Towards an International Framework for Cross Border Resolution, Remarks by John Lipsky, First Deputy Managing Director, International Monetary Fund, at the ECB and its Watchers Conference XII
IMF News, July 9, 2010
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- Published: July 9, 2010
Context and purpose
- Delivered at the ECB and its Watchers Conference XII in Frankfurt, Germany; as prepared for delivery on July 9, 2010.
- Purpose: to present and explain an IMF staff-developed framework to enhance cross-border resolution of systemically important financial institutions and to contribute to ongoing FSB and standard-setting body discussions ahead of international summits (references to the Toronto Leaders' Summit and the November G20 Leaders Summit in Seoul).
- Rationale: even under optimal regulation and supervision, some financial institutions will fail; lack of an agreed protocol for cross-border insolvency can threaten global financial stability.
Nature of the problem
- Large international financial groups:
- play an important role in channeling capital and financial services across borders;
- can undermine global financial stability when in distress.
- Key observations and historical examples:
- Recent international failures exposed that major firms "live globally but die locally" under multiple national legal frameworks with no effective template for international cooperation.
- The leveraged purchase of ABN Amro contributed to problems at RBS and Fortis and led to nationalizations; Fortis was resolved along national lines in a protracted process despite regulatory cooperation traditions.
- Lehman Brothers had over 200 principal subsidiaries and participated in over 100 payment and settlement systems across the globe; separate insolvency proceedings impeded return of segregated client money in some cases.
- Problems with existing approaches:
- Authorities often faced difficult trade-offs: provide potentially large public funding (increasing moral hazard) or rely on ill-equipped national insolvency regimes.
- A multilateral treaty imposing an international tribunal appears infeasible today because it would imply surrender of national sovereignty; full de-globalization of financial institutions would impose significant efficiency costs and reduce access to global capital.
The IMF-proposed framework: high-level description
- Central idea: enhance coordination among national authorities rather than create a binding international treaty or force de-globalization.
- Framework characteristics:
- Countries agree to cooperate under specified conditions; changes to national legislation may be required.
- Participation is conditioned on meeting certain core standards; the framework creates incentives and mechanisms for cooperation without creating binding treaty obligations.
- Trust among national authorities is fundamental and rests on three pillars:
- i) high standards of regulation and supervision;
- ii) national regimes that provide tools to deal with insolvency at an early stage;
- iii) developed effective working relations demonstrating capacity to cooperate.
Four principal elements of the proposed framework
- First — Domestic legislation amendments:
- Countries would amend domestic law to permit authorities to cooperate in an international resolution when consistent with creditor interests and financial stability.
- Objective: remove legal obstacles such as ring-fencing local branch assets for local creditors that prevent participation in broader international processes.
- A jurisdiction would defer only if local creditors are treated equitably and receive at least what they would have in strictly national liquidation.
- Second — Core coordination standards (precondition for cooperation):
- Ensure bank supervisory and insolvency regimes are robust and harmonized in key areas.
- Bank insolvency regimes must treat domestic and foreign creditors in a nondiscriminatory manner.
- Resolution regimes should include minimum standards enabling authorities to act effectively at an early stage.
- Specific powers envisaged for participating authorities to enable effective resolution:
- unilaterally restructure the various claims of an institution;
- conclude mergers and acquisitions without shareholder consent;
- transfer assets and liabilities to other institutions, including a bridge bank, without third party consent;
- provide bridging financing;
- assume public ownership on a temporary basis.
- Third — Burden sharing:
- Principle: final cost of resolution should be borne by private stakeholders and not by public funds; up-front and temporary public funding may be necessary in systemic crises.
- Prefunded resolution schemes are a potentially attractive option.
- IMF report (prepared at G20 request for the Toronto Summit) suggested a “Financial Stability Contribution” to be levied against a risk-adjusted base and linked to funding a credible and effective resolution mechanism.
- European Commission Communication advocated creation of resolution funds segregated from general revenue and funded ex ante by bank levies.
- Burden sharing across countries:
- Countries could agree on principles applied on an institution-by-institution basis reflecting features such as:
- the relative systemic importance of the group across jurisdictions;
- the relative contribution from deposit guarantee schemes or resolution funds;
- the relative distribution of losses across jurisdictions.
- Encourages specificity but recognizes complexity and case-by-case dependence.
- Role for Recovery and Resolution Plans or “living wills” (work being addressed by supervisors under CEBS) to help authorities agree criteria and parameters, including relative contributions of resolution and deposit insurance funds.
- Fourth — Procedures for coordinating resolution measures:
- Agree procedures and enshrine them in national legislation to facilitate coordination in individual cases.
- Rules could draw on progress in cross-border corporate insolvency.
- The framework differs from a formal treaty: implementation may require national legislative changes but would not create a binding legal obligation between countries or imply surrender of national sovereignty.
Application approach and sequencing
- Incremental approach envisaged:
- A few countries (perhaps principal financial centers) would first cooperate; others could join over time.
- The framework could apply among a wide range of countries, including those not closely integrated economically.
The European Union case
- The IMF welcomes EU efforts to harmonize resolution tools among Member State authorities.
- Reference points from the source text:
- European Commission’s May 26 Communication on Bank Resolution Funds seeks common tools and aims to adopt a detailed road map to achieve this in October.
- IMF Managing Director’s March 19 speech in Brussels advocated creating a European Resolution Authority (ERA) with mandate and tools to deal cost-effectively with cross-border bank failures.
- The IMF view: EU’s single financial market, institutional possibilities, and steps toward integrated cross-border crisis management make an integrated resolution framework feasible and desirable.
- Political dynamics in the EU:
- The Commission views an integrated framework as a second step after harmonization of national frameworks and intends to revisit the matter in 2014.
- The European Parliament seeks agreement on an integrated crisis management and resolution framework for large cross-border banks as part of supervisory reforms still being negotiated.
- Member States hold a range of views; the IMF suggests a compromise: accept the European Parliament’s position on principle with step-by-step implementation to ensure consistency with evolving global arrangements.
Conclusion and policy implications
- National resolution templates remain necessary but insufficient to address cross-border resolution challenges.
- Preferred policy direction:
- Do not dismantle the international financial system; instead, pursue greater resilience, clarity of approach, and commonality of goals.
- Advance the proposed enhanced coordination framework to make international resolution more effective and value-preserving.
- Implementation challenges:
- Agreement on principles and assessment that they are satisfied will be difficult;
- Successful implementation in crisis conditions will require calm determination to follow agreed principles, agreements and procedures.
- The IMF intends to work with the FSB and standard-setting bodies to advance practical progress on cross-border resolution.
Remarks by John Lipsky, First Deputy Managing Director, International Monetary Fund — Delivered at the ECB and its Watchers Conference XII, Frankfurt, Germany, July 9, 2010.