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In the years following on from 2001 the regulation of financial services in the UK was overseen by the Financial Services Authority (FSA), The Treasury and the Bank of England.
In 2007/2008 the global financial system collapsed in turmoil, this stemmed from a time of deregulation of the banking industry starting in the 1980s in the USA and Europe, previously strict capital reverse and liquidity ratio had applied to banks.
During the latter two decades of the last century economists such as Alan Greenspan the then chairman of the US Federal Reserve threw aside regulation with the virtual elimination of risk. this lead to a situation where no one was overseeing the global financial systems. As a consequence the banks and others were answerable only to themselves, they borrowed and lent too much, eventually spiralling out of control with the collapse of institutions, Lehman Brothers failing on 15 September 2008 with liabilities of $600 billion, even national economies came close to insolvency, in Iceland the Government let its banks collapse, they were to big to save.
Greenspan himself said in 2008 “I made a mistake in presuming that the self-interest of organisations, specifically banks and others, was such that they were best capable of protecting their own shareholders”. Quotation
As a consequence Governments tightened their regulation of the financial system, in the UK, the FSA was replaced with the Financial Policy Committee (FPC) in 2011,
Answering questions about the reasoning behind the FPC, Andy Haldane, then Bank of England Director of Financial Stability (2013) said “there was a gaping hole in public policy infrastructure, ….no one was checking the system as a whole was safe”
The FPC is responsible for regulation of the financial system as a whole, The FPC takes an overreaching macro-prudential view to identify, monitor and take action to remove or reduce systemic risks with a view to protecting and enhancing the resilience of the UK financial system. The FPC also has a secondary objective to support the economic policy of the Government. (last updated December 5, 2017).
With the FPC functioning as an interim committee for an initial two years, the FSA was dissolved leaving the new committee to act to improve the level of stability in the UK financial system.
The FPC role is to increase the level of stability in the UK financial system, in order to do this the committee identifies, monitors and takes action to remove or reduce systemic risks. The rational for regulation is to protect the public interest from being harmed or put at risk. Additionally the FPC serves to support the economic policy of the Government.
To fulfil its role the FPC looks at risks that concern structural features of financial markets such as relationships between financial institutions, the risks taken by the financial sector and the levels of leverage, debt and credit. In its secondary role, supporting the Government economic policy, the FPC takes an interest in employment and growth.
The FPC is itself regulated by the articles of the 2012 Act. It must be seen to be fair and not place unfair burden or restriction on activities, any intimation must be proportionate. The FPC must act with regard to the UKs international obligations for example within EU law.
The FPC as well as monitoring stability; gives directions, makes recommendations and prepares stability reports. Directions and recommendations to the Financial Conduct Authority (FCA) and Prudential Regulation Authority (PRA) enable the FPC to set UK policy agenda. The FPC consults with the Treasury in making decisions about directions. The FPC may make recommendations to other areas of the Bank of England, as well as to the FCA, PRA and Treasury.
The FPC must publish two financial stability reports each year these include their view of the UK financial stability, developments, strength and weaknesses, risk and future outlook. These reports are provided to the Treasury and laid before Parliament. (Allen & Overy LLP (2013)
The FPC in its role to increase the level of stability in the UK financial system has a definite structure to permit it to function. At the top the organisation sit the Court of Directors who are required to determine the strategy towards the Financial Stability Strategy. The FPC interacts with PRA and the FCA supporting their activities without excessive intervention. Effectively the FPC has a view towards the governance of the PRA and FCA, There is a degree of cross membership with chief executives of the PRA and FCA on the Court of Directors of the FPC. Other court members include the Governor of the Bank who chairs the meetings and four external members appointed by the Chancellor. The minutes of the FPC meetings are published quarterly and the Financial Stability Report is produced twice a year.
On the Bank of England website it states that “The power of the FPC through direction FPC powers of direction set the countercyclical capital buffer (CCyB) rate for the UK, set sectoral capital requirements for UK firms, set a leverage ratio requirement for UK firms, set loan-to-value and debt-to-income limits for UK mortgages on owner-occupied properties, set loan-to-value and interest cover ratio limits for UK mortgages on buy-to-let properties.” (last updated December 5, 2017)
Risk is defined in ISO (the International Organisation for Standardisation) 31000 as the effect of uncertainty on objectives with risk management being the
coordinated activities to direct and control an organisation with regard to risk ISO 31000
Risk is associated with the possibility of something harmful or damaging could occur if things go wrong, in banking terms this would be indicated by financial loss.
In order to mitigate risk it is important to measure risk. The FPC remit is to mitigate systemic risk and accordingly reduce risk further in the uk financial system.
Risk is an inherent factor of the banking sector therefor it can not be avoided but action can be taken to reduce risk.
There are many types of risk that affect the banking sector, overriding these is systemic risk, where failure by one participant in a system other participant creating a chain reaction putting the system it self at risk. Such systemic risks include connections between financial institutions, persons involved in the distribution of financial risk and unsustainable levels of leverage debt or credit growth.
The FPC have various tools to asses and counter risk, the FPC monitors global risks from the external environment both in Europe and world wide for example Brexit. Refreance. The FPC, measures market liquidity in relation to effect on the economy, also keeps a close view on the housing market, cyber risk and climate change reference
Overall guidance come from the from the Basel III agreement (2010), a global, voluntary regulatory framework on bank capital adequacy, stress testing, and market liquidity risk. Such instruction include countercyclical capital buffer (CCB), Sectoral capital requirements, Leverage ratio, Transmission mechanisms for capital requirement tools, Scope of directive tools, Application of procedural requirements when implementing directions, Liquidity requirements, Margining requirements, Loan to value and loan to income ratios, Disclosure requirements.
The FPC initially to pursued three particular areas, CCB interest rate test test for mortgage borrowers and loan to income ratios on mortgage lending
The CCB “aims to ensure that banking-sector capital requirements take account of the macro-financial environment in which banks operate. It will be deployed by national jurisdictions when excess aggregate credit growth is judged to be associated with a build-up of system-wide risk to ensure the banking system has a buffer of capital to protect it against future potential losses.” (Basel III, 2010). The CCB is the extra fund that capital banks are required to have at time of economic growth to avoid a boom. The FPC manage the CCB rate at between 0% and 2.5% reviewed quarterly.
Mortgage rate stress test mean that lenders are responsible for assessing their customers ability to afford a loan and asses if payment can be kept up if interest rates rise
Loan to income ratios, lenders should not lend at a loan to income ratio of 4.5 or more to more than 15% of residential mortgages.
Over the years since the FPC started to function it has reviewed many factors concerning the UK economy, currently Its most immediate concerns are around Brexit affecting the resilience of banks towards lending and borrowing, concerns for consumer credit (personal loans and credit card debt) being unsustainable, car finance, and falling house prices. From the Record of the Financial Policy Committee Meetings on 22 and 27 November 2017, the most recent meeting of the FPC, topics discussed were the stress tests on the banking system, a future planed rise in the countercyclical capital buffer rate from 0.5% to 1%, as of November 2018 plans were formulated to mitigate potential for risk arising from a potential disorderly Brexit. (published on 5 December 2017)
Recent actions taken by the FPC from meeting held 22 and 27 November 2017 to address the concern above have included an agreement to raise the UK countercyclical capital buffer (CCyB) rate from 0.5% to 1%, with binding effect from 28 November 2018 reference https://www.bankofengland.co.uk/record/2017/financial-policy-committee-november-2017 .
Action included development of processes to mitigate any disruption to uk financial serverise from ongoing difficult Brexit negations poritcaly Brexit it be disorderly the FPC as ever continue to review stress tests examine the uk banks long term responses to a low interest rate and low growth environment with threats from Financial technology (Fintech) the FPC once again reviewed the non banking sector agreeing not to propose changes. The fps also recognised that a Recomitation made to the PRA in September 2017 to exclude central bank reverse in calculating leverage ratios had be undertaken
One recent power that the FPC has put in place follows on from 2014 when the committee recommended it be provided with powers of direction over the residential and buy to let mortgage market. From 2017 the FPC has been in a position to direct the PRA and the FCA to limit loan to value ratios and interest coverage ratios. In repose to this power of direction The Chancellor of the Exchequer, Philip Hammond, said: “Expanding the number of tools at the Financial Policy Committee’s disposal will ensure that the buy-to-let sector can continue to make an important contribution to our economy, while allowing the regulator to address any potential risks to financial stability.” (Published 16 November 2016)
To summarise the FPC is the over aching authority overselling the UK financial system its origins stem from the global of 2007/2008. It is composed of the Bank of England and the Treasury appointed director forming the Court. The objective of the FPC is to identify, monitor and reduce systemic risk. The Court meet regularly and acts with the Government by giving recommendation and directions to the PRA and FCA. The FPC has various monitoring tools and stress tests in place with particular relevance to obverse the health of the UK major banks. The FPC has a view on global and national risks to the UK economy, particular concerns are Brexit, as well as excess credit including mortgages and loans. Although the general population may not be aware of the workings of the FPC it does impacted on all aspects of are financial lives from big bank regulation to the amount people pay on their mortgage. Ten year after the financial crisis the FPC is proving a robust authority with checks and balances in place, much improved on its predecessor the FSA with the flexibly it has with the government and the Treasury it is in a position to keep the UK economy stabile going forward despite the global Marco economic events.