The adoption of the principles set forth in BCBS 239 is another driver behind global adoption of LEIs. Donna Bales of Balmoral Advisory explains.
Q. What are the Basel Committee on Banking Supervision (BCBS) 239 principles? And how will they impact financial institutions from an operational and risk management perspective?
These are principles based on recommendations from the Financial Stability Board (FSB) and issued as guidance by the Basel Committee to improve risk management and resolvability in times of stress. The premise of these principles is that if data aggregation architecture and risk management processes are improved, it will enhance a bank’s ability to manage and aggregate risk exposures and identify concentrations quickly and accurately at all levels of the organization and between legal entities.
Long-term these principles will go a long way to improve a bank’s ability to manage and assess risk across legal entities, enhance decision-making and improve the quality of strategic planning. However, these principles are comprehensive in scope and many firms still operate in business silos, in which means in the short-term, it may take a lot of effort and resource for some banks to comply.
Q. How can firms start to prepare to adopt these principles? How does the use of LEIs come in play?
The timetable for compliance for Globally Systemically Important Banks (G-SIBs) is 2016. This is a major undertaking for the banks so most of them will have already put a dedicated team in place and started their analysis to assess their current risk practices and IT technology to identify the gaps between what they have now and what they will need to do to meet these principles. But designing and building new data architecture and IT infrastructure is only part of the equation; each bank will need to review their internal processes and governance structure for risk management to comply with risk reporting requirements.
Legal Entity Identifiers (LEIs) are a key building block behind this initiative because they are the unique input that will be used to identify an entity or counterparty. Using LEIs will improve risk aggregation across an organization and enable the firm and regulators to understand risk concentration.
Q. What are the benefits of using the LEIs for this process? Are there other regulatory requirements that will reinforce the need for this identifier?
For BCBS 239, there is a regulatory expectation that LEIs will be used because it is believed that LEIs will increase the accuracy of identification of risk aggregation and improve overall risk management.
The European Banking Authority (EBA) has drafted technical standards that cover how to report capital requirements, financial information, liquidity ratios, leverage ratios as mandated by the Capital Requirements Regulation (CRR). They recommend the use of LEIs to ensure uniform reporting across EU Member States.
It is widely believed that LEIs are an essential building block to identify systemic risk so as Shadow Banking reform develops; we will likely see LEIs play an important role. In the FSB’s recommendations for addressing Shadow Banking Risks *, they note the benefits of using LEI in identifying counterparty risk.
Q. LEI adoption is progressing slowly. What needs to happen next to speed up adoption?
There are a couple things. In order to establish the LEI as the de facto counterparty identifier, the Central Operating Unit (COU), which acts as the operational hub of the Global LEI System (GLEIS), must be established and soon. Its role is to act as the hub for LEI distribution and it is responsible for ensuring data quality. New local operating units (LOUs) are being formed yet there is no central oversight and this can lead to duplication in data and loss of confidence in the system.
Success of the LEI initiative will be measured by business adoption and if market participants do not feel confident in the system, they will continue to use other identifiers as their primary identifier. One step leads to the next so if a good framework is put in place, more wide spread use will follow despite regulatory impetus.
Regulatory use can be pushed further by mandating the use of LEIs for reporting other asset classes besides derivatives or as mentioned earlier in the application of management of systemic risk.
Read more from Donna via her blog at Balmoral Advisory including her recent article: “Canada Drives the LEI Mandate Forward“
