.

### Liquidity support — recommendations
- Bring ELA provisions under the CBM Law and the lex specialis into a single framework:
  - Include only components of existing and draft legislation that reflect best international practices (for example, prescription of eligible collateral, pricing and haircuts).
  - Include essential safeguards, such as the prohibition of financial transactions by receiving banks with their related parties.
  - Implement a streamlined and harmonized ELA framework in the interim in acknowledgment of the CBM’s eventual adoption of EU directives.

*Source: _cr16199 - 45.      The DPF currently has the capacity to fund the resolution via a purchase (of assets)*

### 71.      To avoid delays in providing ELA and to limit its risk exposure, the CBM should

### _cr16199 - 71.      To avoid delays in providing ELA and to limit its risk exposure, the CBM should

### Emergency Liquidity Assistance (ELA): collateral, pricing, and operational capacity
- The CBM should prepare—for internal use—a list of acceptable collateral, and pricing and haircut methodologies.
- The list should include what would constitute “other collateral deemed acceptable” along with pricing and haircut methodologies, and the CBM should develop its capacity to administer such assets.
- Example asset classes that might be included: residential mortgages and corporate loans.
- To maintain the CBM’s discretion, the list should not be announced.
- While thus far the CBM has not extended ELA, it is expected that financial assistance could be promptly disbursed.

### Alternative funding sources and restrictions to safeguard CBM financial autonomy
- The mission proposed alternative sources of funds and additional conditions and restrictions for CBM ELA.
- Options explored to expand the envelope of ELA funding:
  - A dedicated MOF sub-account at the CBM for ELA, which the CBM could use at its discretion—in addition to its own limited resources—and arrangements for MOF to reimburse the CBM for losses stemming from ELA within 30 days upon an independent audit report.
  - Seeking stand-by arrangements with international financial institutions (such as EBRD) and major central banks.
- Footnote clarification: “If a dedicated MOF sub-account for ELA were to be established, funds from this account may be used first before the CBM’s funds to avoid jeopardizing the CBM’s financial position.”

### Safeguards and conditionality for ELA provision
- Banks requesting access to ELA must exhaust all existent sources of liquidity.
- Further safeguards could include:
  - Requiring an objective, predetermined solvency test both at the start and for the duration of the ELA.
  - Capping the use of the CBM’s fund for ELA up to a certain maximum amount and implementing measures to reimburse the CBM for its ELA-related losses.
  - Requiring foreign-owned banks’ parents to provide a letter of comfort to provide liquidity in times of stress.
  - Prescribing appropriate safeguards for the use of ELA by the receiving bank and enhancing monitoring to minimize moral hazard.
  - Allowing banks to draw down their reserves at the CBM below the minimum reserve requirement only for a short period.
- Additional explanatory notes:
  - Example safeguard: regulation should prohibit the upstreaming of funds from foreign subsidiaries/branches to their parents during the period of financial assistance; during the period of financial assistance, banks may also be subject to more intensive supervision.
  - Current CBM practice: the CBM allows banks to draw down up to 50 percent of reserve requirement on an intraday basis; by the end of the day, reserve requirements have to be met. The recommendation refers to a temporary, but beyond intraday, drawdown of reserve requirements—applicable only in the case of illiquid but solvent banks seeking ELA.
- The mission team ruled out a pooled liquidity arrangement for ELA funded by the banks due to potential difficulties in the implementation.

### Systemic crisis management: contingency planning and gaps
- The FSC has adopted the national contingency plan for financial crisis management (NCP) to complement the contingency plans of the CBM, MOF, ISA, and SEC—the CBM contingency plan is considered the NCP’s backbone.
- Together, these plans provide a comprehensive set of policies and procedures for the agencies’ response in case of a financial crisis.
- Shortcomings and gaps:
  - The FSC does not pay continued attention to its crisis preparedness and management mandate, focusing instead on its systemic risk-monitoring mandate.
  - Progress with the NCP’s implementation is not regularly tabled for discussion by the FSC—examples include shortcomings in the section on “Liquidity Support”.
  - The FSC has yet to organize a system-wide crisis simulation exercise involving all the FSC members and the DPF.
  - None of the agencies has engaged with home resolution authorities to undertake cross-border crisis simulation exercises.
- Historical note: In 2013, a crisis simulation exercise was held with support from the World Bank Vienna Financial Sector Advisory Center. Only the CBM and MOF participated in this exercise.
- Additional note: The DPF does not have a contingency plan.

### Recommendations for strengthening crisis preparedness and management
- The FSC’s focus on its crisis preparedness and management mandate should be strengthened.
- Specific actions:
  - Ensure regular (i) updates on progress with implementation of the national and agency-specific contingency planning and underlying procedures, with involvement of line units; and (ii) simulation exercises for key contingencies such as bank runs, depositor pay-out, emergency financial assistance, and resolution of an SIFI.
  - Under the FSC, establish two working groups at the deputy principal level:
    - A macroprudential oversight working group to be led by the CBM.
    - A crisis management working group to be led by MOF.
  - Consider adding two external, independent members to the macroprudential oversight working group.

*Source: _cr16199 - selected paragraphs 71–76.*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2016/_cr16199.pdf_