Understanding Risk Management and Compliance, April 2012

_____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.
com
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International Association of Risk and Compliance Professionals (IARCP)
Welcome to the April 2012 edition of the International Association of Risk and Compliance Professionals (IARCP) newsletter
Dear Member, The European Central Bank (ECB) tries hard to understand the Dodd Frank Act (so do we). We start from an interesting we would therefore appreciate some clarification from you letter from the European Central Bank to the US Commodity Futures Trading Commission. The part of the letter I like: We therefore respectfully ask the Commissions to
exercise their definitional authority
_____________________________________________________________ International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
What is the letter about?
The point? We are therefore concerned about how Title VII of the Dodd-Frank Act will apply to the official operations of the ECB and the Eurosystem, and we would therefore appreciate some clarification from you in this regard. To the extent that your agency is preparing implementation rules to the Dodd-Frank Act, we would with all due respect seek from you due consideration to the above arguments, as well as to international comity, so that the case of International Organizations (such as the ECB) and of foreign central banks are addressed in the final regulations in a manner fitting with their official status and tasks. In that direction, please note that the ECB's -and the Eurosystem'smandate requires them to perform public tasks that are broadly comparable to those attributed in the United States to the Federal Reserve System, which necessarily require the ECB to conduct operations in the financial markets, including OTC derivatives. These are activities that would, if conducted by a private sector entity, necessarily fall within the ambit of Title VII of the Dodd-Frank Act.
In contrast, we note that if those same transactions were entered into by the Federal Reserve System, they would be expressly excluded from the definitions of "swap" and "security-based swap" contained in the Dodd-Frank Ad. We set out attached some considerations on the ECB and its mandate, and its status under U.S. Law. The point on which we seek regulatory clarification is whether official transactions such as those entered into by the ECB and by the national central banks of the Eurosystem would be captured by the definitions of "swap" and "security-based swap" contained in the Dodd-Frank Act. Clearly, our practice to date has been to transact with private sector entities on market standard documentation for swaps, but given that we have so far and would in the future only be entering into such transactions purely in execution of our public mandate - and it is to be noted that we are not authorised to enter into such transactions on any other basis - we suggest that the transactions that we enter into should not be interpreted and legally defined in the same way as otherwise similar transactions entered into by private commercial entities: First, the considerations involved in the management of foreign reserves are not amenable to control and supervision in the same way as private-sector profit-maximising transactions. Indeed, as an institution of the European Union, we are not subject to supervision or licensing requirements and suggest' that it would be inappropriate to be subjected to supervisory requirements by a non-EU authority in respect of a part of our activities. In particular, we are concerned that external control of our activities might not be sufficiently sensitive to the practice of managing foreign reserves and could thus frustrate the ECB's performance of the mandate that it has been given by the TFEU.
Second, performance of our mandate can require us to act confidentially in certain circumstances. Please note that in certain occasions central banks market activities, if subject to public disclosure and external supervision, may cause signalling effects to other market players and finally hinder the policy objectives of such actions (the CCP itself would also have a privileged view on the whole set of cleared central bank transactions). This is probably the reason behind the exemption given by Dodd-Frank Act to the Federal Reserve System (a similar exemption to the ECB and other central banks and comparable international institutions is foreseen in the proposed draft EU Regulation on Central Clearing of OTC derivatives in course of definition in Europe). Certain of the requirements of the Dodd Frank Act, if applicable to the ECB, could compromise the ECB's ability to take such actions. In this regard, it is noted that the ECB has worked closely with the Federal Reserve System in responding to the financial crisis, and should not be compromised by implementation of the Dodd-Frank Act in its ability to respond similarly in the future. Third, the specificity of role and functions of central banks make their use of CCPs, and other private financial market infrastructures for that matter, a very sensitive issue, particularly in times of crisis. For instance, if a central bank were to become a clearing member of a CCP it would need to contribute to the CCP default procedures. In case of crisis, this could force a central bank to eventually absorb other participants' and possible the CCP's losses, thereby raising sensitive moral hazard issues. Fourth, this may introduce inconsistency between EU and US legislation concerning the central bank obligations to use designated CCPs
The abovementioned arguments apply mutatis mutandis to the national central banks of the Eurosystem. As you of course know, Congress has vested the Commissions with the rulemaking authority to further define certain terms, including "swap" and "security-based swap, and such joint rulemaking on the definition of the terms "swap" and "security-based swap" is to be done in consultation with the Board of Governors. In light of the above, we therefore respectfully ask the Commissions to exercise their definitional authority under the Dodd-Frank Act to define the terms "swap" and "security-based swap", as used in the Commodity Exchange Act and Securities Exchange Act, respectively, to exclude any agreement, contract or transaction a counterpatty of which is a Public International Organisation such as the ECB, or indeed a national central bank of a market economy. We stand ready to elaborate on any of the matters raised above, including with respect to the size and risk management of our US dollar interest rate derivatives portfolio activities to the extent that this would be helpful to you.
Cayman Islands An Overview

The three Cayman Islands, Grand Cayman, Cayman Brac and Little Cayman, are located in the western Caribbean about 150 miles south of Cuba, 460 miles south of Miami, Florida, and 167 miles northwest of Jamaica. George Town, the capital, is on the western shore of Grand Cayman. Grand Cayman, the largest of the three islands, has an area of about 76 square miles and is approximately 22 miles long with an average width of four miles. Its most striking feature is the shallow, reef-protected lagoon, the North Sound, which has an area of about 35 square miles. The island is low-lying, with the highest point about 60 feet above sea level. Cayman Brac lies about 89 miles northeast of Grand Cayman. It is about 12 miles long with an average width of 1.25 miles and has an area of about 15 square miles. Its terrain is the most spectacular of the three islands. The Bluff, a massive central limestone outcrop, rises steadily along the length of the island up to 140 ft. above the sea at the eastern end. Little Cayman lies five miles west of Cayman Brac and is approximately ten miles long with an average width of just over a mile.
It has an area of about 11 square miles. The island is low-lying with a few areas on the north shore rising to 40 ft. above sea level. There are no rivers on any of the islands. The coasts are largely protected by offshore reefs and in some places by a mangrove fringe that sometimes extends into inland swamps. Geographically, the Cayman Islands is part of the Cayman Ridge, which extends westward from Cuba. The Cayman Trench, the deepest part of the Caribbean at a depth of over four miles, separates the three small islands from Jamaica. The islands are also located on the plate boundary between the North American and Caribbean tectonic plates. The tectonic plates in Caymans region are in continuous lateral movement against each other. This movement, with the Caribbean plate travelling in an eastward direction and the North American plate moving west, limits the size of earthquakes and there has never been an event recorded of more than magnitude 7. It is not unusual for minor tremors to be recorded. Many residents dont even notice them. However in December 2004 a quake of 6.8 magnitude rocked Grand Cayman and everyone noticed. The earthquake, short in duration, opened some small sinkholes but otherwise didnt cause any damage. Christopher Columbus first sighted Cayman Brac and Little Cayman on 10 May 1503. On his fourth trip to the New World, Columbus was en route to Hispaniola when his ship was thrust westward toward "two very small
and low islands, full of tortoises, as was all the sea all about, insomuch that they looked like little rocks, for which reason these islands were called Las Tortugas." A 1523 map show all three Islands with the name Lagartos, meaning alligators or large lizards, but by 1530 the name Caymanas was being used. It is derived from the Carib Indian word for the marine crocodile, which is now known to have lived in the Islands. Sir Francis Drake, on his 1585-86 voyage, reported seeing "great serpents called Caymanas, like large lizards, which are edible." It was the Islands' ample supply of turtle, however, that made them a popular calling place for ships sailing the Caribbean and in need of meat for their crews. This began a trend that eventually denuded local waters of the turtle, compelling local turtle fishermen to go further afield to Cuba and the Miskito Cays in search of their catch. The first recorded settlements were located on Little Cayman and Cayman Brac during 1661-71. Because of the depredations of Spanish privateers, the governor of Jamaica called the settlers back to Jamaica, though by this time Spain had recognised British possession of the Islands in the 1670 Treaty of Madrid. Often in breach of the treaty, British privateers roamed the area taking their prizes, probably using the Cayman Islands to replenish stocks of food and water and careen their vessels. The first royal grant of land in Grand Cayman was made by the governor of Jamaica in 1734. It covered 3,000 acres in the area between Prospect and North Sound. Others followed up to 1742, developing an existing settlement, which included the use of slaves. On 8 February 1794, an event occurred which grew into one of Cayman's favourite legends -- The Wreck of the Ten Sail.
A convoy of more than 58 merchantmen sailing from Jamaica to England found itself dangerously close to the reef on the east end of Grand Cayman. Ten of the ships, including HMS Convert, the navy vessel providing protection, foundered on the reef. With the aid of Caymanians, the crews and passengers mostly survived, although some eight lives were lost. The first census of the Islands was taken in 1802, showing a population on Grand Cayman of 933, of whom 545 were slaves. Before slavery was abolished in 1834, there were over 950 slaves owned by 116 families. Though Cayman was regarded as a dependency of Jamaica, the reins of government by that colony were loosely held in the early years, and a tradition grew of self-government, with matters of public concern decided at meetings of all free males. In 1831 a legislative assembly was established. The constitutional relationship between Cayman and Jamaica remained ambiguous until 1863 when an act of the British parliament formally made the Cayman Islands a dependency of Jamaica. When Jamaica achieved independence in 1962, the Islands opted to remain under the British Crown, and an administrator appointed from London assumed the responsibilities previously held by the governor of Jamaica The constitution currently provides for a Crown-appointed Governor, a Legislative Assembly and a Cabinet. Unless there are exceptional reasons, the Governor accepts the advice of the Cabinet, which comprises three appointed official members and five ministers elected from the 15 elected members of the Assembly. The Governor has responsibility for the police, civil service, defence and external affairs but handed over the presidency of the Legislative Assembly to the Speaker in 1991.
Cayman Islands, Banking Statistics

Overview There were a total of 234 banks under the supervision of the Banking Supervision Division at the end of December 2011. The fundamentals of the banking sector remain sound and the industry in general has been relatively resilient in a very challenging market environment. Banks continue to consolidate and restructure in search of cost efficiencies, and improvements in operational risk management and governance. As of September 2011, total assets were reported at US$1.607 trillion down from the same period of the previous year where total assets stood at US$1.725 trillion.
The Cayman Islands is recognised as one of the top 10 international financial centres in the world, with over 40 of the top 50 banks holding licences here. Over 80 percent of more than US$1 trillion on deposit and booked through the Cayman Islands, represents inter-bank bookings between onshore banks and their Cayman Islands branches or subsidiaries. These institutions present a very low risk profile for money laundering.
Basel II
The Cayman Island Monetary Authority (CIMA) is implementing the Basel II Framework. The Basel II Framework describes a more comprehensive measure and minimum standard for capital adequacy that seeks to improve on the existing Basel I rules by aligning regulatory capital requirements more closely to the underlying risks that banks face. The Framework is intended to promote a more forward looking approach to capital supervision that encourages banks to identify risks and to develop or improve their ability to manage those risks. As a result, it is intended to be more flexible and better able to evolve with advances in markets and risk management practices. A key objective of the revised Framework is to promote the adoption of stronger risk management practices by the banking industry.
Banks to Which Basel II Applies

The Basel II Framework applies to banks that are locally incorporated in the Cayman Islands (Category A and B banks), all home regulated banks and host regulated banks (subsidiaries of foreign banks), with or without
a physical presence.
Branches of foreign banks operating the Cayman Islands, will not be required to maintain a separate capital requirement, and as such will be excluded from the local Basel II requirements.
However, these foreign banks including the operations of the Cayman Islands branches must maintain the minimum capital adequacy requirements as stipulated by their home jurisdictions.
Implementation Phases
CIMA proposes to apply the Basel II Framework in two phases leveraging a practical measured approach. First Phase The first phase of the implementation was completed on December 31, 2010 and comprised the following Pillar 1 approaches: Credit Risk Standardized Market Risk Standardized Operational Risk Basic Indicator Approach and The Standardized Approach The first phase of the Basel II implementation includes Pillar 2 Supervisory Review Process and Pillar 3 - Market Discipline. Second Phase The second phase of the CIMA Basel II implementation will be considered for implementation after 2012. It will include considering the implementation of advanced approaches, specifically Pillar 1 Credit Risk Advanced Approaches (IRB), Operations Risk Advanced Measurement Approaches (AMA) and Market Risk Internal Risk Management Models. Industry Input Since the majority of banks impacted by the application of the Basel II Framework are members of the Cayman Island Bankers Association (CIBA), CIMA has established a joint CIMA/CIBA Basel II Working Committee. The primary objective of the working committee is to provide banks and CIMA a forum for consultation, discussion and agreement on Basel II
related issues. CIMA proposes to obtain the majority of feedback on Basel II related issues from the CIBA/CIMA Basel II Working Committee. CIMA also proposes to communicate directly with those banks that are not members of CIBA or those banks that have principal agents that are not members of CIBA. However, these banks will not have the benefit of consultation or participation in discussions on Basel II issues with the majority of impacted banks. Banks wishing to participate in the CIBA consultations and discussions should contact CIBA directly.
Basel iii
This is the next step, but we have no timeline yet. According to Reina Ebanks, Head of Banking Supervision, Cayman Islands Monetary Authority at the Opening of the FSI & CGBS Seminar Regional Seminar on Capital Adequacy & Basel III George Town, Grand Cayman, Cayman Islands February 22-24, 2011: It is good that so many of our colleagues from regulatory bodies in the Caribbean region have seen the value of this seminar and have seized this opportunity to participate. I also appreciate the involvement of our local industry partners who will serve as presenters. We all have experiences to share, and by sharing those experiences we will learn from each other. The Cayman Islands Monetary Authority believes strongly in the necessity and benefits of professional training. We have always sought to ensure that our own staff members have every opportunity to enhance the skills that are necessary for the Authority to effectively carry out its role.
The regulatory reform package of the Basel Committee addresses identified weaknesses of the pre-crisis banking sector and outlines several measures to promote a more resilient banking sector. The objective of the reforms is to improve the banking sectors ability to absorb shocks arising from financial and economic stress, thus reducing the risk of spill over from the financial sector to the real economy. The new global standards referred to a Basel III cover both firm-specific and broader, systematic risks. At this 3 day seminar our presenters who are experts in their field are expected to cover specific aspects of Basel III. One of the things you learn quickly as a regulator is how rapidly changes occur within todays financial systems and how interconnected and interdependent they are. The international financial crisis underscored this forcefully, but it is not going to change it. Products will continue to evolve; markets will continue to change; ways of doing business will continue to be constantly challenged by new innovations despite the new regulations and standards put in place as a result of the crisis. However, one of the strong lessons which it has taught us as regulators is that, in order to stay ahead of the curve, we must expand our knowledge of the markets and products we are charged with regulating and the role of the different jurisdictions, large and small, that are part of the global marketplace. We must apply that knowledge efficiently in our day-to-day operations. We must cooperate as regulators at the organizational level. We must engage in dialogue and we must take joint action. This is necessary if we are to regulate effectively without stifling legitimate business and economic growth.
Remarks before the Institute of International Bankers, Annual Washington Conference Commissioner Jill E. Sommers, March 5, 2012
Important parts I would like to touch on a few developments and give my thoughts on the current state of derivatives regulation both here in the US and abroad. Since September of 2010, the Commission has held 24 public meetings to vote on various Dodd-Frank matters and has issued nearly 60 proposed rules, notices, or other requests seeking public comment, and has completed 28 final rules, interim final rules, and exemptions. I think we are about at the half-way mark with at least twenty more rules to go, including the most significant rules like definitions of a swap dealer and swap. We have one meeting scheduled for March and four more meetings scheduled for April and May.
The Process
When it comes to the rulemaking process, I believe a reasonable, measured approach is critical. Swap markets developed without our involvement, and we have little experience with these markets. The truth is we dont know what the full impact of our rules will be, and we dont know whether the assumptions we operate under are valid.
Given this knowledge gap, it makes sense to start with a broader, more flexible approach, and become narrower and more restrictive only as necessary and after we have sufficient experience and data to make these decisions. Unfortunately the Commission has not taken this sensible approach. By way of example, last month the Commission held an open meeting to consider a final rule related to business conduct standards and a proposed rule related to block trading. Dodd-Frank mandates that the Commission specify the criteria for determining what constitutes a large notional swap transactionor block trade for particular markets and contracts. In determining appropriate block trade sizes, Congress has directed that the Commission take into account whether public disclosure of transactions will reduce market liquidity. This requires a balancing actif the block threshold is set too low, there will be reduced transparency in the market. If the block threshold is set too high, there will be reduced liquidity in the market. Setting block sizes for swaps is not an easy task, and absent robust data, comprehensive analysis, and the benefit of market experience, we could severely harm liquidity at this critical regulatory juncture where we seek to bring more swaps onto swap execution facilities. The proposal, which passed by a 3-2 vote, recommends utilizing a formula to determine block size whereby only the largest 6% of all interest rate swaps and credit default swaps would be block trades. This proposal ignores Congress mandate that we take into account the impact of public disclosure on liquidity. We now run the risk of sacrificing liquidity at the altar of transparency.
More troubling, the rule writing team only had access to 3 months worth of transaction data, and that transaction data dates back to the summer of 2010. In writing these rules we are relying on stale data, and far too little of it. This is just one instance where we have proposed rules without sufficient data, robust analysis, and complete knowledge of their impact.
Extraterritoriality
I am guessing that the issue first and foremost on many of your minds is extraterritoriality. As everyone in this room knows, the swaps market is a global market. Harmonizing our rules to the greatest extent possible with the SEC, other US regulators and our foreign counterparts is absolutely crucial for ensuring that we accomplish the overall global objectives of reducing systemic risk and limiting opportunities for regulatory arbitrage. As required by Dodd-Frank, and in keeping with the commitments reached by the G-20 leaders in Pittsburgh in September of 2009, Commission staff has been in constant contact with our counterparts in London, the European Union and Asia. These issues are very complex, and the possibility of divergent views among international regulators is very real. The challenge lies in building a consistent philosophy for how the regulatory frameworks of many nations fit together to ensure cross-border swap activities are not disrupted. In Dodd-Frank Congress expressed intent for the statute to apply to activities abroad in certain circumstances, but was not crystal clear on the parameters. While the statute gives us some direction, the Commission is considering how broadly or narrowly it intends to interpret the scope of this limitation.
Setting the precise scope of Dodd-Frank with respect to the cross-border activities of foreign entities is necessary to preserve the continuity of global business operations and the risk management tools that swaps provide. To that end, I expect the Commission to issue proposed guidance on this issue in the coming weeks; however, it is my understanding the scope of the guidance will only speak to who will be required to register as a US swap dealer or major swap participant. The Commission intends to tackle other issues such as clearing and market infrastructure in subsequent guidance. I am deeply concerned that there has not been adequate coordination with the SEC and the international regulatory community. Of even greater concern to me is that the Commission appears to be considering a piecemeal approach to issues of extraterritoriality by proposing guidance in stages rather than by proposing one comprehensive rule that will give market participants some degree of certainty and the entire framework we are considering. I cannot imagine the global consequences of an inconsistent approach to these issues by the SEC and CFTC. I have spoken to many foreign entities and foreign regulators who are very interested in how far the CFTC intends to reach into the operations of entities located overseas. I believe this is one of the single most important issues the Commission will address during the implementation of Dodd/Frank. There has been an enormous amount of congressional interest and if we do not get this one right, I am confident Congress will step in. I would like to see the CFTC propose a joint rule or at the least a coordinated rule with the SEC. The CFTC has a long history of international cooperation and recognition for comparable foreign regulatory regimes.
This is not the time for us to abandon policies that have worked well for us over decades of international practice.
Volcker
I am also going to guess that the other important issue on your mind is the much discussed Volcker rule. The CFTC waited until January of this year to put out its Volcker proposal, notwithstanding the fact that other US regulators put out their version of Volcker last October. The proposal is lengthy and extremely complex and I do not think we spent sufficient time to fully consider all of its implications. I am troubled that this is the path the Commission has chosen. Given that we waited until January to propose our version of Volcker, well after other regulators issued proposals and received comments, we had a unique opportunity to take into consideration the comments filed with those other agencies. Unfortunately, even with the lag time and the benefit of comment letters we proposed a rule that is virtually identical to the other agencies proposed Volcker rule. I had concerns about what the CFTC would do if other agencies re-propose their rules. I hope we will be prepared to withdraw our proposal and join a re-proposed Volcker Rule with the other agencies. Otherwise, it seems as if we have put ourselves on a separate track, which I fear will needlessly complicate an already convoluted and likely unworkable set of rules. Central bankers and regulators from around the world have expressed concern that the rule, which as proposed would apply to the US operations of foreign banks, may also extend to a firms operations outside the US.
Many countries in Europe and Asia have weighed in, and many industry bodies such as yours have filed helpful comment letters too. In fact, the CFTC, Treasury and other regulators received over 17,000 comment letters. We have seen these concerns voiced by high ranking officials, such as Bank of Canada Governor Mark Carney, EU Financial Services Commissioner Michel Barnier, and FSA chairman Lord Adair Turner. For example, the UK and Japanese finance ministers weighed in saying that, without an exemption from the rule, their governments borrowing costs would rise. Japan and Britain have called on the US to rewrite the Volcker rule given concerns that it could reduce liquidity in sovereign debt markets at a crucial moment for some European governments. Japanese Finance Minister Jun Azumi and his British counterpart George Osborne pointed out that Volcker may be the "wrong prescription," with unintended consequences. Of particular concern to other nations is the fact that, while the new rule may adversely impact market liquidity in stocks and corporate and government bonds, there is an exemption that allows the banks to buy US government securities -- but not other sovereign debt instruments. As a consequence, explained Azumi and Osborne, "it could reduce liquidity in non-US sovereign markets, making it more difficult, costlier and riskier for countries to issue and distribute debt." Government debt and related obligations are a major part of the banking sectors liquid assets. I believe that we need to really consider, especially at this troubled time in the sovereign debt markets, whether this exclusion should be applied in a broad manner that allows banks, especially those outside the US, to engage in liquidity management using assets accepted as liquid reserves such as foreign sovereign debt.
Second, after reviewing the many critical comments we should re-evaluate the foreign banking entities exemption. I do not believe this exemption should be narrower than is required by Dodd-Frank. At a minimum, we could clarify that use of US financial infrastructure (e.g. clearing, settlement, and trade facilitation) would not make the transaction subject to the rule. It is critical for US regulators to come together and form a reasonable approach to the many difficult issues included in the prohibitions and restrictions on proprietary trading. The implications of this rule will most definitely be felt around the globe.
International Update
As you know, I chair the Commissions Global Markets Advisory Committee and have participated for the last three years in the Technical Committee meetings of IOSCO and so am particularly sensitive to international regulatory issues. As a quick recap on other jurisdictions, we continue to monitor the progress of the European Market Infrastructure Regulation (EMIR), the Markets in Financial Instruments Directive (MIFID) and the related Markets in Financial Instruments Regulation (MIFIR), as well as the proposed revisions to the Market Abuse Directive (MAD) and the Basel Committee on Banking Supervision and IOSCO joint working group on margin requirements for uncleared derivatives. A political agreement on EMIR was reached last month; however, an official version has yet to be released publicly. Based on conversations with our European Commission (EC) counterparts, EMIR will come into force on January 1, 2013, but will not be applied until later in 2013.
More specifically, authorization of CCPs will not occur until mid-2013 and we do not have an estimated date for when trade repositories will enter into force. With regard to MiFID and MiFIR, we expect that the European Parliament will consider them at some point this summer. All three of these proposals are the EUs responses to the commitments made by G-20 leaders in 2009 to address less regulated parts of the financial system, such as OTC derivatives, and to improve the oversight and transparency of commodity derivative markets. MAD/MAR: The European Commission has also proposed regulations to increase the number of commodity derivatives and OTC derivatives that are covered by the market abuse regime. The proposals extend the market manipulation prohibition to instruments whose value relates to exchange traded instruments. So for instance, an OTC derivative referenced to a contract traded on ICE Futures Europe would fall within the new Directive. These updated regulations now include prohibitions against attempted manipulation, where the old rules only covered actual manipulation. I should also point out that the new regulation gives the member states more enforcement tools and criminalizes certain insider trading and market manipulation offenses. We expect these proposals will also be taken up by the European Parliament this summer. The IOSCO Task Force on OTC derivatives (TF) has been busy. Heres a sense of where various work is in the pipeline: - the report on requirements for mandatory clearing; - the TFs Follow on analysis to the report on trading; and
- the report on OTC Derivatives Data Reporting and Aggregation Requirements, which is the joint work of the TF and the Committee on Payment and Settlement Systems (CPSS) were all approved before or during the Feb. 2012 Tokyo Technical Committee Meeting. The last report left for the task force to take up, the report on OTC Derivatives Market Intermediaries oversight, is nearly finished and likely to be approved at the May IOSCO Annual meeting in Beijing. Lastly, on the international front, I would like to report that the Basel Committee on Banking Supervision and IOSCO has established a joint working group on margin requirements for uncleared derivatives. The group includes representatives from more than twenty regulatory authorities, including the CFTC, and has held two in-person meetings and numerous conference calls. The topics discussed have included: - the purposes of margin; - the instruments subject to margin; - entities subject to margin; - categorization of counterparties; - calculation of margin; - eligible collateral; - segregation of collateral; - treatment of affiliates; and - cross-border issues. The group is working toward issuing a consultative paper mid-year. US regulators will coordinate with the international effort, and my hope is that US regulators will not take up the final rulemaking on margin
requirements for uncleared derivatives until after the international standards have been settled. Finally, I will turn to recent developments in Asia.
Japan
The Japanese legislature passed the Amendment to the Financial Instruments and Exchange Act (FIEA) in May 2010. This amendment gave the Japanese financial regulator, the JFSA, the authority to regulate OTC derivatives. The JFSA expects the implementing cabinet ordinance and other measures to be finalized by November 2012.
Hong Kong
The Hong Kong Monetary Authority (HKMA) and Hong Kong Securities and Futures Commission (SFC, together with the HKMA, the Hong Kong Authorities) released a consultation paper on their proposed OTC regulatory regime in October 2011. The Hong Kong Authorities propose amending the Securities and Futures Ordinance to set out a general framework for the regulation of the OTC derivatives market, which includes providing relevant rulemaking powers to the HKMA and SFC. Hong Kong is working to adopt these regulations by the end of 2012.
Singapore
On February 13, 2012 the Monetary Authority of Singapore (MAS) published a consultation paper with proposals to meet the G20 mandate on the trading, clearing and reporting of OTC derivatives. To implement the recommendations of the international standard setting bodies, MAS proposed to expand the scope of the Securities and Futures Act (SFA) to mandate central clearing and reporting of OTC derivatives contracts, as well as regulate market operators, clearing facilities, trade repositories and market intermediaries for OTC derivatives contracts.
Generally there is a fair amount of consistency between jurisdictions. Of course there are some areas where coordination and cooperation are essential. I know the concept of indemnity in the context of swap data repositories is an issue, as well as the desire by some for a central bank exemption from the registration, public reporting and clearing requirements of Dodd-Frank. There is also a conflict regarding the open access to CCPs rules which we finalized in October of last year. The rules prohibit a DCO from setting a minimum adjusted net capital requirement of more than $50million for any person that seeks to become a clearing member in order to clear swaps. This very low number has generated concern from other authorities. As you all know very well, market regulators around the globe are working diligently to respond to the commitments made at the G-20 level. Considering the scope of the work for all of these jurisdictions, I think the progress made up to this point has been remarkable. We will continue our efforts at the Commission coordinating with our global counterparts and will probably be working to establish appropriate rules and regulations for many years to come.
Conclusion
In closing, I would like to convey my persistent grief regarding the process the Commission is using to finalize these very important rules. I believe we should be crafting all of our regulations in a way that will allow them to stand the test of time and to not favor one market segment over another. I believe that it is crucial for the marketplace and for market participants that we get these rules right and that we finalize them in a way that is reasonable and to not politicize them.
It would not be a good outcome if we are re-writing most of these rules in the next couple of years because the rules do not reflect the useful input we have received from the market. We consistently reject reasoned comments from industry professionals with little justification in our cost benefit analysis to support those rejections. I have been hopeful for the past year that things would change when we started finalizing rules, and especially the rules that are so integral to the new regulatory framework, but things have not changed. I am no longer optimistic; I do not believe that these rules have a chance of withstanding the test of time but instead believe that this Commission will be consumed over the next few years using our valuable resources to rewrite rules that we knew or should have known would not work when we issued them.
Proposed Rules to Help Prevent and Detect Identity Theft, from the Securities and Exchange Commission
The Securities and Exchange Commission announced a rule proposal to help protect investors from identity theft by ensuring that broker-dealers, mutual funds, and other SEC-regulated entities create programs to detect and respond appropriately to red flags. The SEC issued the proposal jointly with the Commodity Futures Trading Commission (CFTC). Section 1088 of the Dodd-Frank Act transferred authority over certain parts of the Fair Credit Reporting Act from the Federal Trade Commission (FTC) to the SEC and CFTC for entities they regulate. The proposed rules are substantially similar to rules adopted in 2007 by the FTC and other federal financial regulatory agencies that were previously required to adopt such rules. The rule proposal would require SEC-regulated entities to adopt a written identity theft program that would include reasonable policies and procedures to: Identify relevant red flags. Detect the occurrence of red flags. Respond appropriately to the detected red flags. Periodically update the program. The proposed rule would include guidelines and examples of red flags to help firms administer their programs. The proposal will be published in the Federal Register with a 60-day public comment period.
Summary
The Commodity Futures Trading Commission (CFTC) and the Securities and Exchange Commission (SEC, together with the CFTC,
the Commissions) are jointly issuing proposed rules and guidelines to implement new statutory provisions enacted by Title X of the Dodd-Frank Wall Street Reform and Consumer Protection Act. These provisions amend section 615(e) of the Fair Credit Reporting Act and direct the Commissions to prescribe rules requiring entities that are subject to the Commissions jurisdiction to address identity theft in two ways. First, the proposed rules and guidelines would require financial institutions and creditors to develop and implement a written identity theft prevention program that is designed to detect, prevent, and mitigate identity theft in connection with certain existing accounts or the opening of new accounts. The Commissions also are proposing guidelines to assist entities in the formulation and maintenance of a program that would satisfy the requirements of the proposed rules. Second, the proposed rules would establish special requirements for any credit and debit card issuers that are subject to the Commissions jurisdiction, to assess the validity of notifications of changes of address under certain circumstances. DATES: Comments must be received on or before May 7, 2012. All comments must be submitted in English, or if not, accompanied by an English translation.
Proposed Identity Theft Red Flags Rules

Sections 615(e)(1)(A) and (B) of the FCRA, as amended by the Dodd-Frank Act, require that the Commissions jointly establish and maintain guidelines for financial institutions and creditors regarding identity theft, and prescribe rules requiring such institutions and creditors to establish reasonable policies and procedures for the implementation of those guidelines.
The Commissions have sought to propose identity theft red flags rules and guidelines that are substantially similar to the Agencies final identity theft red flags rules and guidelines, and that would provide flexibility and guidance to the entities subject to the Commissions jurisdiction. To that end, the proposed rules discussed below would specify: (1) Which financial institutions and creditors would be required to develop and implement a written identity theft prevention program (Program); (2) The objectives of the Program; (3) The elements that the Program would be required to contain; and (4) The steps financial institutions and creditors would need to take to administer the Program.
Which Financial Institutions and Creditors Would Be Required to Have a Program

The scope subsections of the proposed rules generally set forth the types of entities that would be subject to the Commissions identity theft red flags rules and guidelines. Under these proposed subsections, the rules would apply to entities over which the Commissions have recently been granted enforcement authority under the FCRA. The Commissions proposed scope provisions are similar to the scope provisions of the rules adopted by the Agencies. The CFTC has tailored its proposed scope subsection, as well as the definitions of financial institution and creditor, to describe the entities to which its proposed identity theft red flags rules and guidelines would apply.
The CFTCs proposed rule states that it would apply to futures commission merchants (FCMs), retail foreign exchange dealers, commodity trading advisors (CTAs), commodity pool operators (CPOs), introducing brokers (IBs), swap dealers, and major swap participants. The SECs proposed scope subsection provides that the proposed rules and guidelines would apply to a financial institution or creditor, as defined by the FCRA, that is: A broker, dealer or any other person that is registered or required to be registered under the Securities Exchange Act of 1934 (Exchange Act); An investment company that is registered or required to be registered under the Investment Company Act of 1940, that has elected to be regulated as a business development company under that Act, or that operates as an employees securities company under that Act; or An investment adviser that is registered or required to be registered under the Investment Advisers Act of 1940. The entities listed in the proposed scope section are the entities regulated by the SEC that are most likely to be financial institutions or creditors, i.e., registered brokers or dealers (broker-dealers), investment companies and investment advisers. The CFTC has determined that the proposed identity theft red flags rules and guidelines would apply to these entities because of the increased likelihood that these entities open or maintain covered accounts, or pose a reasonably foreseeable risk to customers or to the safety and soundness of the financial institution or creditor from identity theft. The proposed scope section also would include other entities that are registered or are required to register under the Exchange Act. The section would not specifically identify those entities, such as nationally recognized statistical ratings organizations, self-regulatory
organizations, and municipal advisors and municipal securities dealers, because, as discussed below, they are unlikely to qualify as financial institutions or creditors under the FCRA. The proposed scope section also would not include entities that are not themselves registered with the Commission, even if they register securities under the Securities Act of 1933 or the Exchange Act, or report information under the Investment Advisers Act of 1940. The Commissions solicit comment on the scope section of the proposed identity theft red flags rules. Should the SECs proposed scope section specifically list all of the entities that would be covered by the rule if they were to qualify as financial institutions or creditors under the FCRA? Are the entities specifically listed in the proposed rule the registered entities that are most likely to be financial institutions or creditors under the FCRA? Should the SEC exclude any entities that are listed? Should it include any other entities that are not listed? Should the SEC include entities that register securities with the SEC or that report certain information to the SEC even if the entities themselves do not register with the SEC?
Definition of Financial Institution

As discussed above, the Commissions proposed red flags rules and guidelines would apply to financial institutions and creditors. The Commissions are proposing to define the term financial institution by reference to the definition of the term in section 603(t) of the FCRA. That section defines a financial institution to include certain banks and credit unions, and any other person that, directly or indirectly, holds a transaction account (as defined in section 19(b) of the Federal Reserve Act) belonging to a consumer.
Section 19(b) of the Federal Reserve Act defines a transaction account as a deposit or account on which the depositor or account holder is permitted to make withdrawals by negotiable or transferable instrument, payment orders of withdrawal, telephone transfers, or other similar items for the purpose of making payments or transfers to third parties or others. Accordingly, the Commissions are proposing to define financial institution as having the same meaning as in the FCRA. The CFTCs proposed definition, however, also specifies that the term includes any futures commission merchant, retail foreign exchange dealer, commodity trading advisor, commodity pool operator, introducing broker, swap dealer, or major swap participant that directly or indirectly holds a transaction account belonging to a customer. The SEC is not proposing to mention specific entities in its definition of financial institution because the SECs proposed scope section lists specific entities subject to the SECs rule.
Definition of Creditor
The Commissions are proposing to define creditor to reflect a recent statutory definition of the term. In December 2010, President Obama signed into law the Red Flag Program Clarification Act of 2010 (Clarification Act), which amended the definition of creditor in the FCRA for purposes of identity theft red flag rules and guidelines. The Commissions proposed definition of creditor would refer to the definition in the FCRA as amended by the Clarification Act. The FCRA now defines a creditor, for purposes of the red flags rules and guidelines, as a creditor as defined in the Equal Credit Opportunity Act (ECOA) (i.e., a person that regularly extends, renews or continues
credit, or makes those arrangements) that regularly and payment of debt or to incur debts and defer its payment or to purchase property or services and defer payment therefor. The Agencies defined credit in the same manner in their identity theft red flags rules. The SECs proposed definition would include lenders such as brokers or dealers offering margin accounts, securities lending services, and short selling services. These entities are likely to qualify as creditors under the proposed definition because the funds that are advanced in these accounts do not appear to be for expenses incidental to a service provided. The proposed definition of creditor would not include, however, CTAs or investment advisers because they bill in arrears, i.e., on a deferred basis, if they do not advance funds to investors and clients.
The Elements of the Program

The proposed rules set out the four elements that financial institutions and creditors would be required to include in their Programs.61 These elements are identical to the elements required under the Agencies final identity theft red flag rules. First, the proposed rule would require financial institutions and creditors to develop Programs that include reasonable policies and procedures to identify relevant red flags for the covered accounts that the financial institution or creditor offers or maintains, and incorporate those red flags into its Program. Rather than singling out specific red flags as mandatory or requiring specific policies and procedures to identify possible red flags, this first element would provide financial institutions and creditors with flexibility in determining which red flags are relevant to their businesses and the covered accounts they manage over time.
Given the changing nature of identity theft, the Commissions believe that this element would allow financial institutions or creditors to respond and adapt to new forms of identity theft and the attendant risks as they arise. Second, the proposed rule would require financial institutions and creditors to have reasonable policies and procedures to detect red flags that have been incorporated into the Program of the financial institution or creditor. This element would not provide a specific method of detection. Third, the proposed rule would require financial institutions and creditors to have reasonable policies and procedures to respond appropriately to any red flags that are detected. This element would incorporate the requirement that a financial institution or creditor assess whether the red flags detected evidence a risk of identity theft and, if so, determine how to respond appropriately based on the degree of risk. Finally, the proposed rule would require financial institutions and creditors to have reasonable policies and procedures to ensure that the Program (including the red flags determined to be relevant) is updated periodically, to reflect changes in risks to customers and to the safety and soundness of the financial institution or creditor from identity theft. As discussed above, financial institutions and creditors would be required to determine which red flags are relevant to their businesses and the covered accounts they manage. The Commissions are proposing a periodic update, rather than immediate or continuous updates, to be parallel with the final identity theft red flags rules of the Agencies and to avoid unnecessary regulatory burdens.
Proposed Amendments Conforming PCAOB Rules and Forms to the Dodd-Frank Act
DATE: SPEAKER: EVENT: LOCATION: Feb. 28, 2012 Daniel L. Goelzer, Board Member PCAOB Open Board Meeting Washington, DC
These proposals would revise the Board's rules in light of the Dodd-Frank Act and would also make an assortment of other updating and clarifying changes. The principal PCAOB impacts of the Dodd-Frank Act are to give the Board regulatory authority over auditors of securities brokers and dealers and to empower the Board to share non-public inspection information with foreign regulators. The new law also made some technical changes to the Board's authority unrelated to those two objectives, such as clarifying that the Board retains enforcement jurisdiction over people who violate Board rules or standards, but leave the accounting profession before the Board has a chance to commence disciplinary action against them. Clearly, the Board needs to conform its rules to changes in the statutes that govern its work, and I support the proposals. To the extent they flow from Dodd-Frank, the amendments the staff has proposed should be largely non-controversial. However, mixed in with this regulatory housekeeping are some more significant issues.
I hope that investors, public companies, broker-dealers, and auditors will not let their eyes glaze over as they wade through the regulatory minutiae and miss the nuggets of policy. I would particularly direct attention to three areas. First, as we have discussed at other public meetings, most broker-dealers are small, non-public companies. The rules that work for public company auditors may not always make sense for closely-held, mom-and-pop operations. For example, the Board is not proposing to extend the requirement for audit committee pre-approval of auditor non-audit services to broker-dealer engagements. The Board is, however, proposing to apply the same prohibition against the auditor providing tax services to individuals who are involved in the financial reporting process to broker-dealer auditors as already apply to issuer auditors. While in general the lines drawn in the proposed amendments make sense, I have doubts about the personal tax services provision. As the proposing release explains, the Board adopted that part of its independence rules in 2005, in response to situations in which the auditor's tax advice to corporate executives seemed to be in conflict with the best interests of the public company. Clearly, the auditor should not be involved in situations in which corporate insiders responsible for financial reporting cause a publicly-held company to structure their compensation in a way that reduces the insiders' taxes, but increases the company's. But it is far from clear at least to me that the same concerns apply to privately-held brokerage firms, especially ones that are owned by a single individual or a small group of partners.
In those cases, the conflict between the audit client and the insider does not exist, since there are no public shareholders. Second, there are some significant proposals in this release that would affect public company auditors. For example
The Board is proposing to require the filing of a special report if a registered accounting firm resigns, declines to stand for re-appointment, or is dismissed from an issuer audit engagement and the issuer fails to file the required Form 8-K report with the SEC. This proposed change addresses the potential risk posed when issuers (including significant subsidiaries) change auditors, but fail to notify the Commission and the investing public.
The Board is also proposing to revise it annual reporting form, Form 2, to reflect the Dodd-Frank requirement that certain foreign public accounting firms must designate the Board or the Commission is the firm's agent for service of process under Section 106 of the Act. Designating such an agent makes it more feasible for the Commission to compel foreign firms to produce work papers in SEC investigations. In effect, the proposal would require firms to indicate in their annual reports to the Board whether or not they have complied with this new law. I have no particular problem with these proposals, but they may raise issues of the extent to which the Board should use its authority to require firms to file reports as a lever to encourage compliance, or to compensate for non-compliance, with other laws or with the SEC's 8-K requirements. Commenters may want to consider that issue. Finally, these amendments include changes to the rules that govern Board disciplinary proceedings, including increasing the level of fines, specifying the burden of proof with respect to affirmative defences, and encouraging affidavits in support of Wells submissions.
While I don't think any of these will have a major effect on the way Board enforcement proceedings are conducted, those who regularly practice before the Board should certainly pay attention to them. PCAOB enforcement practitioners may also have ideas for other ways in which the procedural framework that governs the enforcement process could be improved. As the Board gains more experience with its new authority under Dodd-Frank, I expect that further revisions to the Board's rules and procedures will be necessary. In the meantime, I hope that commenters will provide any insights they may have on the practical application of these proposals and on whether there are other amendments that should be considered now. I want to close by recognizing the staff members who have worked hard over the last several months to prepare this release and the related rule changes. The work was, I am sure, at some points interesting and stimulating, but at others tedious, if not mind-numbing. The main authors of the release were Nancy Doty, Associate General Counsel, and Vincent Meehan, Assistant General Counsel. Bob Burns, Associate General Counsel, also played a key role. Thanks to all of you for your efforts. Thanks also to our colleagues at the SEC for their helpful suggestions.
Proposed Auditing Standard on Related Parties and Proposed Amendments on Significant Unusual Transactions
DATE: SPEAKER: EVENT: LOCATION: Feb. 28, 2012 Daniel L. Goelzer, Board Member PCAOB Open Board Meeting Washington, DC
Non-arm's length transactions with company insiders, or with entities controlled by insiders, have a long and notorious history in the annals of fraudulent financial reporting. Similarly, for nearly a century, every accounting student has learned about the possibilities and perils of period-end window-dressing and other kinds of form-over-substance maneuvers intended to produce an accounting effect rather than to promote a business purpose. And, as the idea of pay-for-performance has become business orthodoxy during the last several decades, the risk that accounting measures may be manipulated to meet compensation-triggering targets has become painfully obvious. Competent auditors are of course already well-aware of these risks, and competently performed audits already address them. The hunt for transactions and relationships with friendly parties, and for unusual transactions with material financial reporting consequences, is or at least should be a key part of any audit. Nevertheless, the Board's inspection findings, the SEC and PCAOB enforcement dockets, and the newspaper headlines all make clear that there is considerable room for improvement. However, I do not think it is the case that undetected related party dealings, or financial statements that are misleading because they
elevate form-over-substance, are principally the result of weak auditing standards. The root causes often lie in lack of professional skepticism, lack of proper training and technical competence, and lack of adequate time and audit effort. I do agree, however, that strengthening the standards in these areas is a necessary step on the road to reducing the incidence of misleading financial reporting and better protecting investors and increasing their confidence. The proposals the Board is considering seek to move auditing down that road in several ways. For example
Auditors would be required to perform specific procedures to determine whether there are related parties that management has failed to identify. The proposal would explicitly recognize the risk that management may fail to disclose all related party transactions and would tell the auditor how to respond when that occurs. The underlying theme of the proposed standard is the need for heightened skepticism where related parties are involved.
Similarly, auditors would be required to perform specific procedures to identify significant unusual transactions and to obtain an understanding of the business purpose or lack thereof once such transactions are identified. The proposal would also require the auditor to evaluate whether significant unusual transactions have been appropriately accounted for and adequately disclosed.
Further, while Auditing Standard No. 12 already requires the auditor to consider the risks of material misstatement associated with
a company's financial relationships with senior management, the proposal would be more focused. It would expressly require the auditor to obtain an understanding of relationships, including compensation, with "executive officers" and, in particular, to read executive officers' employment and compensation contracts. The proposals would also sharpen the requirements around what the auditor must tell the audit committee about related party and significant unusual transactions and when the committee must be told. For example, the proposed standard would require that the auditor provide the audit committee with the auditor's assessment of the company's accounting and disclosure regarding transactions with related parties, prior to the issuance of the auditor's report. The proposal would also require the auditor to inform the audit committee if significant related party transactions that have not been appropriately authorized, or that appear to lack a business purpose, come to the auditor's attention. In my view, these communications requirements are critical components of what the Board is seeking to accomplish. In many cases, the sorts of abuses these proposals address are evidence of both a financial reporting break-down and a corporate governance break-down. The board of directors needs to be promptly armed with information so that it can take appropriate action. I support issuing these proposals for comment. Of course, to make sure that final standard setting in this area accomplishes its investor protection goals, it is important that commenters tell the Board what the practical effect would be on the
way audits are conducted. Also, if commenters have other ideas about ways to strengthen auditing in these areas, I would encourage them to give the Board their suggestions. I want to thank the staff members who have worked on this proposal. I particularly want to acknowledge the efforts of Deputy Chief Auditor Greg Scates, Associate Chief Auditor Brian Degano, and Assistant Chief Auditor Nick Grillo. They have been ably supported with advice and input from OCA's Counsel, Karen Burgess, and by Associate General Counsel Bob Burns and Assistant General Counsel Nina Mojiri-Azad. Thanks to all of you for your hard work and commitment to this important project.
DATE: SPEAKER: EVENT: LOCATION: Feb. 28, 2012 James R. Doty, Chairman PCAOB Open Board Meeting Washington, DC
Thank you for your summary of the proposed standard and amendments before us today and thank you all for your hard work drafting these proposals. This proposal contemplates additional audit procedures intended to improve the auditor's evaluation of the identification of, accounting for, and disclosure about related parties and significant unusual transactions. The Board is considering this proposal because related party transactions and significant unusual transactions have played a recurring role in financial failures, from those that led to the Sarbanes-Oxley Act to those recently alleged in certain emerging market companies. Auditors have a unique vantage point from which to identify improper transactions. We want this proposal and the related amendments to sharpen auditors' focus and help them be more effective in their investor protection role. We have been mindful to build on our existing risk assessment
standards to align those concepts with this proposal. Accordingly, these changes are intended to make audits more efficient, more effective and integrated with the overall audit approach. This proposal should also enhance the auditors' understanding of the issuers' financial arrangements with its senior officers. Members of our Standing Advisory Group have noted the importance of additional guidance to auditors in this high risk area, precisely to avoid misdirected or fruitless attempts to audit related party transitions effectively.
DATE: SPEAKER: EVENT: LOCATION: Feb. 28, 2012 Lewis H. Ferguson, Board Member PCAOB Open Board Meeting Washington, DC
I support the release of the proposed standard dealing with related parties that would supersede AU 334, as well as the proposed amendments to AU 316, Consideration of Fraud in a Financial Statement Audit, to strengthen the auditor's evaluation of significant unusual transactions, and the amendments to PCAOB standards that would address the auditor's consideration of a company's financial relationships and transactions with its executive officers. Taken together, these new standards further elucidate and strengthen the Board's risk assessment standards set forth in Auditing Standards 8 through 15. Related party transactions, significant and unusual transactions, and transactions between a company and its executive officers may or may not overlap, but together they encompass types of relationships and
transactions that may be especially vulnerable to fraud or material misstatement of financial statements. Indeed, an examination of the major financial frauds and financial statement restatements in recent years, both in the U.S. and abroad, reveals that one or more of the relationships or types of transactions addressed by these proposals have been present in many of these cases. The PCAOB's own inspection results have shown that some auditors have not given adequate consideration to the risks of material misstatement from related party transactions. Our inspection results have also revealed deficiencies in some auditors' consideration and understanding of off-balance sheet structures which can also be a source of material misstatement. These facts suggest two things to me: 1) that the types of relationships and transactions addressed by the Board's proposals deserve special scrutiny by auditors and 2) that audit committees should be informed in detail of the work performed by auditors in these areas so that they can fully understand their meaning and implications. These new standards should both clarify for auditors those areas that the Board believes require special attention and should insure that audit committees are better informed about them. With respect to related parties, auditors should ascertain from management information about the identity, background, nature of the relationship, types of transactions and business reasons for the transactions as well as whether they were authorized in accordance with company policy. These rules are designed to give the auditor an understanding of the economic substance and business rationale for the transaction, an
understanding that should make abuses easier to spot. The amendments to AU 316 will require auditors to perform specific procedures to identify significant unusual transactions, to understand and evaluate the business purpose of such transactions and to evaluate whether they have been appropriately accounted for and adequately disclosed. Additionally, other amendments will require auditors to perform procedures to obtain an understanding of the company's financial relationships and transactions with its executives, to obtain representations from management that there are no other arrangements, whether oral or written, concerning such relationships and transactions that have not been disclosed. The amendments will also emphasize the auditor's existing responsibilities to communicate possible fraud to management, the audit committee and under certain circumstances the U.S. Securities and Exchange Commission. Together, the proposed changes should provide clearer guidance about the types of investigative and analytic steps that auditors need to undertake in connection with types of relationships and transactions that experience has shown are particularly subject to abuse. If they operate as intended they may improve the analytical rigor with which auditors approach such matters and the understanding of audit committees of such transactions. If, as hoped, this is the case, investors will be the beneficiaries. I want to acknowledge and express my appreciation for the dedicated of the Office of the Chief Auditor and the General Counsel on the proposals and specifically Greg Scates, Brian Degano, Nick Grillo, Bob Burns and Nina Mojiri-Azad. We look forward to receiving comments on these proposals.
DATE: SPEAKER: EVENT: LOCATION: Feb. 28, 2012 Jay D. Hanson, Board Member PCAOB Open Board Meeting Washington, DC
The standards we are proposing today "raise the bar" for what auditors are required to do in auditing related party transactions and other transactions deemed to be significant and unusual. Investors have been harmed in the past by frauds perpetuated in connection with related parties as well as surprised by the significance of related party transactions and significant unusual transactions not disclosed to them. These proposed standards are intended to address both problems. Many years ago, as a young audit senior, I was responsible for detecting a fraud at a client. As it turned out, the fraud went to the highest level of the organization. The business was struggling to meet its cash needs and found "creative" ways to obtain more money from its asset based lender. The creative ways ultimately crossed the line. In reviewing the audit results, it became clear that too many things failed to add up. Several related parties had been identified and disclosed in the past, and as I dug deeper into these related parties, I encountered more questions than answers. The simple question, "where is this related party located?" was met with evasive answers.
The answer to the question of how many employees the related party had zero was troubling and created serious doubt about whether the related party was actually providing any services. As I began to understand the flow of transactions, or, rather, the flow of funds, it became clear how the lender was being defrauded. Unfortunately, the business did not have an audit committee, and the CEO was deeply involved in the fraud. Ultimately, the CEO pled guilty to charges against him and died in prison. This is but one example of many similar scenarios, some of which are not discovered until great harm has been done to investors. In some cases, related party transactions involve difficult measurement and recognition issues that pose a risk of material misstatement in the financial statements; in other cases, related party transactions have been used as in the situation I encountered to engage in fraud. The auditing standard addressing related parties dates back almost 30 years to 1983, and the standard we are proposing today is the result of a fresh look at this important topic. It is intended to strengthen the existing audit procedures for identifying, assessing and responding to the risks of material misstatement associated with a company's related party transactions. Complementing this proposed standard are proposed amendments to strengthen the auditor's identification and evaluation of significant unusual transactions, along with a series of amendments to standards addressing related matters, such as transactions and relationships with executive officers. The changes we are proposing today attempt to apply a comprehensive and common sense approach to the auditor's work to
identify and understand related party transactions, significant and unusual transactions, and their respective implications. The proposed related party standard requires auditors:

to consider the fraud risks posed by the relevant transactions; to conduct procedures to identify related parties, including by asking management to identify such relationships and the resulting transactions; to discuss relevant relationships and transactions with the audit committee, including inquiring about any concerns that audit committee members may have about any related party relationships; to conduct specified procedures to understand the transactions, including their business purpose and the company's accounting and disclosures; and to consider all other evidence revealed during the auditor's work that may be relevant to the auditor's evaluation. Similar to the proposed standard on related parties, the proposed amendments to AU sec. 316 are intended to focus auditors on the identification and evaluation of significant unusual transactions. Identifying such transactions broadly defined in the proposed amendments as significant transactions outside the normal course of business or that otherwise appear to be unusual due to their timing, size or nature may be difficult. However, it is a procedure that is vital to protecting the interests of investors. The proposed amendments would require auditors to inquire about such transactions with a variety of parties, to understand and consider the implications of the company's internal controls related to such transactions, and to review other information that comes to light during the performance of the audit that may evidence significant
unusual transactions. The amendments also would require auditors to design and perform specific audit procedures intended to address the risks of material misstatement uniquely presented by significant unusual transactions and to facilitate a clearer understanding by auditors of the business purpose of such transactions. As I noted earlier, the proposed standard, Related Parties, and the proposed amendments regarding significant unusual transactions also are intended to complement each other. For example, while Appendix A to the new related parties standard provides guidance to auditors on examples of information that could indicate the existence of transactions with related parties, it may also help auditors to identify significant unusual transactions. At the same time, the new procedures required in connection with the auditor's evaluation of significant unusual transactions may also help the auditor identify related parties or transactions with related parties that were previously undisclosed to the auditor. I believe that the proposed standard and proposed amendments through the increased focus on related party and significant unusual transactions, and the increase in audit procedures required in these areas will increase investor confidence in the financial statements and serve the public interest. However, I am, as always, interested in the costs associated with the proposals, and whether there are any unintended consequences that we should consider before adopting final standards. In crafting the proposed standard and other amendments, we considered what burdens would be imposed on auditors and their clients. For example, in connection with the proposed requirements relating to the auditor's work to understand the company's financial relationships
and transactions with its executive officers, we thought carefully about what procedures to require in order to obtain the maximum benefit without imposing unreasonable burdens, and I believe we have struck an appropriate balance. Cost-benefit analysis has been a much discussed topic recently in the context of financial regulation. Many believe, and I agree, that it is difficult to monetize or otherwise quantify the benefits of such regulations. Nevertheless, we can explain the benefits and consider the costs of implementing our proposals. In that vein, I encourage commenters to provide us with your views on the benefits to investors of the amendments that we have proposed, as well as to let us know whether management or auditors anticipate significant cost increases as a result of the additional procedures. Are some firms already performing the proposed procedures, even if not currently required? If not, consider whether you can try to apply the proposed standard and provide us with feedback on your experiences. Are there other procedures that firms or audit committees have found effective in these areas? Do investors or audit committees believe that we have missed any steps that should be required? Do audit committee members believe that more should be done, or that additional items should be discussed by the auditor and the audit committee? I look forward to receiving thoughtful comments on these questions and many others posed in the release. In the meantime, I would like to join my fellow Board members in
thanking members of the Office of the Chief Auditor and of the Office of General Counsel for their hard work, particularly Greg Scates, Brian Degano, Nick Grillo, Karen Burgess, Bob Burns, and Nina Mojiri-Azad. As usual, their work is exemplary. I would also like to thank the staff of the SEC who took time to provide their views; we always benefit from their expertise and perspective.
Gabriel Bernardino, Chairman of EIOPA
Stability and growth A balancing act
Gala Dinner of the Institutional Money Congress, Ladies and Gentlemen, I am very pleased to be here with you tonight. First of all I would like to thank the organizers for their invitation to deliver this short dinner speech. It is my pleasure as Chair of EIOPA, the European Insurance and Occupational Pensions Authority, based in Frankfurt, to welcome you to such an important congress. The Institutional Money Congress is known as a significant communication platform for institutional investors, providing an ideal forum for professional exchange between internationally renowned asset managers and institutional investors. This year it will also be an opportunity to debate the challenges posed by recent regulatory initiatives, such as Solvency II and Basel III, and discuss their possible effects on the investment policies of financial institutions. As for challenges I think there is no doubt that the development and implementation of these regimes requires significant effort not only from regulatory and supervisory authorities, but also from the industry.
The more these issues are discussed, the easier we will build up a new financial culture based on robust standards of solvency, enhanced risk management and increased consumer protection. And by launching discussions and different workshops on such topics, the Institutional Money Congress creates a basis for this culture. Because only by discussing, by exchanging views we can reach a full understanding of the regimes by all market participants. Let me start by using this opportunity to make some remarks about the possible consequences of Solvency II on the investment behaviour of insurers and more generally on the financial markets. It is clear that applying capital charges for investment risk may encourage insurers to shift to less volatile investments, especially when the expected financial returns of risky assets do not offset the additional capital requirement. However, as insurers are aware of the changing regulation and have been rebalancing their portfolios accordingly, there should not be any significant sudden portfolio reallocations. Most importantly, a reduction of investment risk could also be achieved by an improvement in asset liability management, especially on long term guaranteed products. That is the purpose of the strong focus of Solvency II on enhancing risk management policies and practices. Controlling and ensuring sound and prudent management is far more important than the capital calculations, because management errors by their nature cannot be compensated by capital requirements. As a consequence of a greater focus on asset liability management, insurers could be willing to invest more in relatively highly rated corporate bonds since they offer higher yield and would provide diversification benefits within the fixed income portfolio.
Therefore, easier access to financing could be granted to firms with high credit ratings, which will translate into a lower cost of capital and would therefore contribute to higher investment and economic growth. Overall, regulatory regimes are always a result of a balancing act between different objectives. I am convinced that Solvency II will provide an appropriate basis for increased policyholder protection and will contribute to reinforcing financial stability, while allowing insurance companies to continue to play their role as long term investors. In a recent paper one of your distinguished guests, Prof. Thomas Sargent, discussed where to draw the line between stability and efficiency. In my opinion this is a fundamental question for the policy decisions to be taken in the coming years. We need to decide what we want to privilege: security or growth. If we want both, and I believe we should, then we need to be prepared to collectively accept some risks. One of the major consequences of the financial crisis was the fall of confidence and trust in the financial sector and increase in suspicion on all areas of financial innovation. Unfortunately, the benefits of financial innovation have been overshadowed by the costs of some activities that went really bad. I believe regulators and the industry need to take a fresh look at this area. Financial innovation tools can be a useful way for investors to protect themselves against unavoidable risks. However, they should be used to facilitate risk transfer and access to funding within the real economy and not to help institutions to arbitrage regulations and make balance sheets look safer than they are.
In order to increase long term stability and regain consumer confidence in the financial system we need to proceed with the reforms not only by adapting regulation but also by changing behaviour. We should encourage realistic risk assessment and pricing. Market participants should take concrete steps to promote responsible business conduct. Overall we also need to reinforce preventive risk based supervision and timely enforcement. We have all been witnessing during the last years systemic risks caused by excessive leverage combined with risky financial products as well as inadequacies in financial regulation and supervision. Various uncertainties around the global financial system are still at place. In the modern highly integrated environment financial stability can be already thought of as an international public good. All countries benefit from the stability of the world financial system as a whole. But at the same time all countries experience certain costs when the system is unstable. So it became clear that without more effective supervision it will not be possible to address further systemic risks in the financial system. This calls for international coordination. A number of different international bodies such as G20 and the Financial Stability Board are currently working on these issues in their different spheres of influence. EIOPA for example is contributing to the development of a common framework for supervising internationally active insurance groups and
developing criteria to identify systemic risk in insurance activities, both conducted under the umbrella of the International Association of Insurance Supervisors (IAIS). The results of this heavy regulatory agenda will reshape the financial system as we know it and we should be prepared to cope with the challenges ahead. At EIOPA we are quite aware of the relevance of our mandate and responsibilities. As you may know in January 2012 EIOPA completed the first year in its status as a European institution, one of the three European Supervisory Authorities. EIOPAs mission is to protect the public interest by contributing to the short, medium and long term stability and effectiveness of the financial system, for the EU citizens and economy. This mission is pursued by promoting a sound regulatory framework and consistent supervisory practices in order to protect the rights of policyholders, pension scheme members and beneficiaries and contribute to the public confidence in the European Unions insurance and occupational pensions sectors. And I would like to assure you that we are ambitious in fulfilling our obligations towards the EU citizens and businesses. EIOPA is currently intensively working on the development of technical standards and guidelines that are essential for the implementation of Solvency II. But if I start elaborating further on this, it will not be a dinner speech anymore, but an epic poem.
EIOPA is also working intensively on the review of the IORP Directive, advising the EU Commission on the ways to introduce a risk based framework for the supervision of occupational pension funds. EIOPA is an institution open to society. We want to listen and debate with the different stakeholders and that is why we value very much the opportunity to exchange views with you during this Congress. Thank you for your attention and have a good dinner.
National Consumer Protection Week, a coordinated campaign by government and non-profit entities, encourages consumers nationwide to protect themselves and make better informed decisions by taking advantage of available resources.
As a steering committee member, the FDIC presents:
Ten Things You Should Know About Debit, Credit, or Prepaid Cards
Debit, credit and prepaid cards are widely used to pay for a variety of goods and services, and consumers often use them interchangeably. However, there are significant differences between these cards in how they work and the consumer protections provided for each card. That's why the Federal Deposit Insurance Corporation has created a list
of things you should know before using your credit, debit, or prepaid card. When deciding which card to use, keep in mind how they work. A credit card is essentially a loan. When you borrow funds using the card, you must pay the money back in addition to any interest that may be charged. You may have to pay interest if you do not pay the entire amount by a certain date. On the other hand, debit cards are issued by your bank and when you use them, the money spent is taken directly from your bank account. Prepaid cards can seem very similar to debit cards in the way that they work. They generally allow consumers to spend only the money deposited onto them, and include products such as general purpose reloadable (GPR) cards, gift cards, and payroll cards. GPR cards carry a network brand, such as Visa, MasterCard, or American Express, and may be used anywhere that other cards on that network are accepted. However, the consumer protections regarding prepaid cards are very different. As discussed further below, the major federal protections that would cover you if you used a debit card do not apply to most prepaid cards. Be aware of debit card overdraft fees. Overdraft fees can occur if you dont have enough funds in your account when you swipe your debit card but the transaction is still processed. However, you must provide your bank with written permission in order for it to be able to charge you a fee for allowing you to continue to use your debit card when you do not have enough funds in your account. If you have overdrawn your account in the past, try to avoid these costly fees in the future by keeping track of your debit card purchases and other transactions and knowing your account balance.
A credit card issuer cannot charge you a fee for going over your credit limit unless you agree to allow for over-the-limit transactions. A card issuer cannot permit you to go over your credit limit and then charge a penalty fee for having done so unless you explicitly agree to it (opt-in). You must tell your credit card company that you want it to allow transactions that will take you over your credit limit. If you do not, then any transaction that puts you over your credit limit may be turned down. Your liability for an unauthorized credit card transaction is generally limited to $50. Federal law limits your losses to a maximum of $50 if your credit card is lost or stolen, although industry practices may further limit your losses. Your liability for an unauthorized debit card transaction may vary. The maximum legal liability is $50 if you notify the bank within two business days after learning of the loss or theft of your debit card. Otherwise, your losses could be greater. You must also notify your bank within 60 days of your banks transmittal of your periodic statement on which an unauthorized transfer appears, in order to avoid liability for subsequent unauthorized transfers. Certain prepaid cards are covered by consumer protection laws and regulations but others are not. For example, payroll cards must disclose any fees associated with the card as well as the error resolution process, limit liability in a manner akin to that for debit cards, and provide 21 days notice before making changes to the terms of use of the card. On the other hand, general purpose reloadable cards do not have any of these requirements. While gift cards must disclose certain fees that may be charged and whether the card has an expiration date, there are no federal requirements limiting liability for unauthorized transactions or for providing notice of
changes to the terms of use of the card. The funds linked to a prepaid card may or may not be FDIC-insured. If an employer, government agency or other organization places money with an insured institution to hold for use in connection with consumers prepaid cards, and the bank holding the money fails, the funds will be considered deposits of the cardholders (as opposed to deposits of the organization) if certain specific requirements have been followed. One requirement is that the account must be set up so that the organization is documented as acting as the custodian of the funds, on behalf of the consumer cardholders, rather than as the owner of the funds. If the requirements for pass-through deposit insurance have been met, the individual consumer cardholder will be protected by deposit insurance up to applicable limits. Make sure you know about all fees associated with your prepaid card. Possible fees include those to activate (start using) the card, add money onto the card, make purchases, withdraw cash, inquire about your balance at an ATM (in addition to any fee charged by the company that operates the ATM you use), receive a statement in the mail or speak with a customer service representative. As a result, most prepaid cards end up costing more than the advertised monthly fee. A hold may be placed on funds in your bank account for debit card transactions. At the time of purchase, merchants immediately place a temporary hold or block on funds for the transaction as protection against fraud, errors or other losses. The hold will be removed when the final transaction is processed, nearly immediately or perhaps a day or two later, but until then, you wont have access to that amount in your account.
Credit card issuers must give cardholders 45 days notice of changes. Under the Credit Card Accountability Responsibility and Disclosure Act of 2009 the Credit CARD Act the card issuer must generally provide a 45-day advance notice of any interest rate increase, fee increase, or any other significant changes in account terms. In contrast, debit cards and prepaid cards vary in the amount of notice required for changes to the terms of use of the card. For example, banks must provide 21 days notice before making certain changes to the terms of debit card usage, while payroll cards also must provide 21 days notice. However, general purpose reloadable cards and gift cards are not required to do so.
BIS Quarterly Review, March 2012 International banking and financial market developments European bank funding and deleveraging
Asset prices broadly recovered some of their previous losses between early December and the end of February, as the severity of the euro area sovereign and banking crises eased somewhat. Equity prices rose by almost 10% on average in developed countries and by a little more in emerging markets. Bank equity prices increased particularly sharply. Gains in credit markets reflected the same pattern. Central to these developments was an easing of fears that funding strains and other pressures on European banks to deleverage could lead to forced asset sales, contractions in credit and weaker economic activity. This article focuses on developments in European bank funding conditions and deleveraging, documenting their impact to date on financial markets and the global economy. Funding conditions at European banks improved following special policy measures introduced by central banks around the beginning of December. Before that time, many banks had been unable to raise unsecured funds in bond markets and the cost of short-term funding had risen to levels only previously exceeded during the 2008 banking crisis.
Dollar funding had become especially expensive.

The ECB then announced that it would lend euros to banks for three years against a wider set of collateral. Furthermore, the cost of swapping euros into dollars fell around the same time, as central banks reduced the price of their international swap lines. Short-term borrowing costs then declined and unsecured bond issuance revived. At their peak, bank funding strains exacerbated fears of forced asset sales, credit cuts and weaker economic activity. New regulatory requirements for major European banks to raise their capital ratios by mid-2012 added to these fears. European banks did sell certain assets and cut some types of lending, notably those denominated in dollars and those attracting higher risk weights, in late 2011 and early 2012. However, there was little evidence that actual or prospective sales lowered asset prices, and overall financing volumes held up for most types of credit. This was largely because other banks, asset managers and bond market investors took over the business of European banks, thus reducing the impact on economic activity.
Bank funding pressures and policy responses

European bank funding conditions deteriorated towards the end of 2011, as faltering prospects for economic growth and fiscal sustainability undermined the value of sovereign and other assets.
Bond issuance by euro area banks in the second half of the year, for example, was just a fraction of its first half value (Graph 1, left-hand panel). Until December, uncollateralised issuance by banks in countries facing significant fiscal challenges was especially weak. Deposits also flowed out of banks in these countries, with withdrawals from Italy and Spain accelerating in the final quarter of the year (Graph 1, centre panel).
At this time, US money market funds significantly reduced their claims on French banks, having already eliminated their exposures to Greek, Irish, Italian, Portuguese and Spanish institutions (Graph 1, right-hand panel). The pricing of long- and short-term euro-denominated bank funding instruments also deteriorated, both in absolute terms and relative to that of non-euro instruments, as did the cost of swapping euros into dollars (Graph 2).
The policy response

Around early December, central banks announced further measures to help tackle these funding strains. On 8 December, the ECB said that it would supply banks in the euro area with as much three-year euro-denominated funding as they bid for in two special longer-term refinancing operations (LTROs) on 21 December 2011 and 29 February 2012. At the same time, it announced that Eurosystem central banks would accept a wider range of collateral assets than previously. The ECB also said that it would halve its reserve ratio from 18 January, reducing the amount that banks must hold in the Eurosystem by around 100 billion. A few days earlier, six major central banks, including the ECB, the Bank of England and the Swiss National Bank, had announced a 50 basis point cut to the cost of dollar funds offered to banks outside the United
States. They also extended the availability of this funding by six months to February 2013. Euro area banks raised large amounts of funding via the ECBs three-year LTROs, covering much of their potential funding needs from maturing bonds over the next few years. Across both operations, they bid for slightly more than 1 trillion. This was equivalent to around 80% of their 201214 debt redemption, more than covering their uncollateralised redemptions (Graph 3, left-hand panel).
Banks in Italy and Spain made bids for a large proportion of the funds allocated at the first three-year LTRO (Graph 3, centre panel), while the funding situation of banks in other regions improved indirectly.
Banks in Germany, Luxembourg and Finland, for example, did not take much additional funding at the first LTRO. However, some of the allotted funds, perhaps after a number of transactions, ended up as deposits with these banks, boosting the liquidity of their balance sheets. In turn, they significantly increased their Eurosystem deposits (Graph 3, right-hand panel). There was also little change in the LTRO balance at the Greek, Irish and Portuguese central banks. However, banks in these jurisdictions had already borrowed a combined 165 billion before December and may have been short of collateral to use at the first LTRO. Bank funding conditions improved following these central bank measures. Investors returned to long-term bank debt markets, buying more uncollateralised bonds in January and February 2012 than in the previous five months (Graph 1, left-hand panel). US money market funds also increased their exposure to some euro area banks in January (Graph 1, right-hand panel). Indicators of the cost of long- and short-term euro-denominated bank funding instruments also turned, as did the foreign exchange swap spread for converting euros into dollars (Graph 2).
The nexus between sovereign and bank funding conditions

Funding conditions for euro area sovereigns improved in parallel to those of banks in December 2011 and early 2012.
Secondary market yields on Irish, Italian and Spanish government bonds, for example, declined steadily during this period (Graph 4, left-hand panel). Yields on bonds with maturities of up to three years fell by more than those of longer-dated bonds (Graph 4, centre panel).
At this time, these governments also paid lower yields at a series of auctions, despite heavy volumes of issuance. One notable exception to this trend was the continued rise in yields on Greek government bonds. This reflected country-specific factors, including the revised terms of a private sector debt exchange and tough new conditions for continued official sector lending. Part of the decline in government bond yields appeared to reflect diminished perceptions of sovereign credit risk.
This was consistent with declines in sovereign CDS premia. In turn, part of the reduction in sovereign credit risk probably reflected improvements in bank funding conditions. This could have worked via two channels. First, any reduction in the likelihood of banks failing because of funding shortages would have cut the probability of government support for these banks. Second, any easing of pressure on banks to shed assets would have boosted the outlook for economic activity and, hence, public finances. In addition, some of the improvements in perceptions of sovereign credit risk during this period probably reflected announcements made at the 89 December EU summit. These outlined arrangements to strengthen fiscal discipline in the union and to bring forward the launch of the European Stability Mechanism. A further part of the decline in yields on government bonds appeared to reflect the additional cash in the financial system available to finance transactions in these and other securities. This was consistent with government bond yields declining by more than CDS premia. Banks in Italy and Spain, for example, used new funds to significantly boost their holdings of government bonds (Graph 4, right-hand panel). While other euro area banks were less active in this respect, they may have committed new funds to help finance positions in government bonds for other investors. Or they may have purchased other assets and the sellers of those assets may have invested the resulting funds in government bonds.
These improvements in funding terms for euro area sovereigns fed back into bank funding conditions. In particular, higher market values of sovereign bonds enhanced the perceived solvency of banks, which made them more attractive in funding markets. However, this link earlier worked in reverse and could potentially do so again.
Deleveraging prospects and consequences

The sharp rise in funding costs and growing concerns over adequate capitalisation toward the end of 2011 added to existing market pressures on European banks to deleverage. Deleveraging is part of a necessary post-crisis adjustment to remove excess capacity and restructure balance sheets, thus restoring the conditions for a sound banking sector. That said, the confluence of funding strains and sovereign risk led to fears of a precipitous deleveraging process that could hurt financial markets and the wider economy via asset sales and contractions in credit. The extension of central bank liquidity and the European Banking Authoritys (EBA) recommendation on bank recapitalisation, however, played important parts in paving the way toward a more gradual deleveraging process.
Deleveraging prospects: capital-raising and asset-shedding

The European bank recapitalisation plan announced in October 2011 brought fears of deleveraging to the forefront of financial market concerns. It required 65 major banks to attain a 9% ratio of core Tier 1 capital to risk-weighted assets (RWA) by the end of June 2012, and the authorities
identified a combined capital shortfall of 84.7 billion at 31 major banks as of end-September 2011. Banks can deleverage either by recapitalising or by reducing RWA, with different economic consequences. In order to safeguard the flow of credit to the EU economy, supervisory authorities explicitly discouraged banks from shedding assets. Banks thus planned to meet their shortfalls predominantly through capital measures, and some made progress in spite of unfavourable market conditions. Low share prices, as at present, cause a strong dilution effect, drawing resistance from incumbent shareholders and management. The experience of UniCredit, whose deeply discounted 7.5 billion rights issue led to a 45% (albeit transient) plunge in its share price, deterred other banks from following suit. Capital can also be built through retained earnings, debt-toequity conversion or redemption below par. Some banks opted to convert outstanding bonds, notably Santander for 6.83 billion. Overall, banks plan to rely substantially on additions to capital and retained earnings to reach the 9% target ratio. The actions and plans of EBA banks thus helped to ease market fears over potential shedding of assets among banks with capital shortfalls (see below). The extent of asset-shedding observed in markets reflects a broader trend among European banks towards deleveraging over the medium term. French and Spanish banks, for instance, sold dollar-funded assets and divested foreign operations partly to focus their business models on core activities.
Major UK banks, similarly, continued to shrink their balance sheets, although none had to meet any EBA capital shortfall. In view of recurring funding pressures and changing business models, many banks, with or without EBA capital shortfalls plan to extend the ongoing trend of shedding assets. Industry estimates of overall asset disposals by European banks over the coming years thus range from 0.5 trillion to as much as 3 trillion. The extension of central bank liquidity eased the pace of asset-shedding observed in late 2011, but did not turn the underlying trend. If the banks in the EBA sample, for instance, failed to roll over their senior unsecured debt maturing over a two-year horizon, which amounts to more than 1,100 billion (600 billion among banks with a capital shortfall), they would have to shed funded assets in equal measure. By covering these funding needs, the LTROs and dollar swap lines helped avert an accelerated deleveraging process. But many banks continued to divest assets in anticipation of the eventual expiration of these facilities. Banks are also mindful that a sustained increase in their capitalisation would facilitate both regulatory compliance and future access to the senior unsecured debt market.
Limited asset-shedding among banks under the European recapitalisation plan

The European Banking Authority (EBA) published its recommendation relating to the European bank recapitalisation plan on 8 December 2011. This forms part of a broader set of EU measures agreed in October 2011 to restore confidence in the banking sector.
By the end of June 2012, 65 banks must reach a 9% ratio of core Tier 1 capital to risk-weighted assets (RWA). Capital will be assessed net of valuation losses on EEA sovereign exposures incurred by end-September 2011 (sovereign buffer). The 31 banks located in the shaded area below the regulatory line (capital = 0.09 RWA) in Graph A (left-hand panel) were below the 9% target ratio, as of end-September 2011, by an aggregate shortfall of 84.7 billion. The aggregate shortfall among all 71 banks in the EBA sample reaches 114.7 billion when six Greek banks are included with an estimated shortfall of 30 billion against the (stricter) capital targets under the EU/IMF financial assistance programme. The plans banks submitted to regulators in January 2012 suggest that the shedding of bank assets will play a small part in reaching the target ratio. As the example of bank B in the left-hand panel illustrates, banks can deleverage either by recapitalising (moving upward) or by reducing RWA (moving leftward). The EBAs first assessment shows that banks intend to cover 96% of their original shortfalls by direct capital measures, although the proposed measures also surpass the original capital shortfall by 26%. Planned capital measures thus account for 77% of the overall effort, and comprise new capital and reserves (26%), conversion of hybrids and issuance of convertible bonds (28%), and retained earnings (16%), while the remaining 23% rely on RWA reductions, notably on internal model changes pre-agreed with regulators (9%) and on the shedding of assets (10%), comprising planned RWA cuts of 39 billion in loan portfolios and some 73 billion through asset sales. In this regard, the European bank recapitalisation plan reduced, but did not eliminate, the need for banks with capital shortfalls to shed assets (Graph A, right-hand panel).
The likely scale of asset-shedding cannot be inferred reliably from RWA reductions. However, assuming a 75% average risk weight on loans and that the average risk weight on disposed assets equals that on holdings (43%, from average RWA as a share of total assets, using Bloomberg data), the planned RWA cuts of 112 billion relating to lending cuts and asset sales (= 39 + 73 billion) translate into an estimated 221 billion reduction in total assets. Some of the lending cuts are an inevitable part of restructuring under state aid rules. While these amounts are sizeable, they are an order of magnitude smaller than if banks had sought to reach the target ratio without significant additions to their capital.
Evidence of asset sales and price falls

As deleveraging pressures grew towards the end of 2011, European banks offered for sale a significant volume of assets, notably those with high risk weights or market prices close to holding values (Graph 5, left-hand panel). Offerings with high risk weights included low-rated securitised assets, distressed bonds and commercial property and other risky loans.
Although some such transactions were completed, others did not go through because the offered prices were below banks holding values. Selling at these prices would have generated losses, thus reducing capital and preventing the banks from achieving the intended deleveraging. In contrast, other offerings included aircraft and shipping leases and other assets with steady cash flows and collateral backing, since these often fetched face values and thus avoided losses.
Moreover, as dollar funding remained more expensive than homecurrency funding for many European banks, dollar-denominated assets were in especially strong supply. Despite this, there is little evidence that actual or expected future sales significantly affected asset prices. Graph 5 (centre and right-hand panels) shows time series of price quotes for selected high-spread securitised assets, distressed bonds and leveraged loans. True, the price of US leveraged loans fell and spreads on some securitised assets rose after the EBA capital target announcement, consistent with the deleveraging implications of this news. And the price of distressed Lehman Brothers bonds increased after the reduction in the cost of dollar financing from central banks. But these changes were not unusually large compared with past price movements. Furthermore, some of the other price reactions shown in the graph were in directions opposite to those implied by the deleveraging news. That said, banks also offered for sale some assets that do not have regular price quotes, including parts of their loan portfolios. Market participants reported gaps between the best bid and offered prices for some of these assets, with low bid prices sometimes attributed to prospective supplies of similar assets from other banks.
Conclusion
Pressures on European banks to deleverage increased towards the end of 2011 as funding strains intensified and regulators imposed new capitalisation targets.
Many of these banks shed assets, both through sales and by cutting lending. However, this did not appear to weigh heavily on asset prices, nor did overall financing fall for most types of credit. This was because other banks, asset managers and bond market investors took over the business of European banks. An open question is whether other financial institutions will be able to substitute for European banks as the latter continue to deleverage. The reduction in deleveraging pressures in late 2011 and early 2012, after measures by central banks mitigated bank funding strains, means at least that this process may run more gradually. This should reduce any impact on financial markets and economic activity.
"Prediction is very difficult, especially if it's about the future" Nils Bohr, Nobel laureate in Physics Dear Member, In Basel iii, Solvency ii, and many other laws and regulations, we have to make economic projections. What I really love is the need for
realistic assumptions.
So, we have a crystal ball: The Monetary Policy Report to the Congress where we can find the Summary of Economic Projections
I feel 10 years younger.

No, it is not the spring; it is the paper from the Financial Stability Board (FSB) about the role that external audits play in providing information to prudential supervisors and regulators of financial institutions. In 2002 after the Sarbanes Oxley Act we were discussing pretty much the same issues (and not only for financial institutions)
Monetary Policy Report to the Congress Summary of Economic Projections

In conjunction with the January 2425, 2012, Federal OpenMarket Committee (FOMC) meeting, the members of the Board of Governors and the presidents of the Federal Reserve Banks, all of whom participate in the deliberations of the FOMC, submitted projections for growth of real output, the unemployment rate, and inflation for the years 2012 to 2014 and over the longer run.
The economic projections were based on information available at the time of the meeting and participants individual assumptions about factors likely to affect economic outcomes, including their assessments of appropriate monetary policy. Starting with the January meeting, participants also submitted their assessments of the path for the target federal funds rate that they viewed as appropriate and compatible with their individual economic projections. Longer-run projections represent each participants assessment of the rate to which each variable would be expected to con-verge over time under appropriate monetary policy and in the absence of further shocks. Appropriate monetary policy is defined as the future path of policy that participants deem most likely to foster outcomes for economic activity and inflation that best satisfy their individual interpretation of the Federal Reserves objectives of maximum employment and stable prices. As depicted in figure 1, FOMC participants projected continued economic expansion over the 201214 period, with real gross domestic product (GDP) rising at a modest rate this year and then strengthening further through 2014.
Participants generally anticipated only a small decline in the unemployment rate this year. In 2013 and 2014, the pace of the expansion was projected to exceed participants estimates of the longer-run sustainable rate of increase in real GDP by enough to result in a gradual further decline in the unemployment rate. However, at the end of 2014, participants generally expected that the unemployment rate would still be well above their estimates of the longer-run normal unemployment rate that they currently view as consistent with the FOMCs statutory mandate for promoting maximum employment and price stability. Participants viewed the upward pressures on inflation in 2011 from factors such as supply chain disruptions and rising commodity prices as having waned, and they anticipated that inflation would fall back in 2012. Over the projection period, most participants expected inflation, as measured by the annual change in the price index for personal consumption expenditures (PCE), to be at or below the FOMCs objective of 2 percent that was expressed in the Committees statement of longer-run goals and policy strategy.
Core inflation was projected to run at about the same rate as overall inflation. As indicated in table 1, relative to their previous projections in November 2011, participants made small downward revisions to their expectations for the rate of increase in real GDP in 2012 and 2013, but they did not materially alter their projections for a noticeably stronger pace of expansion by 2014. With the unemployment rate having declined in recent months by more than participants had anticipated in the previous Summary of Economic Projections (SEP), they generally lowered their forecasts for the level of the unemployment rate over the next two years. Participants expectations for both the longer-run rate of increase in real GDP and the longer-run unemployment rate were little changed from November. They did not significantly alter their forecasts for the rate of inflation over the next three years. However, in light of the 2 percent inflation that is the objective included in the statement of longer-run goals and policy strategy adopted at the January meeting, the range and central tendency of their projections of longer-run inflation were all equal to 2 percent. As shown in figure 2, most participants judged that highly accommodative monetary policy was likely to be warranted over coming years to promote a stronger economic expansion in the context of price stability. In particular, with the unemployment rate projected to remain elevated over the projection period and inflation expected to be subdued, six participants anticipated that, under appropriate monetary policy, the first increase in the target federal funds rate would occur after 2014, and five expected policy firming to commence during 2014 (the upper panel).
The remaining six participants judged that raising the federal funds rate sooner would be required to forestall inflationary pressures or avoid distortions in the financial system. As indicated in the lower panel, all of the individual assessments of the appropriate target federal funds rate over the next several years were below the longer-run level of the federal funds rate, and 11 participants placed the target federal funds rate at 1 percent or lower at the end of 2014. Most participants indicated that they expected that the normalization of the Federal Reserves balance sheet should occur in a way consistent with the principles agreed on at the June 2011 meeting of the FOMC, with the timing of adjustments dependent on the expected date of the first policy tightening. A few participants judged that, given their current assessments of the economic outlook, appropriate policy would include additional asset purchases in 2012, and one assumed an early ending of the maturity extension program. A sizable majority of participants continued to judge the level of uncertainty associated with their projections for real activity and the unemployment rate as unusually high relative to historical norms. Many also attached a greater-than-normal level of uncertainty to their forecasts for inflation, but, compared with the November SEP, two additional participants viewed uncertainty as broadly similar to longer-run norms. As in November, many participants saw downside risks attending their forecasts of real GDP growth and upside risks to their forecasts of the unemployment rate; most participants viewed the risks to their inflation projections as broadly balanced.
The Outlook for Economic Activity

The central tendency of participants forecasts for the change in real GDP in 2012 was 2.2 to 2.7 percent. This forecast for 2012, while slightly lower than the projection prepared in November, would represent a pickup in output growth from 2011 to a rate close to its longer-run trend. Participants stated that the economic information received since November showed continued gradual improvement in the pace of economic activity during the second half of 2011, as the influence of the temporary factors that damped activity in the first half of the year subsided. Consumer spending increased at a moderate rate, exports expanded solidly, and business investment rose further. Recently, consumers and businesses appeared to become somewhat more optimistic about the outlook. Financial conditions for domestic nonfinancial businesses were generally favorable, and conditions in consumer credit markets showed signs of improvement. However, a number of factors suggested that the pace of the expansion would continue to be restrained. Although some indicators of activity in the housing sector improved slightly at the end of 2011, new homebuilding and sales remained at depressed levels, house prices were still falling, and mortgage credit remained tight. Households real disposable income rose only modestly through late 2011.
In addition, federal spending contracted toward year-end, and the restraining effects of fiscal consolidation appeared likely to be greater this year than anticipated at the time of the November projections. Participants also read the information on economic activity abroad, particularly in Europe, as pointing to weaker demand for U.S. exports in coming quarters than had seemed likely when they prepared their forecasts in November. Participants anticipated that the pace of the economic expansion would strengthen over the 201314 period, reaching rates of increase in real GDP above their estimates of the longer-run rates of output growth. The central tendencies of participants forecasts for the change in real GDP were 2.8 to 3.2 percent in 2013 and 3.3 to 4.0 percent in 2014. Among the considerations supporting their forecasts, participants cited their expectation that the expansion would be supported by monetary policy accommodation, ongoing improvements in credit conditions, rising household and business confidence, and strengthening household balance sheets. Many participants judged that U.S. fiscal policy would still be a drag on economic activity in 2013, but many anticipated that progress would be made in resolving the fiscal situation in Europe and that the foreign economic outlook would be more positive. Over time and in the absence of shocks, participants expected that the rate of increase of real GDP would converge to their estimates of its longer-run rate, with a central tendency of 2.3 to 2.6 percent, little changed from their estimates in November. The unemployment rate improved more in late 2011 than most participants had anticipated when they prepared their November projections, falling from 9.1 to 8.7 percent between the third and fourth quarters.
As a result, most participants adjusted down their projections for the unemployment rate this year. Nonetheless, with real GDP expected to increase at a modest rate in 2012, the unemployment rate was projected to decline only a little this year, with the central tendency of participants forecasts at 8.2 to 8.5 percent at year-end. Thereafter, participants expected that the pickup in the pace of the expansion in 2013 and 2014 would be accompanied by a further gradual improvement in labor market conditions. The central tendency of participants forecasts for the unemployment rate at the end of 2013 was 7.4 to 8.1 percent, and it was 6.7 to 7.6 percent at the end of 2014. The central tendency of participants estimates of the longer-run normal rate of unemployment that would prevail in the absence of further shocks was 5.2 to 6.0 percent. Most participants indicated that they anticipated that five or six years would be required to close the gap between the current unemployment rate and their estimates of the longer-run rate, although some noted that more time would likely be needed. Figures 3.A and 3.B provide details on the diversity of participants views regarding the likely outcomes for real GDP growth and the unemployment rate over the next three years and over the longer run. The dispersion in these projections reflected differences in participants assessments of many factors, including appropriate monetary policy and its effects on economic activity, the underlying momentum in economic activity, the effects of the European situation, the prospective path for U.S. fiscal policy, the likely evolution of credit and financial market conditions, and the extent of structural dislocations in the labor market.
Compared with their November projections, the range of participants forecasts for the change in real GDP in 2012 narrowed somewhat and shifted slightly lower, as some participants reassessed the outlook for global economic growth and for U.S. fiscal policy. Many, however, made no material change to their forecasts for growth of real GDP this year. The dispersion of participants forecasts for output growth in 2013 and 2014 remained relatively wide. Having incorporated the data showing a lower rate of unemployment at the end of 2011 than previously expected, the distribution of participants projections for the end of 2012 shifted noticeably down relative to the November forecasts. The ranges for the unemployment rate in 2013 and 2014 showed less pronounced shifts toward lower rates and, as was the case with the ranges for output growth, remained wide. Participants made only modest adjustments to their projections of the rates of output growth and unemployment over the longer run, and, on net, the dispersions of their projections for both were little changed from those reported in November. The dispersion of estimates for the longer-run rate of output growth is narrow, with only one participants estimate outside of a range of 2.2 to 2.7 percent. By comparison, participants views about the level to which the unemployment rate would converge in the long run are more diverse, reflecting, among other things, different views on the outlook for labor supply and on the extent of structural impediments in the labor market.
Enhancing the contribution of external audit to financial stability

At its Plenary meeting on 10 January, the FSB Plenary underscored the importance of work to improve the role that external audits play in providing information to prudential supervisors and regulators of financial institutions, and to reinforce the effectiveness of the regulation of external audits, particularly those of financial institutions. The recent global financial crisis has demonstrated the importance of addressing these issues. Work to improve audit practices and standards is ongoing, with some regulators and auditing standard setters having issued finalised guidance on certain audit issues, and proposals in some other jurisdictions are subject to public consultation. In view of the global nature of markets, financial institutions and audit firms, greater international consistency in external audit practices and requirements will be important while continuing to promote their high quality. In particular, the FSB encourages further work in the following areas:
1. Improving the information that external audits provide to prudential supervisors and regulators of financial institutions, including systemically important financial institutions (SIFIs).
As part of this effort, the FSB will provide input to the Basel Committees ongoing revision of its external audit policy papers and as it develops new robust external audit guidance, to be proposed by end-2012, and to the International Association of Insurance Supervisors as it updates and enhances its policies with respect to external audits of insurance companies.
2. Reinforcing the effectiveness of audit regulation, particularly for external audits of financial institutions, to improve audit quality.
The FSB is requesting the International Forum of Independent Audit Regulators (IFIAR) to report on (i) Challenges and problems that its members have identified in their inspection programmes relating to external audits of financial institutions, including audits of SIFIs; (ii) Responses by IFIAR members to those issues, including follow-up with external audit firms; and (iii) Member recommendations concerning steps that could be taken by audit regulators and auditors to further strengthen external audits of financial institutions. The FSB also recognises the importance of other work underway to improve audit practices and standards and: - Encourages the continued efforts of the International Audit and Assurance Standards Board (IAASB), internationally, and other audit standard setters in their national contexts to improve the standards on information that external audits provide to investors and other financial report users. The approaches set forth in various consultative documents differ across jurisdictions, and it will be important to seek high quality standards that enhance audit practices, and to the extent possible, improved international consistency. IOSCO has agreed to monitor
developments in this area and provide updates to the FSB on progress. - Asks IOSCO to report to the FSB on authorities experiences with the considerations in IOSCOs 2008 report on audit contingency planning. - Asks FSB members and other key bodies such as the IAASB, to provide input to the World Banks review of how to enhance its Accounting and Auditing Reports on Standards and Codes (ROSCs). Promoting high quality international accounting and auditing standards and practices is an important aspect of the FSBs activities. The FSB will continue to support dialogue between audit standards setters and regulators, investors, market regulators, prudential authorities, financial institutions and audit firms on improving the quality of external audit and its contribution to financial stability.
Note
The FSB has been established to coordinate at the international level the work of national financial authorities and international standard setting bodies and to develop and promote the implementation of effective regulatory, supervisory and other financial sector policies in the interest of financial stability. It brings together national authorities responsible for financial stability in 24 countries and jurisdictions, international financial institutions, sector-specific international groupings of regulators and supervisors, and committees of central bank experts. The FSB is chaired by Mark Carney, Governor of the Bank of Canada. Its Secretariat is located in Basel, Switzerland, and hosted by the Bank for International Settlements.
What has Europe learnt from the crisis?

Speech by Jos Manuel Gonzlez-Pramo, Member of the Executive Board of the ECB, OMFIF Conference - On the cusp: The world economy at a turning point. Strengthening stability at a time of challenge and change. Frankfurt am Main, 15 March 2012
The euro areas missing institutions

From its conception the euro was and has been a unique and ambitious project. It combined a centralised monetary policy with decentralised economic policies, and to paraphrase Tommaso Padoa-Schioppa, created a currency that did not belong to a single nation-state. A key finding for the euro area, arising from the crisis, is that this construction was not complete. In particular, the euro area did not have certain institutions we associate with political federations and that act as shock-absorbers against the negative effects of imbalances. The key lesson from the crisis, therefore, is that the euro area needs to compensate for these missing institutions by establishing a much stronger economic and financial union. A central area where the absence of shock-absorbing institutions has been felt is via intra-euro area current account imbalances. These imbalances existed for many years prior to the crisis, but were largely ignored as theory told us that they could always be financed through cross-border financial flows. However, it is now clear that current account imbalances while not being the only proximate causes of the crisis are not benign and imply vulnerabilities which can be transmitted to the euro area as a whole.
On the financial side of the current account, persistent intra-area imbalances imply that some public or private sectors are living beyond their means, year after year. If, as was the case in some euro area countries, these imbalances are also linked to the large build-up of external liabilities by an over-leveraged domestic banking system that engages in excessive risk taking, this may also create the conditions for the kind of twin sovereign-bank crises which we have witnessed over the recent period. Private liabilities can quickly become sovereign ones when governments are required to recapitalise banks or guarantee bank funding, leading to sovereign debt crises. At the same time, sovereign liabilities can undermine domestic banking sectors given the high exposure of euro area banks to their own governments debt and the link made by markets of the cost of funding of banks with that of their respective sovereign. Such negative effects may potentially be better mitigated in political federations given their stronger shock-absorbing institutions. For example, if a particular state in the U.S. were to experience a build-up in private sector liabilities that threatened its local banks, the responsibility for recapitalisation and deposit insurance would fall on the federal government through institutions like the U.S. Treasury and the Federal Deposit Insurance Corporation. This means that a U.S. state cannot be brought into financial difficulties by a mismatch between the size of its banking sector and that of its local economy, whereas a euro area country can as we saw in Ireland. On the real side of the current account, persistent trade imbalances within the euro area also reflect accumulated competitiveness losses in deficit countries. The problem may be masked while growth is driven by credit and consumption, as was the case in some euro area countries before 2008.
But when there is a reversal in financial flows and foreigners are no longer willing to finance the further accumulation of external debt, accrued competitiveness losses come to the fore. This can result in particular regions suffering sustained low growth and unemployment. Again, these negative effects may be more manageable with the shock-absorbing institutions of a political federation. A homogenous language and culture may facilitate labour mobility, providing one channel for adjustment although recent evidence suggests this effect is not as significant in the U.S. as previously thought. At the same time, having a large federal budget creates a natural stabiliser as federal spending on big ticket items like social security, healthcare and defence redistributes incomes between rich and struggling regions.
Constructing a sui generis response

It is clear that the way ahead for the euro area cannot involve trying to construct the institutions of a political federation overnight. This implies that the euro area needs a different approach to ensure the smooth functioning of monetary union that can compensate for some of these missing institutions. This approach has two main pillars. The first pillar is to strengthen fundamentally the governance procedures which prevent imbalances from arising. With fewer shock-absorbing institutions to mitigate crises when they arise, the euro area has learned that it must become more effective at preventing imbalances. This process has involved tightening the rules for fiscal policies and creating a much needed framework to monitor broader macroeconomic imbalances and competitiveness.
On the fiscal side, the reform of the Stability and Growth Pact and the new Fiscal Compact are specifically designed to catch imbalances earlier. A key focus of the SGP reform was to strengthen the so-called preventive arm for example, sanctions are now possible for non-compliance with medium-term budgetary objectives. The Fiscal Compact supports this focus on prevention by creating a new first line of defence: balanced budget rules with a constitutional status. Importantly, this shifts the onus for enforcement away from Brussels and onto national institutions, encouraging greater ownership. Indeed, if applied properly, this Fiscal Compact would correct imbalances before the EU level rules ever need to be activated. On the broader macroeconomic side, the new Macroeconomic Imbalances Procedure allows for early monitoring of amongst other things competitiveness trends, private sector credit flows and house prices. If excessive imbalances show up in these areas, sanctions can be applied to euro area countries that do not follow recommendations to correct them. Under this framework, the kinds of credit booms and competitiveness losses we witnessed in the first years of the euro would be flashing red much earlier. I am aware that some criticise this process as asymmetric. While it is clear that the vulnerabilities created by large current account deficits are greater than those of surpluses and therefore require more urgent remedies the structural drivers of current account imbalances in surplus countries are also partly being addressed, even if not to the same extent as those in deficit countries. In parallel to the Macroeconomic Imbalances Procedure, for example, the Commission intends to undertake further analysis on the drivers and possible policy implications of large sustained current account surpluses,
including trade and financial linkages between surplus and deficit countries. It will also examine ways for further rebalancing current account imbalances, particularly at the level of the euro area, and within the global context. A key theme of the crisis response has also been a renewed focus on structural reforms as embedded in the Euro Plus Pact and Europe 2020 Strategy, which apply to all participating Member States equally. It would be nave, however, to believe that with better governance crises could always be prevented. The second pillar to compensate for the euro areas missing institutions, therefore, is to strengthen the way in which the euro area as a whole manages crises. Having witnessed how imbalances in one euro area country no matter how small - can become systemic and create financial obligations for other taxpayers, the EU institutions, national governments and national parliaments are now playing a much stronger role in demanding and monitoring economic reforms. This shift is visible in much more active role of the euro area Heads of State or Government in the economic management of the euro area now institutionalised in the form of the Euro Summit. It is also visible in the greater scrutiny applied by national parliaments to the economic policies of other Member States: for example, to approve financial assistance programmes a number of national parliaments now require EU-IMF compliance reports and debt sustainability analyses. This changing role of national parliaments underscores the recent observation by Herman Van Rompuy that national parliaments are increasingly EU institutions. The Commission is also gaining a much stronger crisis management through the new two pack legislation.
The current proposals would allow the Commission to put any Member State under enhanced surveillance if it is experiencing or threatened with financial difficulties regardless of whether it has requested financial assistance. This would imply stress tests of the banking sector by the EBA, monitoring of macro imbalances and regular review missions by the Commission in liaison with the ECB. Moreover, the Commission would be able to send back budgets that did not comply with the SGP before they had been adopted by national authorities. In other words, the euro area is responding to the crisis by creating a new and more comprehensive model of economic governance. This is aimed at preventing imbalances in all policy areas before they can trigger crises and managing crises more effectively when they do arise. In many ways, this response is sui generis and departs from the template we associate with political federations. For example, the two pack gives the Commission the power to demand the kind of reforms that the U.S. federal government could not demand of a U.S. state. Moreover, the federal government would not be able to sanction a state if, for example, its tax code was leading to a local housing bubble. This is now not excluded in the euro area under the Macroeconomic Imbalances Procedure. This new model is under development and still needs to be perfected in particular in the financial sector, more work still needs to be done. That said, problems of regulatory arbitrage created by national level banking supervision are being addressed through an increasing harmonisation of supervisory standards and the establishment of a European System of Financial Supervisors with new European Supervisory Authorities.
Europe is also exceeding international benchmarks in transposing the new Basel III rules. We may be seeing the beginning of a euro area framework for banking sector recapitalisation and resolution with the decision to allow the ESM to recapitalise banks in non-programme countries. Indeed, a modest first step that will be followed by others in the future.
Conclusion
To conclude, the euro area has learned that the original design of EMU was incomplete, and is now working hard to complete it. For various reasons, the euro area is not in a position to adopt in the near term the institutions of a political federation. This means that it has to take a different road to increase overall stability and in true European tradition a sui generis approach is being developed that focuses on preventing imbalances and improving collective management of crisis. It is clear that this approach implies a loss of sovereignty. The crisis has proved that the euro area is a political entity which is not self-adjusting; it needs to be actively governed, and this cannot happen without Member States sharing more powers with each other. In other words, there has been a belated recognition that monetary union entails political union. This shift has profound implications for the involvement of all levels of governments in the European project: EU institutions, national governments, national parliaments, and even local governments are all required to participate in the common governance of the euro area. Managing this process represents the next great challenge of European integration.
Dear member, The paper starts with the phrase: Weaknesses in the plumbing of the financial system that came to light during the financial crisis of 2007-2009 The paper has the title: Replumbing Our Financial System: Uneven Progress (Preliminary, Darrell Duffie, Stanford University, March 17, 2012). This paper is for a conference of the Board of Governors of the Federal Reserve System, Central Banking: Before, During and After the Crisis March 23-24, 2012, Washington D.C.
Replumbing Our Financial System: Uneven Progress
(Preliminary, Darrell Duffie, Stanford University, March 17, 2012). This paper is for a conference of the Board of Governors of the Federal Reserve System, Central Banking: Before, During and After the Crisis March 23-24, 2012, Washington D.C.
Abstract
The financial crisis of 2007-2009 has spurred significant ongoing changes in the pipes and valves through which cash and risk flow through the center of our financial system.
These include adjustments to the forms of lender-of-last-resort financing from the central bank and changes the infrastructure for the wholesale overnight financing of major dealer banks. Significant changes in the regulation of money market funds are under consideration. The Dodd-Frank Act mandates the central clearing of standardized over-the-counter derivatives, although a pending exemption of foreign-exchange derivatives remains to be decided. The vulnerability of major dealers to runs by prime brokerage clients is also an issue to be addressed. I focus on U.S. financial plumbing and on areas where financial stability remains a concern.
Introduction
Weaknesses in the plumbing of the financial system that came to light during the financial crisis of 2007-2009 have prompted reforms that are ongoing. On the path toward greater financial stability, progress has been uneven. My objective here is to focus on some weaknesses that remain. Plumbing is a common metaphor for institutional elements of the financial system that are fixed in the short run and enable flows of credit, capital, and financial risk. This institutional structure includes some big valves and pipes that connect central banks, dealer banks, money market funds, major institutional investors, repo clearing banks, over-the-counter (OTC) derivatives central clearing parties, and exchanges.
The connectors include lending facilities offered by central banks to each other and to dealer banks, tri-party repo and clearing agreements, OTC derivatives master swap agreements, prime-brokerage agreements, and settlement systems arranged through FedWire, CLS Bank, DTC, and other major custodians and settlement systems. The institutional framework depends on regulations. Largely because of changes in financial regulation, we are heading toward a safer financial system. Of primary importance in this progress are improvements in capital and liquidity requirements for regulated banks, although these are not my main focus here. Improvements in the plumbing of the financial system, however, have in some areas been partial or halting. Just as the wider economy depends on an effective financial system for transferring credit, capital, and risk among ultimate economic actors, the internal effectiveness of the financial system depends on the proper functioning of financial infrastructure. At the onset of a financial crisis, institutional arrangements that are fixed in the short run determine the scope for discretionary action, of both harmful and risk-reducing types. Some of these arrangements, such as central-bank emergency liquidity facilities, are only activated during a crisis. Plumbing elements should not only be resilient to stresses such as the defaults of interacting entities, they should also be placed and designed so as to permit the sorts of transfers that may be needed in a crisis. Typical approaches to financial risk management that balance failure risk against away-from-failure operating efficiency should, in my view, be fully re-calibrated for applications to certain key financial market infrastructure.
Although regulators are working toward a world that can more easily tolerate the failure of large financial institutions, I doubt that we should view some of the key financial infrastructure in the same way. Obviously there should be effective failure-management plans for repo clearing facilities and OTC derivatives central clearing parties (CCPs), but the public interest suggests that these kinds of utilities should be designed, regulated, and managed with the objective that it is extremely difficult for them to fail catastrophically. The expected spillover costs of the failure of large financial utilities such as these are significant relative to the costs of safer designs. Moreover, the threat of their potential failure can lead financial market participants to react defensively in ways that destabilize markets. Considering as well the narrow scope for moral hazard associated with dedicated financial market utilities, my view is that we can afford to design and regulate some of these utilities as though they are too important to fail. If that is the case, the operations and capital structure of these utilities should not be entangled with those of larger and more complex financial institutions, especially if there is an intention to let those financial institutions fail whenever they cannot meet their obligations. In the course of this overview, I will focus on the following policy issues: 1. The emergency plumbing available to the Fed has changed. We are now in an environment in which the importance of emergency access to a secured lender of last resort is widely recognized, but is available for a systemically important non-bank financial institution under a limited and potentially shrinking set of circumstances. Events could some day arise in which it would be difficult for the central bank to provide effective emergency liquidity.
2. Given the systemic importance of tri-party clearing agents, and given their high fixed costs and additional economies of scale, tri-party repo clearing services for U.S. dealers and cash investors should probably operate through a dedicated regulated utility. Although this would likely increase operating costs for market participants, it would enable investment in more advanced clearing technology and financial expertise, allowing greater resilience of the tri-party repo market in the face of financial shocks such as the default of a major dealer. The moral hazard associated with lending of last resort to a dedicated utility is much reduced relative to the case of a financial institution with a wide scope of risk-taking activities. 3. Large institutional investors in money market funds are prone to run in the face of losses. Systemically important borrowers such as dealer banks remain dependent on short-term financing from money market funds, particularly through tri-party repos. The Securities and Exchange Commission (SEC) is considering new regulatory requirements for money market funds, such as capital buffers and redemption gates, with the goal of lowering the risk of runs by money market fund investors. Further reform of money market funds is indeed necessary for financial stability. The unintended consequences of the reform of money market funds, however, may include a shift to other forms of run-prone wholesale short-term lending to critical borrowers. Close principles-based supervision of systemically important short-term wholesale financing will also be needed. 4. Central clearing parties for OTC derivatives are proliferating.
This risks a significant and unnecessary rise in counterparty exposures as well as the dilution of regulatory oversight across many CCPs. Competition among CCPs could involve reduced membership requirements for collateral. Fewer CCPs, each closely supervised, should be a goal. To this end, arrangements should be made for the cross-jurisdictional regulatory supervision of CCPs wherever possible, with clear assignment of regulatory responsibilities and lines of access to central-bank liquidity support. Regulatory minimum margin standards should be strong and harmonized. Effective plans for dealing with the failure of a CCP are yet to be established, to my knowledge. 5. If it is agreed that the central clearing of standardized OTC derivatives is an important source of financial stability, there is every reason to include foreign exchange (FX) derivatives in the requirement for central clearing, or some effective substitute. It is currently proposed that FX derivatives should be exempted from clearing and all other major new regulations of the swap market, which include collateral standards for uncleared positions, trade execution in swap execution facilities, trade recording in swap data repositories, and post-trade transaction reporting. Regulators abroad are likely to follow the lead of the United States in this area. 6. Prime brokerage was revealed to be an important weak link in the financial system immediately after the failure of Lehman Brothers in 2008.
Rule 15-c-3 of the U.S. Securities Exchange Act of 1934 had appeared to safely limit the dependence of a U.S. dealer for liquidity on its prime-brokerage business. It did not. The United Kingdom had almost no regulatory standards on this dimension. Morgan Stanley suffered a loss of liquidity due to a sudden run by its prime brokerage hedge-fund clients in both the United States and the United Kingdom after the failure of Lehman Brothers. An in-depth forensic analysis of the mechanics of this run is warranted. The lessons learned should be published and used to revise Rule 15-c-3 and to improve the regulatory treatment of prime brokerage in London and emerging global financial centers.
2 Changes in Central Bank Plumbing

Before the financial crisis of 2007-2009, central bank liquidity was provided to financial markets mainly through normal monetary
operations conducted through primary dealers, and through limited forms of lender-of-last-resort financing. The latter included secured lending through the discount window to regulated banks as well as the potential emergency secured lending to essentially any market participant under Section 13(3) of the Federal Reserve Act. The Dodd-Frank Act now restricts 13(3) emergency financing to a program or facility with broad-based eligibility. Thus, individual non-bank firms can no longer obtain emergency financing directly from the central bank. Because of the extreme stresses of the financial crisis, the Federal Reserve set up a range of broad lender-of-last-resort programs and facilities, such as the Primary Dealer Credit Facility (PDCF), the Term Auction Facility (TAF), the Money Market Investor Funding Facility (MMIFF), the Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility, the Commercial Paper Funding Facility (CPFF), and the Term Asset-Backed Securities Loan Facility (TALF). These programs would presumably have met the statutory criterion, had it applied at the time, of broad-based eligibility. They played a crucial role in mitigating the severity of the financial crisis of 2007-2009. Versions of these facilities could be resurrected in a future crisis. In addition, as illustrated in Figure 1, in 2007 the Fed set up currency swap lines that provided dollar liquidity to foreign central banks. These currency swap lines enable a foreign central bank to provide lender-of-last-resort financing in dollars to banks within in its own jurisdiction, and in principle allowed the Fed to give U.S. banks access to foreign currencies.
Because of the reserve-currency" status of the U.S. dollar, global financial stability depends on global access to emergency secured loans of last resort in dollars. With the innovation of these currency central-bank swap lines, the U.S. central bank has improved financial stability while allowing foreign central banks to monitor and absorb the credit risk of the banks to which the dollars ultimately flow. That these currency swap lines have been a useful addition to the plumbing of the financial system was demonstrated during the 2007-2009 crisis and more recently during the Eurozone debt crisis. Title VIII of the Dodd-Frank Act allows the central bank to provide liquidity support to financial market utilities such as central clearing parties. The ability to take advantage of this emergency secured lending to stabilize a financial market utility (FMU) depends in part on the default management plan of the FMU. Because of the nature of its balance sheet, a CCP may have a limited sets of assets to post as collateral to the central bank by the time of its near failure or failure. As opposed to the case of a large bank, there would be no large class of unsecured creditors to absorb losses. The counterparties of a CCP are typically systemically important themselves. Because of these concerns, Duffe and Skeel (2012) point to the potential importance of a short stay on the OTC derivatives of a CCP at its bankruptcy, or at its resolution under Title II of the Dodd-Frank Act. The ability of the Federal Reserve to provide indirect liquidity to affliates of regulated banks, such as broker-dealers, is limited by section 23A of the Federal Reserve Act, which restricts transactions between a bank and its affliates.
Argues that during the financial crisis of 2007-2009 section 23A included suffcient exemptive power for the Fed to provide substantial emergency liquidity. The Dodd-Frank Act, however, has placed signiffcant additional restrictions on 23A transactions. Section 23A and section 23B still provide some scope for exemptive liquidity provision, subject however to a finding by the Federal Deposit Insurance Corporation that the exemption does not place the Deposit Insurance Fund at risk, among other requirements. In summary, if a systemically important non-bank market participant is threatened by a liquidity crisis, lender-of-last-resort secured financing from the Fed can now be obtained only under broad programs or indirectly via the new version of section 23A, which is generally more restrictive. Even assuming that a broad program could be arranged quickly enough in an emergency situation, the design of such a program places a central bank under some stress. Depending on the breath of eligibility of such a program, the central bank could be accused of exceeding its mandate. If the program is aimed broadly but few borrowers ultimately participate, the same concerns could be raised, whether or not they are legitimate. Some of the targeted market participants might hold back in the face of concerns over stigma regarding their need for funding or over the potential for expectations by the public or some public officials of quid-pro-quo behavior by the borrower. Among other implications, the new and more limited scope for lender-of-last-resort financing to non-banks merits attention given the potential for new regulations such as the Volcker Rule to incite the
emergence of large broker-dealers that are not affliates of bank holding companies. If that were to occur, significant quantities of collateral would be placed further from access to lender-of-last resort financing. These assets may include, for example, over-the-counter derivatives and foreign assets held on the balance sheets of U.S. banks and bank subsidiaries. Section 23A provides an exception for derivatives. Of the five major U.S. bank holding companies operating OTC derivatives dealers, J.P. Morgan, Bank of America, Goldman Sachs, Citigroup, and Morgan Stanley, all but Morgan Stanley keep most of their OTC derivatives on the balance sheets of the respective regulated banks. The Edge Act allows classes of foreign assets to be held by subsidiaries U.S. banks, where 23A restrictions are less onerous. For a broker-dealer unaffliated with a bank, access to a lender of last resort through transactions allowed under Section 23A (and its exemptions) is irrelevant, and only broad programmatic emergency lending would be available. This issue also elevates the importance of strong capital and liquidity standards for non-bank financial firms, which do not fall under the scope of the Basel III process.
To read the paper (you must read the paper is what I mean): http://www.federalreserve.gov/newsevents/conferences/Duffie.pdf
SEC Establishes New Supervisory Cooperation Arrangements with Foreign Counterparts

Washington, D.C., March 23, 2012 The Securities and Exchange Commission today announced that it has established comprehensive arrangements with the Cayman Islands Monetary Authority (CIMA) and the European Securities and Markets Authority (ESMA) as part of long-term strategy to improve the oversight of regulated entities that operate across national borders. The two memoranda of understanding (MOUs) reached this month follow on a similar supervisory arrangement that the SEC concluded with the Quebec Autorit des marchs financiers and the Ontario Securities Commission in 2010 and expanded to include the Alberta Securities Commission and the British Columbia Securities Commission last September. The SECs latest supervisory cooperation arrangements will enhance SEC staff ability to share information about such regulated entities as investment advisers, investment fund managers, broker-dealers, and credit rating agencies. The Cayman Islands is a major offshore financial center and home to large numbers of hedge funds, investment advisers and investment managers that frequently access the U.S. market. ESMA is a pan-European Union agency that regulates credit rating agencies and fosters regulatory convergence among European Union securities regulators. Supervisory cooperation arrangements help the SEC build closer relationships with its counterparts to cooperate and consult on each others oversight activities in ways that may help prevent fraud in the long term or lessen the chances of future financial crises, said Ethiopis Tafara, Director of the SECs Office of International Affairs. The SECs approach to supervisory cooperation with its overseas counterparts follows on more than two decades of experience with cross-border cooperation, starting in the late 1980s with MOUs
facilitating the sharing of information between the SEC and other securities regulators in securities enforcement matters. The SECs enforcement cooperation arrangements which now encompass partnerships with approximately 80 separate jurisdictions via bilateral MOUs and a Multilateral MOU under the auspices of the International Organization of Securities Commissions (IOSCO) detail procedures and mechanisms by which the SEC and its counterparts can collect and share investigatory information where there are suspicions of a violation of either jurisdictions securities laws, and after a potential problem has arisen. In contrast, the SECs supervisory cooperation arrangements generally establish mechanisms for continuous and ongoing consultation, cooperation and the exchange of supervisory information related to the oversight of globally active firms and markets. Such information may include routine supervisory information as well as the types of information regulators need to monitor risk concentrations, identify emerging systemic risks, and better understand a globally-active regulated entitys compliance culture. These MOUs also facilitate the ability of the SEC and its counterparts to conduct on-site examinations of registered entities located abroad. Although they are designed to achieve different things, enforcement and supervisory cooperation arrangements are complimentary tools. Supervisory cooperation involves ongoing sharing of information regarding day-to-day oversight of regulated entities. Enforcement cooperation MOUs, by contrast, help the Commission collect information abroad that is necessary to help ensure that the SECs enforcement program deters violations of the federal securities laws, while also helping to compensate victims of securities fraud when possible. The SEC entered into its first supervisory cooperation MOU in March 2006 with the United Kingdoms Financial Services Authority.
Following the recent financial crisis, the Commission has expanded its emphasis on this form of continuous supervisory cooperation in an effort to better identify emerging risks to U.S. capital markets and the international financial system. As part of this effort, SEC commissioners and staff co-chaired an international task force in 2010 to develop principles for cross-border supervisory cooperation. These principles have since proven to be a useful guideline for structuring MOUs around the type of information to be shared, the mechanisms which regulators can use to share information, and the degree of confidentiality this information should be accorded.
MEMORANDUM OF UNDERSTANDING CONCERNING CONSULTATION, COOPERATION AND THE EXCHANGE OF INFORMATION RELATED TO THE SUPERVISION OF CROSS-BORDER REGULATED ENTITIES
In view of the growing globalization of the world's financial markets and the increase in cross border operations and activities ofregulated entities, the United States Securities and Exchange Commission ("SEC") and the European Securities and Markets Authority ("ESMA") have reached this Memorandum of Understanding ("MOU") regarding mutual assistance in the supervision and oversight of certain regulated entities that operate on a cross-border basis in the jurisdictions of both the SEC and ESMA. The SEC and ESMA express, through this MOU, their willingness to cooperate with each other in the interest of fulfilling their respective regulatory mandates, particularly in the areas of: investor protection; fostering market and financial integrity; maintaining confidence in capital markets and reducing systemic risk. In light ofthe evolving regulatory landscape and the potential for future changes to the Authorities' regulatory mandates and/or legal authority, this MOU envisages the use of Annexes regarding particular Regulated Entities and Cross-Border Regulated Entities. Consequently, without limiting the Authorities' abilities to cooperate or share information outside the terms of the MOU, this MOU itself encompasses consultation, cooperation and the exchange of information relating only to those Regulated Entities or Cross-Border Regulated Entities (as appropriate) described in the relevant Annex(es).
INTERESTING PARTS
Unsolicited Assistance and Advance Notification.
Each Authority will use its best efforts to provide, without prior request, the other Authority with any information that it considers is likely to be of assistance to the other Authority. In particular, each Authority will inform the other Authority in advance of, where practicable, or as soon as possible thereafter of: a) Pending regulatory changes that may have a significant impact on the operations or activities of a Cross-Border CRA; b) Any material event that could adversely impact a Cross-Border CRA. Such events include known changes in the operating environment, operations, financial resources, management, or systems and control of a Cross-Border CRA; c) Enforcement or regulatory actions or sanctions, including the revocation, suspension or modification of relevant licenses, authorizations or registration, concerning or related to a Cross-Border CRA; d) The imposition of a temporary or permanent suspension or prohibition of the use of a Cross-Border CRA's ratings for regulatory purposes; and e) Any initiation of actions, sanctions, suspensions or prohibitions related to subparagraphs c and d, above.
Exchange of Information.
To supplement informal consultations, each Authority intends to provide the other Authority, upon written request, with assistance in obtaining information not otherwise available to the Requesting Authority, and interpreting such information so as to enable the Requesting Authority to assess compliance with its laws and regulations. The information covered by this paragraph includes, without limitation:
a) Where appropriate, information relevant to the financial and operational condition of a Cross-Border CRA, including, for example, internal controls procedures; b) Where appropriate, relevant regulatory information and filings that a Cross Border CRA is required to submit to an Authority including, for example, interim and annual financial statements
Statement on Public Meeting On Auditor Independence and Audit Firm Rotation DATE: March 21, 2012 SPEAKER: Lewis H. Ferguson, Board Member EVENT: PCAOB Public Meeting LOCATION: Washington, DC
I look forward to hearing the views of the many distinguished individuals who have agreed to appear at this roundtable. When the PCAOB issued its concept release on auditor independence raising the possibility of mandatory audit firm rotation as a means of increasing the auditor's independence, we were aware that it would be controversial and it certainly was.
The Board has received hundreds of comment letters on this issue from many different commentators expressing a variety of views. This Board member at least approaches the issue of auditor independence and its relation to the question of audit firm rotation as a curious skeptic. Simple human experience tells us that any arrangement in which one party pays for the services of another is likely to lead to a certain commonality of interest between the parties. That commonality of interest raises the question whether the party being paid can ever truly be independent of the payer as our accounting and auditing standards and securities laws require. To use a humble analogy, most creatures do not bite the hand that feeds them. In the case of the auditing profession, a panoply of independence rules and professional standards are designed to counteract the potential for conflict that seems inherent in the current auditor payment model and judicial decisions have at times imposed heavy penalties on auditors who fail to meet those standards. Indeed, the Board itself has been the source of some of those rules. One of the questions for consideration here is whether these constraints have achieved their purpose or, indeed, whether they can achieve their purposes in light of the existing structure of auditor compensation. Despite the numerous rules, regulations and judicial decisions intended to promote auditor independence, the Board's inspection program, now having included the detailed examination of several thousand independent audits, continues to reveal a troubling number of audit deficiencies in many areas but many of which appear to be attributable to a lack of appropriate skepticism on the part of the auditor.
This apparent absence of skepticism may be attributable to many factors, but the question before us today is whether one of those factors is the existing auditor compensation structure coupled with an absence of auditor term limits. Put simply, does the existing auditor compensation model coupled with no auditor term limits exert a subtle restraint on the auditor's willingness to challenge management judgments for fear of losing a long standing client and a predictable stream of revenue? Even if that were the case, what would the costs of a mandatory audit firm rotation regime be? What would it cost for a new auditor to learn a complex business? What would the costs be in terms of the time of the client's management that would be diverted from the core business? What human capital costs would be involved, particularly where large audit clients are located in places where the only significant audit firm office is the client's long standing auditor? Would audit deficiencies in fact increase in the early years of a new auditor's tenure as it learned the client's business? Would any increase in independence outweigh whatever these costs were? These are questions on which we seek your views. Another area of inquiry that deserves focus is whether auditor independence and its correlative, auditor skepticism, is even related to the structure of auditor compensation or auditor tenure. In other words, are we barking up the wrong tree? But if so, what are your suggestions for improving what the Board's inspection program reveals to be serious deficiencies in auditor
skepticism that seem to underlie many audit failures. I hope that participants in this roundtable will also discuss whether audit committees are able effectively to monitor auditor independence and to counteract whatever force the existing auditor compensation and tenure models exert in undermining independence. Do participants believe that audit committees (to the extent one can generalize this way) even perceive a problem? If so, do they possess the technical skills or have access to the technical skills to ask the right questions? Any rule that would overthrow longstanding and well accepted practices that are not obviously wrong bears a heavy burden of proof, but the Board is faced with stubborn and persistent issues of audit deficiency that raise serious and fundamental questions about how the current independent audit model for public companies works. On these issues, we seek your wisdom.
Statement on Public Meeting On Auditor Independence and Audit Firm Rotation DATE: March 21, 2012 SPEAKER: Jay D. Hanson, Board Member EVENT: PCAOB Public Meeting LOCATION: Washington, DC
Good morning. I would like to join Chairman Doty and my fellow Board members in welcoming today's panelists and everyone who is observing this event, in person or over the internet. I would also like to thank our panelists for taking time out of their busy lives to join us here today, as well as to express my appreciation to those who already have provided us with comments, research or other information relating to this project. Your experiences and insights are invaluable as we consider the important but difficult issue of auditor independence, objectivity and skepticism. I noted back in August of last year, when the Board issued the concept release on auditor independence, that my main goal for the concept release was to provide a vehicle to gather information and spark discussion about whether the Board should do more to enhance auditor independence, objectivity and skepticism, and, if so, what steps the
Board should take. Today's event continues that effort. Based on the number of comment letters we received over 620 this clearly is a topic in which many people have an interest. The comment letters demonstrate strong support for the Board to consider the issue of auditor independence, objectivity and skepticism, although mandatory auditor rotation, as an approach to enhance independence, had significantly less support. I am pleased that we received substantial input from investors through members of audit committees, given their important role in ensuring the independence of auditors. Investor interests lie at the core of our mandate, so I am particularly sensitive to their views and look forward to learning more about their varying perspectives. The audit committee comment letters expressed virtually unanimous opposition to mandatory firm rotation, and I think it is important that we understand why, so I anticipate that we will get into that today. I also am interested in understanding the factors considered by those audit committees who have voluntarily established periodic auditor rotation. I would like to hear from them, and others, whether making auditor rotation mandatory, rather than leaving it as a voluntary option for audit committees, would provide any additional benefits. At the same time, I am concerned about comments suggesting that the Board's actions could undermine the role of audit committees, making them less effective. Feedback on rotation from investors other than audit committee
members was more mixed. I hope to hear more about how we might be able to accomplish our goal of enhancing auditor independence, objectivity and skepticism without causing negative unintended consequences, such as unreasonable costs or a decrease in audit quality. Audit firms and financial statement preparers also provided extensive comments, in some cases highlighting what they believe are significant downsides to mandatory auditor rotation. Auditors and preparers have extensive hands-on experience with audits, and they provide a valuable perspective. Yet, firms are not unanimous in their opposition to mandatory rotation, so hopefully we can explore today the reasons for their varying views. Finally, we have heard from a number of academics who have attempted to look at related issues empirically, and several well regarded university professors are joining us today. I look forward to hearing about their research, and I am always eager to hear about steps that learning institutions can take to prepare students for their important role in the capital markets. I anticipate that the questions we pose to the panelists today will range far and wide and should foster a good debate. Themes to explore include: - Defining the problems that we are trying to solve, including by trying to understand better the extent to which our panelists believe auditors currently lack independence, objectivity or skepticism and what evidence we should consider in support of such views; - The role and effectiveness of audit committees in ensuring auditor independence;
- Auditor behavior since the Sarbanes-Oxley Act, including actions firms have taken, and are continuing to take, to enhance auditor independence, objectivity and skepticism, and the effectiveness of such measures; and - Possible alternatives to mandatory auditor rotation. Let me end by thanking the staff of the Office of the Chief Auditor for their hard work in planning and preparing for this event. I look forward to what I am sure will be an interesting discussion.
Were no longer a committee of supervisors, were an authority
Interview with Gabriel Bernardino, Chairman of EIOPA, conducted by Andr de Vos, Omni magazine
Supervisory authority EIOPA submitted recommendations for new European pension regime to the European Commission on 15 February. EIOPA Chairman Gabriel Bernardino understands that the proposed changes make the sector nervous. But lets not start panicking; this is only the first step. Ice flows in the Main fifty metres below us. The view from Gabriel Bernardinos office is breathtaking, even on a grey February afternoon. The EIOPAs offices are located on the 14th, 25th and 26th floors of the green glass Westhafen Tower along the banks of the Main in Frankfurt.
As the wind whistles outside the glass panels, EIOPA Chairman Bernardino details the European Insurance and Occupational Pensions Authority recommendations released that same day regarding changes to IORP European pension regime.
Bernardino & Co.s final recommendations were submitted the same day to the European Commission. The Commission in turn issued its white paper on the pension funds a day later. The white paper contained elements from the EIOPA recommendations which, after all, had been released last October for consultation. The
version most recently submitted to the EC incorporates the 170 responses to the recommendations received.
Are you surprised by the number of responses to your recommendations?

The pension sector takes these recommendations seriously and weve received responses from every possible type of organisation, not just the pension funds, facilitators and insurers, but also government authorities, labour unions, employers and even participants. Im pleased with the wide diversity of responses. Its nice to have generated so many opinions, although a percentage of the feedback did not pertain directly to our recommendations, but to the content of the tasks assigned to us by the European Commission.
Recommendations running to more than 500 pages is not exactly easy reading.
That was a deliberate decision. Were breaking new ground and this is a sensitive discussion. Thats why we aim to be completely transparent, to show how we arrived at our decisions, who our sources are, the pros and cons of our position and the steps wed like to take. That results in a thick document. But the one that Im satisfied with. And those who only read the blue boxes with the advice itself can still get a clear picture of our intention.
Did all of those responses lead to changes to your original recommendations?

Some of them do. We now clearly explain in the introduction what our goal is and, of all the options set out in the original recommendations, quite a few have been shelved.
The recommendations have been streamlined, but are mostly in line with the consultation advice given in October.
This will come as a disappointment to many.

Many people are acting as if everything is already set in stone. But lets not start panicking; this is only the first step. Theres still plenty of work to be done before a new European regime is in place.
Many of the responses to your recommendations, including from the Netherlands, point to the fact that the EIOPA should not be meddling in this area hands off our pension schemes!
Thats understandable. Its a misconception to think that our goal is to replace the existing schemes. We want to see where improvements can be made. There are always similarities across national pension systems. What they all have in common is that pension promises are being made across Europe. Regardless of the national structure used to fulfil those promises, we believe that clarity is needed at European level regarding the value of those promises. But to do this we must be able to compare, which in turn requires European regulations. This is ultimately in everyones best interest, from employees to the funds making the pension promises in the various countries to the pension industry itself, which will be in a better position to operate across borders.
European organisations like EIOPA need to communicate better about the added value of these types of European agreements, certainly at a time when the EU itself is under debate. It is precisely because of the EU current unpopularity we need to move forward in this way. These kinds of recommendations are in keeping with that ambition. Theyre good for Europe.
What is your personal opinion of the most important proposals in the recommendations?
Were putting forward a holistic balance sheet, a harmonisation on top of the existing balances, which will make it possible to compare pension funds. Clear European rules are needed for the governance of pension funds. And participants in pension funds with a defined contribution plan must be provided with clear and accessible information in a standardised fashion. This is called a Key Information Document.
The proposals for the holistic balance sheet require further development.
Over the next few months, were going to carry out a quantitative impact study on how our proposals would look like in practice. Were starting in April and will conduct this study in the countries where Defined Benefit Plans are most relevant. (Until now we have 7 countries including the Netherlands). Our primary goal is to develop a uniform and consistent manner to communicate about pensions.
The pension sector is afraid that the new European pension regime will impose much stricter capital requirements on pension funds, like those in Solvency II.
I have no intention of imposing another Solvency II on the pension sector. That is a persistent misconception. But its not mentioned in our recommendations. After all, there are essential differences between pension funds and insurers, so you cannot impose capital requirements in the same way. That doesnt alter the fact that Solvency II contains a number of important provisions in areas like governance and risk management that can also be used for pension funds.
What kind of changes are needed in the area of governance?

Pension promises in Europe need to be guaranteed in the same way across Europe. This means that governance also needs to be organised in a comparable manner. Regardless of national pension system structures, the administrators responsible for investments need to understand what they are investing in. The knowledge level of pension administrators is a pan-European theme; agreements in this area also need to be made at European level. But it should still be possible to distinguish between large and small funds, DB and DC schemes.
Pension funds are afraid that larger buffers will lead to lower pensions.
We need a pension regime with a good balance between certainty and affordability. Thats where buffers come in. If you want 100% long-term security , there will be no funds left for pensions. And if you only consider the affordability of the system, too much risk is taken. We want to supply instruments that make it possible to view risks across Europe in the same way. We want a consistent approach to risk across Europe. This can also entail certain minimum requirements for buffers. But that is ultimately a political decision and does not concern us. We simply aim to provide a clear framework that facilitates risk and return determination.
All pension funds are to be based on market value from now on.
Our standpoint is that, if you want to effectively compare pension funds, the market value of assets and obligations should form the basis. That is the holistic balance sheet approach. If everyone uses the same reporting format, pension agreements can be easily compared. But this still means pension funds can continue to consider their national specificities. Not only that, but it provides the possibility of incorporating assurances as buffers on the national level.
Our aim is to achieve comparability of the various national systems with as little impact on those systems as possible.
The Dutch believe that the Netherlands has the best pension system. Should we be concerned that it could be undermined by European regulations?
The Netherlands must also be integrated into the European system, which, after all, is the whole point of the EU, i.e. that we all observe the same rules. But I dont anticipate any dramatic changes to the Dutch pension system. Our recommendations contain numerous measures that were introduced in the Netherlands long ago.
Like the market valuations that are seriously damaging our coverage ratios and that we would prefer to get rid of once and for all.
A few years ago, the Netherlands made a brave decision when it chose the market valuation of both assets and obligations. That this might now possibly result in cutbacks in pension rights is evidence of the risk run by pension funds. You cant solve that problem but suddenly using a different interest rate. In the quantitative studies, we will be testing how a holistic balance sheet with market values would work in practice.
What about the key information document?

There are needs for a clear format for information presentation to participants regarding DC schemes. Right now this information is often insufficient.
How much have people built up and what risks do they run? We are using the current best practices in Europe to define this document.
Theres no guarantee that more or better information will help if the system itself remains complicated.
Its true that people dont always read the small print. That remains a dilemma. But if you use that as an argument for simpler pension systems, you could run into trouble. Take, for instance, the discussion on default options in DC systems. This makes it easier for people who do not fully understand the system to make choices. Five years ago, a risk-free default consisted primarily of government bonds. Nowadays, this could be seen as a risky portfolio. It is absolutely possible to create simpler DC systems, but good information remains essential.
EIOPA has been around for more than a year now. How does it differ from CEIOPS, which you also headed?
Theyre incomparable. Were living in a different world, a different era.
You mean that much has changed in just one year?

It seems like much longer ago. Our approach has changed dramatically. Were no longer a committee of supervisors, were an authority. We dont need absolute unanimity.
At CEIOPS decisions were taken by consensus, now if we dont all agree, we put it to a vote. The discussions run deeper as a result. Whereas, in the past, a supervisor could say, I dont agree, and that would be the end of it. It would simply be put on the record.
How seriously do people take EIOPA?
Our authority is acknowledged. Im ambitious. We aim to be a well-informed, transparent supervisory authority. But we need to operate carefully and inspire confidence among all parties. We need to avoid simply imposing measures and to introduce changes step by step.
Important European pension documents are being released right in the middle of the euro crisis. Is the European pension framework in danger of being overlooked?
Our job is to make sure that doesnt happen. The EIOPA is also on the European Systemic Risk Board. Were jointly responsible for financial stability. Pension funds and insurers play an important role in that. It is understandable that all attention is now being directed towards the bank sector, but this should not be at the expense of everything else. A low long-term interest rate is very good for banks, but not so good for the pension sector. Were making sure that this is also on the agenda for discussion.
We view the crisis as an opportunity for change. The message of the crisis is that we can ignore neither financial nor demographic risks. We need to accept and analyse those risks. Its not about capital, but about risk.
What happens now with your recommendations?

Were going to start working on the quantitative impact studies, which should be finished by September. The results will be submitted to the European Commission, who plans to present its proposal by the end of this year.
SPEECH Gabriel Bernardino, Chairman of EIOPA How EIOPA is taking the lead in consumer Protection
28th Progress International Seminar Geneva, 23 March 2012 Ladies and Gentlemen, It is a great pleasure to speak to you here in Geneva and to share with you EIOPAs priorities and plans related to consumer protection. The protection of policyholders, pension scheme members and beneficiaries is one of our key objectives. But, consumer protection is not just a legal objective for us; it encompasses our entire philosophy. We are expected to take a leading role in promoting transparency, simplicity and fairness in the market for consumer financial products or services; that is why we aim to be ambitious in this area. And we have taken a number of important steps in the right direction. The first step we took internally last year was to create a specialised Committee on Consumer Protection and Financial Innovation (CCPFI). This was not only to comply with a legal requirement under the EIOPA Regulation, but also to send out a message that we consider the issues of consumer protection and financial innovation to be important and closely interlinked. Product innovation also has an important impact on the level of consumer protection.
The next step was to target key areas where we felt we could achieve tangible outcomes and to consider our strategy as a European Supervisory Authority. In that respect, I will start by outlining our achievements last year and then go on to talk about our strategic goals for this year and the years ahead.
Achievements in 2011
2011 was a very busy year for EIOPA as regards consumer protection: We prepared Guidelines and a Best Practices Report on Complaints Handling by Insurers. We want to fill an existing regulatory gap at EU level and promote convergence of regulatory practice. We aim to do this by, first, clarifying the expectations relating to an insurance undertakings internal control system and, second, giving guidance on the provision of information to consumers and procedures for responding to complaints. We consulted on the Guidelines and Best Practices Report at the end of last year and they are due to be finalised in Q2 this year. We published at the end of last year a Report on Financial Literacy and Education Initiatives by national competent authorities; it was a stock take of existing structures/processes in Member States. This was in line with a requirement under our empowering legislation to review and coordinate such initiatives. We collected data on consumer trends amongst our Members authorities.
This helped us to prepare an Initial Overview, analysing and reporting on those trends, which was published in early February this year. We identified three key trends: (i) Consumer protection issues around Payment Protection Insurance (PPI) (ii) Development of unit linked life insurance and (iii) Increased use of comparison websites by consumers. This is just the start of our ongoing monitoring of consumer trends. We provided input into the Commissions revision of the Insurance Mediation Directive (IMD) by carrying out an extensive survey of national laws providing for sanctions (both criminal and administrative) for violations of the provisions of the IMD. The Commissions legislative proposal is expected at the end of April this year. I will talk about this again later. We focused on disclosure and selling practices of Variable Annuities. This exercise was brought about by the fact that some variable annuities products may achieve outcomes that are not easy for consumers to understand. We consulted on a draft Report at the end of last year and this is due to be finalised in Q2 this year.
Plans for 2012

We dont want to just stop there in 2012, however. We need to move forward given the need for us to be proactive. As mentioned, we have some ambitious objectives.
We will finalise existing projects, but we also initiate new projects such as developing training standards for the industry, ensuring transparency in national general good rules, enhancing the existing methodology we use for collecting data on consumer trends and analyzing the impact of Solvency II on product development. All these initiatives will be carried out under the backdrop of the impending Commission legislative proposals on the revised IMD and Packaged Retail Investment Products (or PRIPs), which are expected at the end of April 2012. There will inevitably be a considerable workload for EIOPA in response to these proposals and work under the Joint Committee of the ESAs will be crucial to ensure cross sectoral consistency. The proposals will contain requests for follow up work in the form of advice on implementing measures, binding technical standards or common acts. Ensuring the appropriate level of remuneration disclosure and robust mitigation of conflicts of interest will be crucial to our ultimate objective of enhancing customer protection. Strategic approach for the years ahead But what about our strategic approach for the years ahead? We have developed a strategic orientation on consumer protection and financial innovation, which underpins all the work we do. This states that we will seek to prevent consumer detriment in the following ways: First, we contribute to making sure that consumers in Europe are well informed. Information to consumers prior to purchasing an insurance contract and throughout the duration of the contract should encompass the risks and
the costs of the products, relevant regulatory requirements and complaints handling procedures. Second, advice to consumers should best suit their profile and their needs, taking into account the complexity of the contract and the risks involved, with a view to purchasing an appropriate product. As mentioned above, a good practices report concerning disclosure and selling of variable annuities is currently being finalised. Third, we want to contribute to the financial literacy and education of consumers inter alia by making available, through our website, information on the roles and responsibilities of national supervisors in these matters, and pointing to useful financial education material. Fourth, in order to ensure the quality of both the advice and the information a consumer receives, minimum standards for ensuring the training and competence of relevant staff in contact with the clients should be set out both at the outset and on an ongoing basis. Fifth, there should be effective redress procedures for consumers. Consumers should be able to complain, and their complaints should be heard. In this respect, as already noted above we are preparing guidelines on complaints handling in the insurance industry, which may be extended to cover intermediaries at a later point in time. Sixth, firms should also have in place appropriate claims handling procedures to ensure effective and fair treatment of claims. When following these strategic goals we need to reconsider the policy tools that we traditionally used to deal with information asymmetries, conflicts of interest and market inefficiencies. We need a paradigm shift.
On the information side we need to reinforce standardization and comparability. However, information should not be used to shift responsibility from the providers to consumers. We cannot take for granted that consumers always make rational decisions. Furthermore, it is not all about transparency. Disclosure is a relevant tool but alone cannot deliver the full results for consumers. On the provision of advice we need to take a closer look at conflicts of interest. Unfair practices leading to consumer detriment in the insurance and pensions market are often due to situations of conflict of interest. Insurance is an industry where agency incentives can be the main driver of the kind of product to be sold. Sometimes this results in the sale of products which are not suitable for the consumers concerned. This necessarily entails that selling practices, whether through intermediaries or direct writers, should meet certain high standards. We also need to pay further attention to product suitability. Insurers should implement as part of their governance system a framework for early detection of unfair products, clauses or selling practices. I believe that this can usefully include the request of an independent opinion on the product design and characteristics by the internal governance functions of the insurer. Looking ahead, one of the most relevant powers of EIOPA is the possibility of issuing warnings when consumer protection is at risk.
Furthermore, in the cases specified in EU legislative acts and in emergency situations EIOPA may temporarily prohibit or restrict certain financial activities. We need to use these powers within a robust governance framework, but they are there to be used. This is a whistlestop tour of EIOPAs work in the area of consumer protection and financial innovation. I hope it has provided you with some food for thought. Thank you for your attention.
PRESS RELEASE
22 March 2012 - Meeting of the European Systemic Risk Board

The General Board of the European Systemic Risk Board (ESRB) held its fifth regular meeting. The current situation Since the last meeting of the General Board in December 2011, the ESRB has observed signs of stabilisation in the EU economy and an improvement in the situation of financial markets, notably in response to the measures adopted by central banks, the agreement on the fiscal compact, and the progress made in fiscal consolidation and economic reforms in many countries. At the same time, an environment of uncertainty and fragility in segments of the EU financial system persists. The key systemic risk remains the mutual negative feedback loops between three main risks, namely: (i) Persistent uncertainties on sovereign debt; (ii) Pressures on bank funding and excessive and/or disorderly bank deleveraging in some countries; and (iii) Subdued growth prospects. It is therefore crucial that: 1. Countries make further progress towards restoring sound fiscal positions and implementing the structural reform agenda in order to
strengthen their growth potential, increase employment and enhance competitiveness; 2. Banks strengthen their resilience further the soundness of banks balance sheets is a key factor in exiting from current dependence on central bank support measures and facilitating an appropriate provision of credit to the economy. Market conditions continue to be characterised by difficulties in financial intermediation across EU borders (including within the euro area). The ESRB calls on all public and private institutions to undertake efforts to preserve the integrity of the European financial system. In this respect, the ESRB supports efforts by international and European institutions to reduce through the so-called Vienna 2.0 Initiative risks of financial fragmentation in some economies from central, eastern and south-eastern Europe, both within and outside the EU.
Looking ahead
The main issue is how to ensure the provision of credit to the economy in the current environment. The ESRB has identified the following areas that might warrant macro-prudential policy measures. 1. Since summer 2011, banks have started a deleveraging process. The ongoing deleveraging can also be seen as an overdue correction of excessive leverage accumulated over the past albeit at different speeds across countries. At the present time such readjustment could be achieved without risks to a smooth provision of credit to the economy. 2. Towards the end of 2011, banks faced severe strains in funding markets, both domestically and internationally.
Central bank measures, such as the recent LTROs, have alleviated such pressures. The full extent of their impact on the credit supply will become clear over time. The ESRB will monitor lending conditions in the EU and stands ready to draw attention to the need for corrective actions in case clear signs of a credit crunch materialise. 3. Investors have shown uncertainty over banks resilience. By providing ample liquidity and requiring banks to achieve stronger capital positions, authorities are putting banks in a position to improve their financial conditions. There are first signs of banks returning to market funding, namely by issuing secured and unsecured liabilities. Banks should use this window of opportunity to further strengthen their capital base (e.g. by retaining earnings) and to implement business models that rely on private funding. 4. In a weak economy banks are exposed to a materialisation of credit risk; they should make adequate provision for this. Banks should manage their loan portfolios through the cycle by taking into account the medium-term creditworthiness of their borrowers without perpetuating non-viable credit positions. The ESRB intends to work in cooperation with the EBA and national supervisory authorities on the lack of qualitative and quantitative information on forbearance. 5. In the past, ample liquidity conditions have been associated with the emergence of imbalances in different segments of financial markets. While markets are still recovering their pre-crisis values, there are signs of a decrease in risk aversion in some selected financial market segments.
6. Finally, it is central that governments continue with fiscal consolidation and structural reforms, the provision of credible firewalls against contagion risk, and implementation of the fiscal compact. This would contain the impact of further adverse shocks and limit negative spillover.
Activity of the ESRB

Work is also continuing on structural issues, such as developing a sound basis for macro-prudential policy and instruments in the EU and at the national level. At the EU level, the ESRB is monitoring developments regarding relevant legislative initiatives in the EU, such as the implementation of the Basel III agreement in a revised Capital Requirements Directive and a new Regulation for banks and other credit institutions (the so-called CRD4). The ESRB welcomes recent progress in the legislative process. In this respect, the ESRB has brought to the attention of competent European institutions the fact that relevant national authorities need to be equipped with the tools necessary for taking early action at the local level either on their own initiative or on the recommendation of the ESRB, taking into account reciprocity to stem build-ups of systemic risk associated with banks. This should occur within the framework of an EU system of safeguards of the Single Market, to which the ESRB is ready to contribute. The ESRB decided today to send a letter to the EU legislative bodies putting forward its macro-prudential views on certain aspects of the CRD4, taking into account recent developments in the legislative process. In its letter, the ESRB has identified a number of areas in which it considers further strengthening and development of the proposals to be critical.
Such areas relate to: the scope for macro-prudential policies, the flexibility for authorities to conduct effective macro-prudential policies, and the governance arrangements for the use of macro-prudential instruments. This letter will be published on the ESRBs website once it has been communicated to the recipients.
Improving Financial Institution Risk Disclosures and Next Steps

The importance to market confidence of useful disclosure by financial institutions of their risk exposures and risk management practices has been underscored in recent years. The FSB has agreed to take steps to encourage improved disclosures as described in this press release. In December 2011, the FSB hosted a roundtable on risk disclosures by financial institutions to encourage the private sector to jointly take forward development of principles and of leading practice disclosures that will be relevant and informative given current market conditions and risks. Eighty-two senior officials and other experts from around the world took part in the roundtable, representing investors and analysts, asset managers, credit rating agencies, banks, insurance companies, audit firms, audit regulators, accounting and auditing standard setters, as well as prudential and market authorities. The outcomes of the FSB roundtable, including participants views on key areas where risk disclosure practices should be enhanced, are summarised in the attached note. Taking account of the views expressed at the roundtable and the recommendations set forth in a March 2011 FSB report on risk disclosures, the FSB agreed the following next steps:
The FSB will facilitate the formation of a task force to develop principles for improved disclosures based on current market conditions and risks, including ways to enhance the comparability of disclosures. The task force will involve investors, financial institutions, and external auditors and will be requested to develop proposed principles later this year for implementation in connection with end-year 2012 annual reports. The task force will be encouraged to have dialogue with standard-setting bodies, such as the International Organization of Securities Commissions, the Basel Committee on Banking Supervision, the International Association of Insurance Supervisors, the International Accounting Standards Board, the US Financial Accounting Standards Board and the International Auditing and Assurance Standards Board, at key stages as it develops its recommendations and to report to the FSB. The FSB will also ask the task force to identify leading practice risk disclosures presented in annual reports for end-year 2011 based on broad risk areas such as those identified in the summary of the roundtable. The task force would be asked to report on these leading practice disclosures to the FSB in 2012. The FSB will consider holding another international roundtable in late 2012 to facilitate further discussion by investors, financial institutions, auditors, standard setters, regulators and supervisors on market conditions and risks at that time and the progress toward improving the transparency of risks and risk management through relevant disclosures. As the March 2011 FSB report noted, should the follow-up actions by the private sector not result in sufficient progress in this area, the appropriate international standard-setting bodies will be asked to take forward work to consider principles.
20 March 2012 Summary of key themes that arose during an FSB roundtable on risk disclosure
The FSB held a roundtable on risk disclosure in Basel on 9 December 2011. Eighty-two senior officials and other experts from around the world took part in the roundtable, representing investors and analysts, asset managers, credit rating agencies, banks, insurance companies, audit firms, audit regulators, accounting and auditing standard setters, as well as prudential and market authorities. It fostered a rich and lively dialogue about the current state of risks and related disclosures and how to improve their transparency. The key themes that arose during the course of the discussion are summarised below:
Risk disclosure foundations

Participants generally preferred risk disclosure requirements in accounting standards and securities regulatory requirements that are principles-based rather than rules-based, but investors also called for measures to improve comparability, such as more consistent risk disclosure formats or templates. Principles-based approaches, such as those in the IASBs IFRS 7 (on financial instrument disclosure) and the US Securities and Exchange Commissions guidance on managements discussion and analysis (MD&A), may be sufficient to underpin disclosure improvements of the type discussed at the roundtable without the issuance of new disclosure requirements, but greater attention needs to be paid to address user needs for information about emerging risks.
A key theme raised was that while participation from the private sector is essential in driving forward leading practice risk disclosures, the public sector also plays a vital role in promoting financial stability and in encouraging improved disclosure practices.
Views of regulators and accounting standard setters.

The IASB and FASB discussed their initiatives in recent years to enhance risk disclosures. These include IASB improvements in standards for disclosures about financial instrument risks and valuations, and about off balance sheet exposures, and FASB enhancements in standards for disclosures about credit risk, valuations and off-balance sheet risks. The two Boards have issued converged standards for disclosures about the gross and net exposures associated with derivatives and certain other financial instruments. Regulators generally acknowledged some recent improvements in risk disclosure practices but they shared the view that further improvement would be useful to enhance transparency. Securities regulators noted the benefits of regulators and firms reaching out to key stakeholders about disclosure issues and the importance of monitoring information discussed during senior management calls with analysts and the related presentations, which could provide insights into ways to improve financial report disclosures. They noted, however, that this required significant resources. The Financial Policy Committee of the Bank of England has encouraged improvements in the quality of disclosures as indicated the Banks Financial Stability Reports in June and December 2011. Participants noted that banks and investors in emerging market economies may not have the capacity to produce and assess more
granular disclosures of the types that some were recommending during the roundtable.
The role of auditors in risk disclosures.

External auditors are currently required to consider the risk of material misstatement of the financial statements in planning and performing the audit. Where the applicable accounting framework requires disclosure in the financial statements of information relating to risk, the auditor is required to audit that disclosure. The auditors responsibility for disclosures in documents accompanying the financial statements - such as those in MD&A or the financial review section of financial reports - is generally limited to considering whether it is materially inconsistent with the audited financial statements or a material misstatement of fact. Auditors roles are also limited with respect to disclosures in interim financial reports. Generally, other risk disclosures, such as those in presentations to investors and analysts or on a firms websites, are not subject to external auditors review. Audit regulators and standard setters summarised their recent guidance which included (i) Alerts to auditors for assessing and responding to the risk of material financial statement misstatement in this difficult economic environment and (ii) Consultative documents to explore possible improvements in auditor reporting and/or changes in the role of the external auditor for disclosures outside the financial statements (e.g., risk disclosures in MD&A).
They are considering ways of expanding the scope of risk-related reporting responsibilities through consultative documents issued in 2011 and further work planned for 2012. Challenges remain in areas such as auditability of forward-looking statements, application of materiality concepts, and going concern assessments.
Improvements needed in financial institution risk disclosures

Investors and analysts stressed that disclosure that enhances the transparency of risks and risk management practices helps to build confidence in the firms management, which can be particularly important to attract debt and equity investors. However, they argued that still many financial firms provide only minimal risk disclosures or obscure important information in voluminous disclosures that are not relevant or prioritised. Many participants encouraged that disclosure on past risks no longer of key importance should be allowed to be phased out, to ensure more relevant disclosure and avoid unnecessary reporting burden. Given the current financial market environment, participants expressed the view that enhanced qualitative and quantitative disclosure is particularly important in the following areas:
Information on governance and risk management strategies

Investors requested better qualitative disclosures about governance, risk management oversight and related controls, and qualitative and quantitative disclosures about risk management practices, risk exposures and remuneration. Banking and insurance representatives noted the relevance of information about a financial institutions risk appetite and that risk
disclosures would be most relevant if they were consistent with information used internally for risk management purposes. Disclosure should be put in the context of the financial institutions business model to facilitate market understanding of risk management practices.
Summary disclosure and benefits of achieving comparability.

Participants agreed that risk disclosure should be timely, clear, prioritised, consistent and comparable, as highlighted by a recent survey of financial report users. Many analysts recommended more use of executive summaries of the key risk categories, which should include key metrics on entity-wide risk exposure and risk management effectiveness. Disclosures should better differentiate market risk components (e.g., interest rate, foreign currency and commodity risk as separate disclosure categories) and firms should avoid voluminous or boilerplate disclosures presented as a compliance exercise. Some supported the idea of standardised common disclosure templates to facilitate comparability across firms and jurisdictions and to aid aggregation and assessment of system-wide risks. Others pointed out that risk disclosure should be supported by qualitative information that provides managements context for measurements and important firm-specific considerations.
Credit risk.
While acknowledging that some banks have enhanced their disclosures in recent interim reports, participants encouraged improved disclosure about exposures to sovereign debt and to other financial institutions.
In addition to the areas for potential enhanced credit risk disclosure raised in the FSB Report, including the disclosure of renegotiated loans for troubled borrowers, participants discussed other areas where enhanced risk disclosure could be useful, such as: (i) Expected credit losses for impaired financial assets, (ii) Counterparty exposures, (iii) Derivatives, (iv) Off-balance sheet and joint venture structures, and (v) Risk concentrations.
Liquidity risk.
Participants noted the importance of transparency about liquidity and funding risks, including potentially additional disclosures about sensitivity analyses, sources and volume of liquidity buffers, and maturity tables including contingent lending commitments. Given the increasing role of collateral, participants shared the view that the degree of asset encumbrance should be disclosed at a reasonable interim frequency as well as annually. Some mentioned the importance of addressing the liquidity of collateral and the extent of its use and residual availability.
Capital adequacy and risk weighted assets (RWAs)

Participants said that disclosures on capital planning (including the ability of firms to transfer capital across borders) were important.
An issue of concern was the resilience of earnings since, for example, extended periods of low interest rates could erode banks profit margins and impose downward pressures on bank capital ratios. Further disclosure about RWAs and their calculation methods would be helpful. Investors noted as a positive development that some banks had started to disclose their regulatory leverage ratios voluntarily.
Pillar 3 disclosure.
Participants indicated that the usefulness of Pillar 3 disclosures was hampered by difficulties in reconciling the unaudited Pillar 3 information to the audited financial statements of firms. Participants generally supported more integrated presentation which would, for example, better link and allow navigation between the Pillar 3 and financial report (e.g., IFRS 7) risk disclosures, align the timing of their publication, and achieve more comparability across jurisdictions and banks. For example, there are several methods available under Pillar 3 for disclosures about certain risks and collateral. In addition, some noted as important that liquidity information was included in the Pillar 3 framework, as set forth in the Basel Committees current plans.
Scenario and sensitivity analyse

Some participants expressed their desire that the results of stress tests should be disclosed in financial reports, possibly with an indication as to whether the results are reviewed by external auditors. Care should be taken to properly interpret stress test results and summarise information in a manner useful to investors (e.g., using the impacts on earnings and capital of a certain change in interest rates, providing relevant information about non-linearity).
Conclusions
The roundtable showed the value of robust exchanges on shortcomings in disclosures among a wide range of private sector and public sector stakeholders. The full range of participants - users and providers of disclosures, auditors, regulators and standard setters - agreed that it would be important for investors, financial institutions and auditors to develop principles and formats for better risk disclosures going forward, with input from standard setters and regulators, as recommended in the FSB Report. Participants noted that these principles and leading practice disclosures should be broad in scope to avoid disclosure arbitrage among various market participants. However, some felt that the private sector would not initially be able to carry forward this work on its own. Some called for more proactive involvement of the official sector under the current stressed situations where voluntary risk disclosure initiated by some in the private sector alone might not be sufficient to restore confidence quickly. Many expressed the view that the FSB should continue to help encourage and facilitate this work, perhaps by conducting another roundtable in 2012 and prompting a task force of investors, analysts, rating agencies, financial institutions, and auditors, with input from standard setters and regulators, to take forward this work. The FSB Plenary has considered the views expressed during the roundtable and by its members and has decided next steps to enhance risk disclosure practices, as described in its press release in March 2012.
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Companies like IBM, Accenture etc. consider the CRCMP a preferred certificate. You may find more if you search (CRCMP preferred certificate) using any search engine. The all-inclusive cost is $297. What is included in the price:
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The 2309 slides are needed for the exam, as all the questions are based on these slides. The remaining 976 slides are for reference. You can find the course synopsis at: www.risk-compliance-association.com/Certified_Risk_Compliance_Tra ining.htm
B. Up to 3 Online Exams
You have to pass one exam. If you fail, you must study the official presentations and try again, but you do not need to spend money. Up to 3 exams are included in the price. To learn more you may visit: www.risk-compliance-association.com/Questions_About_The_Certifica tion_And_The_Exams_1.pdf www.risk-compliance-association.com/CRCMP_Certification_Steps_1.p df
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D. The Dodd Frank Act and the new Risk Management Standards (976 slides, included in the 3285 slides)
The US Dodd-Frank Wall Street Reform and Consumer Protection Act is the most significant piece of legislation concerning the financial services industry in about 80 years. What does it mean for risk and compliance management professionals? It means new challenges, new jobs, new careers, and new opportunities. The bill establishes new risk management and corporate governance principles, sets up an early warning system to protect the economy from future threats, and brings more transparency and accountability. It also amends important sections of the Sarbanes Oxley Act. For example, it significantly expands whistleblower protections under the Sarbanes Oxley Act and creates additional anti-retaliation requirements. You will find more information at: www.risk-compliance-association.com/Distance_Learning_and_Certific ation.htm

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exercise their definitional authority

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What is the letter about?

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Cayman Islands An Overview

Cayman Islands, Banking Statistics

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Banks to Which Basel II Applies

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Proposed Identity Theft Red Flags Rules

Which Financial Institutions and Creditors Would Be Required to Have a Program

Definition of Financial Institution

The Elements of the Program

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Gabriel Bernardino, Chairman of EIOPA

Stability and growth A balancing act

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As a steering committee member, the FDIC presents:

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Dollar funding had become especially expensive.

Bank funding pressures and policy responses

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The policy response

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The nexus between sovereign and bank funding conditions

Deleveraging prospects and consequences

Deleveraging prospects: capital-raising and asset-shedding

Limited asset-shedding among banks under the European recapitalisation plan

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Evidence of asset sales and price falls

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I feel 10 years younger.

Monetary Policy Report to the Congress Summary of Economic Projections

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The Outlook for Economic Activity

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Enhancing the contribution of external audit to financial stability

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What has Europe learnt from the crisis?

The euro areas missing institutions

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