A new report from the Financial Stability Board (FSB) finds that financial firms and regulators have made improvements in risk governance since the financial crisis, but that there’s more to be done.
The FSB notes that the crisis exposed a number of risk governance weaknesses in major financial institutions, relating to the roles and responsibilities of corporate boards, the firm-wide risk management function, and the independent assessment of risk governance. “Without the appropriate checks and balances provided by the board and these functions, a culture of excessive risk-taking and leverage was allowed to permeate in many of these firms,” it says.
Its latest review of this area found that, since the crisis, regulators have taken measures to improve the oversight of risk governance including: either developing, or strengthening existing, regulation or guidance; raising supervisory expectations; engaging more frequently with boards and management; and assessing the accuracy and usefulness of the information provided to the board.
However, it also finds that more work is necessary. “In particular, national authorities need to better assess the effectiveness of a firm’s risk governance framework, and more specifically its risk culture, to help ensure the sound management of risk through the economic cycle,” it says. “Supervisors will need to strengthen their assessment of risk governance frameworks to encompass an integrated view across all aspects of the framework.”
The review also surveyed 36 banks and broker-dealers and found that many leading risk governance practices at the firms themselves are now more advanced than what’s required by regulators; which, it notes, may have been motivated by firms’ need to regain market confidence.
Yet, it finds that significant gaps remain in a number of areas, particularly in the risk management function. “Very few firms were able to identify clear examples of how they used their risk appetite framework in strategic decision-making processes,” it notes.
Based on its findings, the report spells out a list of practices that would help firms continue to improve their risk governance and regulators to assess its effectiveness. It also sets out several recommendations targeting areas where more substantial work is needed, such as guidance on ensuring adequate resources; that standard setting bodies should review their principles for governance; and that the FSB should explore ways to formally assess risk culture at financial institutions.
“While measures have been taken to improve risk governance, the review showed that there are still gaps that need to be addressed by both firms and supervisors. The report sets out recommendations that will help supervisors everywhere raise the bar on their expectations for risk governance so that firms’ practices continue to improve through changing environments,” said Swee Lian Teo, chair of the peer review team on risk governance and deputy managing director of the Monetary Authority of Singapore.
Tiff Macklem, chairman of the FSB’s standing committee on standards implementation and senior deputy governor of the Bank of Canada, said “The review usefully pulls together good risk governance practices and identifies follow-up work that needs to be done by national authorities to strengthen their ability to assess the effectiveness of firms’ risk governance frameworks. Recent headline events surrounding activities at some large financial institutions underscore the importance of promoting and implementing a sound risk culture.”