ECB Board Member on Approach to Proportionality in Banking Supervision

ECB directly supervises 117 significant banking groups, with these institutions accounting for over 80% of the banking assets across the euro area. All other euro area banks are supervised day-to-day by the national competent authorities, with the ECB providing an indirect oversight function for the national authorities’ supervision of these less significant institutions, or LSIs. "This split of roles and responsibilities between ECB and national competent authorities allows the same supervisory objectives to be pursued efficiently in both large and small banks. That efficiency is one of the key elements of proportionate supervision," said Mr. Hakkarainen. LSIs tend to focus on the domestic market of the country in which they are based. This makes the local expertise and geographical proximity of the national competent authority supervisors particularly useful in ensuring the efficient monitoring of prudential soundness.

In context of the ECB approach to proportionality, he explained that the first step in arranging the supervisory work is to set a minimum level of supervisory engagement that applies to all banks. This allows ECB to ensure that all banks are held to the same standards and that supervisory intensity is, in all cases, sufficient to demonstrate that these standards are met. From this minimum engagement level, extra layers of supervisory requirements are added in a proportionate way. These layers vary depending on the risk profile of the bank in question. The calibration of the additional layers of supervision is captured in a detailed annual supervisory examination plan. This plan sets out the supervisory activities to be undertaken for each of the significant institutions in the coming year, including risk-based decisions on what on-site inspections and internal model investigations to pursue. At the end of the supervisory analysis, proportionate supervisory measures must be applied. The key tool for applying proportionate supervisory measures is the Supervisory Review and Evaluation Process (SREP). These supervisory measures have become more proportionate over the five years since the Single Supervisory Mechanism was set up. One way of measuring this is to look at the correlation between the SREP scores of significant institutions and the Pillar 2 capital requirements that ECB imposes on them. Five years ago this correlation was below 30% and now it is steady at about 80%.

ECB is proportionate in its oversight function and in how it designs guidance for national competent authorities regarding their day-to-day supervisory activities. The main way in which ECB ensures that its oversight of the national competent authorities’ supervision is proportionate is by ranking the LSIs. The LSIs are categorized as high, medium, or low priority and this categorization is reviewed each year in cooperation with the national competent authorities. The LSIs are prioritized according to, first, the impact their failure would have on the domestic financial system and, second, their intrinsic riskiness. Greater riskiness and a larger potential impact on the financial system imply more intensive supervisory attention. The ECB uses this prioritization of LSIs to apply the principle of proportionality in a number of its oversight tasks. For instance, the Single Supervisory Mechanism (SSM) Framework Regulation provides that national competent authorities send certain ex ante notifications and fulfill certain ex post reporting requirements vis-à-vis the ECB to ensure that the ECB can adequately exercise its oversight of the functioning of the SSM. The principle of proportionality is also an important criterion for the ECB when assessing incoming ex ante notifications and determining the intensity of the review to be performed.

ECB assesses the impact of the planned measures from a supervisory and risk perspective and examines whether the measures are proportionate. Regarding regular ex post reporting requirements, ECB requires national competent authorities to submit institution-specific information and information related to their supervision of LSIs only if it is deemed material and proportionate. Hence, the depth and frequency of ex post reporting are adapted to the priority rank of the LSI. The ECB framework for the institution-specific oversight of LSIs is also based on the prioritization of institutions. A less granular and less frequent assessment is normally conducted for the banks that have been assigned a low or medium priority. However, this is not always the case. For example, if a thematic review were to indicate that a lower-priority institution was more risky and complex than expected, the principle of proportionality would require a stricter and more intrusive approach to be taken.

Related Link: Speech

Keywords: Europe, EU, Banking, Proportionality, SSM, SREP, Banking Supervision, Less Significant Institutions, Banking Union, ECB