Remarks on Brexit Issues - Gerry Cross, Director of Policy and Risk

Brexit Seminar, New York

Good morning.

It is a pleasure to be here this morning and to have this opportunity to exchange views with you. Thank you for coming.

I am pleased to make a number of prepared remarks before we get into a question and answer session.

In an overall context of significant uncertainty, the Central Bank of Ireland is committed to providing as much clarity, consistency, and predictability as possible concerning our approach in the context of Brexit.

In the recent period, as you well be aware, following the triggering of Article 50 of the Treaty on European Union, we have seen the EU 27 agree their negotiating position on Brexit, setting out the broad principles that will shape their approach. So things are getting towards the period of active political negotiation. Still, it is unlikely that we will see serious engagement on negotiations until after the UK General Election on 8 June.

What we are seeing

As you know within the European Union, there is a Single Market for goods and services including for financial services. With the UK leaving the Union, financial firms based in the UK and doing business in Europe more widely are considering what steps they should take to maintain their business models post Brexit.

This is being done on the basis of considerable uncertainty, as the final arrangement will not be known for some time yet. What we are seeing therefore is that firms are adopting an approach of hoping for the best while planning for the worst. Given the levels of uncertainty and the risks around a so-called ‘hard Brexit’ such an approach makes good sense.

Since the Brexit vote on 23rd June 2016, the Central Bank has seen a high level of interest and engagement from firms which carry out their European operations from the UK and which are exploring the possibility of relocating their operations into Ireland. We have had enquiries from very many firms of many different types. Engagement is currently ongoing with a large number of these firms.

This engagement represents a major increase against normal activity and has been observed across all sectors – banking, insurance, investment firms, investment funds, and payments institutions.

Initially the enquires received were exploratory in nature. Over time, however, firms have been increasingly engaging with us to understand in as much detail as possible our approach to concrete issues of authorisation and supervision and to be clear as to the authorisation process, timelines, expectations, etc.

Firms are at different stages in their decision-making on where to relocate business, with a number in advanced stages of finalising their plans. Several have moved into the pre-application or application phase with the Central Bank, and this trend is likely to continue in the coming months. What this might ultimately mean in terms of final actual numbers of applications is still unclear, but it will certainly represent a material increase. This will become clearer over the coming months as firms finalise their plans.

The broader context

Financial services will surely be the focus of important attention as part of the overall Brexit future relations negotiations. An important question for all of us is the extent to which the City of London will remain an integrated part of the European financial services landscape. This matters a great deal, not only for individual firms for whom the more closely London remains integrated the less disruptive Brexit is likely to be for them, but also for understanding the future model by which financial services will support economic activity in Europe. 

From the regulatory perspective, and I am neither positioned nor qualified to speak to the wider political perspective; but from the purely regulatory perspective, in order to optimise the continued smooth functioning of financial services and markets in supporting the economy, the hope would be that outcomes could be achieved whereby disruption and change, while to some extent inevitable, would be kept within manageable bounds - including by ensuring appropriate transitional arrangements. One way to help achieve this will be for there to be a good, well-articulated focus on (a) maintaining the financial stability of both areas; and (b) ensuring that firms providing financial services activities in the EU do so on the basis of the same standards and requirements wherever they are located. The system cannot work if firms located in one country are able to undercut firms in another because the rules or approaches are looser or substantially different.

These two imperatives – financial stability and avoiding regulatory mismatch – are of course in themselves very demanding. They will require a lot of work and effort to achieve. Achieving them, at least at a reasonable cost to all concerned, will require some imaginative thinking and the development of new approaches and solutions. And time is tight. So the best minds need to be addressing themselves to these matters now.

Role of European authorities

One of the important issues currently playing out is concern over level regulatory playing fields across Europe. There is a risk is that regulatory differences could emerge between different countries in the context of Brexit related decision making. Take for example, the question of substance which relates to how much presence a firms needs to have in a EU jurisdiction in order to be authorised there. The question matters because unless a firm is actually running the authorised business from the EU jurisdiction where it is authorised, then the business is being run elsewhere. Therefore, it will in fact be subject to regulatory and supervisory requirements which are not those of the authorising jurisdiction. And it is necessary to avoid that firms are authorised to do business in the EU without being compliant with the standards and requirements that prevail there.
The risk of divergence on this question has been a real one. This is why we have been very pleased to see the Single Supervisory Mechanism (SSM) in the recent period come out with a set of guidelines on the matter. We have been working very closely and very actively on this as part of the SSM. And we are pleased to see that the guidelines that they have issued reflect in many respects similar thinking to our own in terms of an appropriate balance of robustness and pragmatism. We will continue to work closely with our colleagues in the ECB and SSM as the situation and thinking evolves.

Amongst the SSM guidance is the following:

• There needs to be appropriate substance. Establishing an “empty shell” company will not be acceptable. Banks in the Euro area should be capable of managing material risks potentially affecting them independently and at the local level, and should have control over the balance sheet and all exposures.
• While all the requirements for a well-functioning bank must be in place from the start, to the extent that the European entity is building up its activities over time, it may be possible that some of the additional local capabilities and arrangements are also built up in parallel, to be decided on a case-by-case basis, grounded on an appropriate and credible business plan. We will of course want to see consistency between the governance, management and controls and the business that is carried on.
• In respect of the approval of models already authorised by the UK authorities, there will be a limited period when, subject to certain requirements and appropriate checks, such models may continue to be used by the Euro area entity in advance of them being fully considered and approved by the EU regulators.
• For back-to-back booking, there could be temporary transitional arrangements on a case-by-case basis. Thereafter there needs to be sufficient capabilities to manage material risks locally and after any transitional period a part of all risks should be managed locally.
• In respect of outsourcing (or insourcing), there should be robust risk control mechanisms in place so that outsourcing arrangements are properly monitored and fully compliant with regulatory requirements.
• The guidance also discusses the position in respect of the treatment of intra-group large exposures. Notable in this regard is the indication that the SSM is considering adopting a case-by-case approach to the granting of such waivers.

This guidance will ensure the avoidance of supervisory divergences in respect of both Significant and Less Significant Banks in the Euro area. While the SSM does not have direct supervisory responsibility for the latter, it does have the final say on the authorisation of any bank, significant or less significant.

In so far as other types of financial firms are concerned - investment firms, asset managers, insurance companies – of course the SSM’s guidance does not apply directly to the approach to these firms. However, we would expect that the same or similar standards will apply. And the good news, is that here too the European authorities are closely engaged.

ESMA, for example, is developing guidance which will set out the approach that it would expect to see adopted by national authorities when dealing with Brexit-related, and other, authorisation applications. EIOPA is likely to follow a similar approach. Peer review and scrutiny of the authorisation approaches of national authorities is also being undertaken by the European Supervisory Authorities. This is also very welcome.

The Central Bank of Ireland very much welcomes that this work is being carried out by the European Supervisory Authorities. It has the potential to make a significant contribution to achieving the best outcomes from Brexit. To achieve this optimally it will be very important to be clear about the objectives to be achieved. As I have mentioned these should be ensuring financial stability and the continued effective financial services support for European economy activity and, secondly, ensuring that firms providing financial services activities in the EU do so on the basis of the same standards and requirements wherever they are located.

Our approach to key issues

Let me say a little bit now about how the Central Bank approaches some of the issues that arise in the context of firms seeking to re-locate activities from the UK to Ireland as part of their post-Brexit planning.

The first set of issues are the very concrete pragmatic ones. These revolve around a potentially significant number of firms seeking to achieve authorisation for new EU businesses in a very constrained timeframe. We, together with our colleagues across Europe, recognise that this is (a) not something of firms' own choosing; and (b) that managing the process effectively and well is important not only for the firms themselves but also for the continued good functioning of Europe's financial services sector and thus of the functioning of its economy. This means that our approach is based on the correct mixture of appropriate rigour and constructive pragmatism. Our rigour means that we will identify the correct issues and challenge firms; our pragmatism means that we will be constructively engaged with firms as they develop solutions to such issues.

To take one example - the approval of internal models. It is recognised that it is not feasible to do full-blown model approvals across the piece in advance of the target date of April 2019. Therefore, we have been working with the SSM to develop an approach which will allow us to be appropriately satisfied, based on existing UK regulatory approval and the consideration of certain aspects relevant to its deployment in the new entity, so as to allow the continued use of the models without a full blown approval process for a temporary period, after which the approval process will be carried out.

Secondly, our approach is one which is strongly embedded in the European context and in particular in the idea that wherever a firm decides to locate its activities, this should be for the right reasons - suitability to its business model, ease of access and communication, workforce considerations etc - and not for reasons of regulatory or supervisory arbitrage, what you might call regulatory shopping.

For this reason, the Central Bank of Ireland has been closely involved in the work of the SSM and all three European Supervisory Authorities in developing a common approach to the issues that are emerging in authorisation discussions such as substantive presence, back-to-back booking, intra group exposures, outsourcing etc. We have also been engaged in the work of these bodies to oversee, by a variety of means, the manner in which authorities are approaching authorisation applications to seek to eliminate regulatory forbearance.

Thirdly, we adopt a structured risk-based approach. The Central Bank of Ireland carries out all of its supervisory activities on the basis of a risk-based supervision framework - the PRISM framework. This is an impact- and probability-based conceptual approach embedded in an IT architecture and supervisory toolset which allows us to categorise firms according to their individual risk profiles and to allocate resources and determine intensity of our engagement accordingly. Indeed, the PRISM framework was adopted and adapted by the SSM on its establishment as the basis for its own IMAS framework.

This firm-specific risk-based approach underpins our philosophy and approach generally. Also in authorisations. So a firm that approaches us for authorisation can expect to find us sharply focused on the particular risks associated with its business and how those are managed and mitigated. To take an example: if we are asked about our approach to the large exposures waivers for intra-group exposures our answer is that we approach such waivers on a case-by-case basis (also as the SSM proposes to do) and our interest will be in understanding how the risk is managed within the group, whether the group (or sub-group) supervision is of a similar standard to what it is at the entity level, and whether the resolution risks are properly addressed. So, a risk-based, outcomes focused approach.

And finally, our approach to authorisation, which is well-structured, transparent and predictable. For applications of significant size or importance, a dedicated team is established with a lead point of contact. This team engages with the applicant from an early stage so that from that early point there is clarity as to what to expect and what will be expected in terms of deliverables, interim timelines, and, subject to the quality of the firm's engagement, the overall timeline. For smaller or less consequential applications, a shared team approach is applied. That is simply an efficiency matter. Apart from that the approach is more or less the same. It is also worth noting that while we regulate sectorally, we adopt a closely coordinated and appropriately integrated approach to our work. So for example for a firm intending to be licensed as an investment firm but with a bank-like profile, the analysis and authorisation work will be done by teams drawn from banking supervision, securities firms supervision, and our horizontal functions in Policy and Risk.

Conclusion

Let me stop here for now.

Few would doubt that the decisions made in the coming months will have major implications for the financial services landscape. My key message is that the Central Bank of Ireland stands ready and well prepared to meet the challenges that arise. We do so on the basis of an active, open and constructive engagement. Our approach is a pragmatic and constructive one, consistent with our mandate to safeguard financial stability, protect consumers, and deliver high-quality regulation and supervision.

I look forward to your questions.