Resolution

This is a complex topic and the following is a short high-level review of the purpose of resolution.

During the financial crisis some financial institutions found themselves in trouble. They had distressed balance sheets and needed more capital and/or liquidity.

In some cases the situation was so bad that the business failed. Growing complexity of bank balance sheets together with a belief that bank failure was a thing of the past made us unprepared for what happened. Whilst some firms were relatively straight forward to restructure others were not. Resolution is aimed at ensuring that in future banks (and other financial firms) can be swiftly rationalised if they run into difficulties. This should mean, the minimum of taxpayer bailout, little disruption to financial markets, no disorderly fire sale of assets, payments continue and the wider aspects of the economy are not damaged.

Recovery & resolution

To achieve this banks need to have thought through and documented Recovery and Resolution Plans. This provides regulators with a blueprint of the business, its systems, structure and risks.

Ideally regulators want to be in a situation where, over a weekend, they can successfully handle a restructuring. Saving the bits that are commercially worthwhile ideally by way of sale and/or closure of the bad parts. Losses at this point would be borne by unsecured debt holders and unsecured creditors. This did not happen in the financial crisis. It means that large firms must have the appropriate amounts of Total Loss Absorbing Capital. Medium size firms must also know how losses will be absorbed whilst smaller firms must be prepared for the smooth transfer of money and assets.

Globally Systemically Important Financial Institutions are subject to additional scrutiny. They may pose significant risk to the financial system and operate in multiple jurisdictions. A co-ordinated response is therefore a challenge for the authorities.

First Published by Barbican Consulting Limited 2010