Daniel Okubo Operational Continuity DP Prudential Regulation Authority 20 Moorgate London EC2R 6DA. 22 nd December 2014

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1 Daniel Okubo Operational Continuity DP Prudential Regulation Authority 20 Moorgate London EC2R 6DA 22 nd December 2014 Dear Mr Okubo, DP1/14: Ensuring operational continuity in resolution This is the British Bankers Association s response to the above discussion paper. The BBA is the leading trade association for the UK banking sector with more than 230 member banks headquartered in over 50 countries with operations in 180 jurisdictions worldwide. As the representative of the world s largest international banking cluster the BBA is the voice of UK banking. Our members manage more than 7 trillion in UK banking assets, employ nearly half a million individuals nationally, contribute over 60 billion to the UK economy each year and lend over 150 billion to UK businesses. The BBA welcomes the publication of the PRA s preliminary views on the principles that firms operational arrangements must satisfy in order to be deemed compliant with Fundamental Rule 8. The proposals are an important part of the wider work to ensure the resilience of the banking sector in the UK and must therefore be considered in the context of the significant work undertaken by the authorities and firms over recent years in this regard. We also welcome the decision to pursue an outcomes-based approach and the recognition that more than one kind of structure can deliver the required outcome. In line with this, we would encourage the PRA, when adopting principles for the development of future rules and guidance in relation to operational continuity and provision of critical shared services, to consider, to the extent possible, not prejudicing banking group service providers relative to third party service providers. Doing so will place service providers owned by banking groups at a considerable competitive disadvantage compared to external suppliers. Whilst we broadly support the proposals we believe they should be enhanced to recognise that there are two distinct phases of operational continuity (unlike paragraph 1.14 we exclude recovery actions from this assessment). The first phase relates to operational continuity at the point of resolution and the second to the post-resolution restructuring phase. Operational continuity during resolution is obviously of paramount importance and barriers to the preferred resolution strategy should be addressed as a priority to ensure critical economic functions can be preserved throughout the resolution process. The second phase relating to operational continuity for the post-resolution restructuring phase is understandably more complex to define and therefore requirements are harder to anticipate. We understand, however, that the overriding requirement will be flexibility in order to allow for the widest range of restructuring options. Full flexibility is incredibly complex and likely to be costly to achieve

2 2 with limited benefits; mainly reducing post-restructuring timetables. Whilst we therefore accept that there are potential benefits to regulators that we would be willing to support, we urge the authorities to be clear and proportionate in their approach to enforcing operational continuity as it relates to each distinct phase and to take full account of the benefits and costs. We support paragraph 1.10 that any proposals should be applied on a proportionate basis. For firms adopting a Single Point of Entry ( SPE ) resolution strategy, the focus should be on the continuity of critical shared services ( CSS ) in resolution, therefore there should not be a blanket requirement to put in place arrangements for the separation of critical economic functions ( CEFs ) during the postresolution restructuring phase. As noted above, full flexibility is likely to be costly to achieve and does not seem proportionate. In addition, there are other potential outcomes during this phase; e.g. the orderly wind-down of CEFs. Given that every firm s organisational structure is different, we believe that solutions for operational continuity should be tailored to each firm and aligned to the resolution strategy. Therefore the three structures described in paragraph 2.1 could all be appropriate depending on the particular structure of the group. The solutions should take into account whether a firm operates any CEFs, the structure of such business and the outcomes expected for that business in the event of resolution. The benefits and costs of the proposed solution should be evaluated carefully and any ex-ante change requirements should be proportionate to each firm s situation. With regard to the eight assessment criteria, whilst we feel these are a logical and helpful set of categories for assessing operational continuity, the presentation of these as being prerequisites whatever the structure seems disproportionate and potentially may lead to unnecessary changes to structure and operations which could have unintended consequences, such as increasing complexity. For example, in relation to Assessment Criterion 1, a whole-group SPE resolution strategy would avoid any disruption to the CSS arising from change of ownership thereby rendering any ex-ante ownership structure change unnecessary. We further note that contractual arrangements (where appropriate) that require the shared service provider to continue to provide services to each serviced entity or business unit if other group entities enter resolution would present a less costly approach to achieving the objective implied by this assessment criterion. In terms of Assessment Criterion 2, the requirement that firms institute SLAs for CSS provided from within the same legal entity would be unduly burdensome and problematic from an implementation perspective, not least due to issues of legal enforceability. As with Assessment Criterion 1, such a requirement would be disproportionate for firms where an SPE strategy was the preferred approach in resolution. Furthermore, where the resolution strategy involves recapitalisation of the group, for example via bail-in, provided that the group has sufficient loss absorbing capacity available to enable the group to be recapitalised and for CSS to continue, then the requirement for ex ante restructuring as described in many of the assessment criteria seems inappropriate. The proposal for six months of ex-ante funding looks arbitrary and unduly long, especially if the resolution is meant to stabilise a firm in circa three months. It is also likely that committed funding would reduce flexibility for managing operating expenses. In addition to the above, we do not consider the proposal in paragraph 2.17 to ring-fence financial resources within an intragroup service company not regulated by the PRA to be consistent with the spirit of cooperation that underpins the FSB s Key Attributes of Effective Resolution Regimes ( KAs ). Such an approach does not accord with the requirement under the KAs for national authorities to consider the impact of resolution actions on the financial stability in other jurisdictions, since by ringfencing capital resources for the benefit of UK entities, other non-uk group entities may be disadvantaged. SLAs requiring the continuation of services in resolution would offer an alternative to ring-fencing of financial resources. These would provide assurances over ongoing service provision from a non-pra regulated intragroup service company, while the group resolution strategy should ensure that any material regulated entity receiving these services would have sufficient financial resources to continue making payments to the service provider in resolution.

3 3 As a final point, we note the discussion of the proposals includes consideration of the KAs but that no reference is made to the work of the European Banking Authority or how the proposed PRA rules are intended to fit within the context of guidelines such as those proposed under Article 17(5) of the EU Bank Recovery & Resolution Directive. We believe it is important that they are aligned as far as possible. We comment in the annex on the specific questions raised in the consultation. Please do not hesitate to contact us should you wish to discuss any of the issues considered by the consultation paper further. Yours sincerely, Adam Cull, Senior Director, International & Financial Policy adam.cull@bba.org.uk +44 (0)

4 4 Annex: responses to questions Question 1: Should the scope of the proposals to ensure operational continuity cover PRAregulated banks, building societies and investment firms? We agree with the proposed scope. As noted in paragraph 1.10, however, it will be important for the proposals to be applied on a proportionate basis. The factors identified under paragraph 1.10 look to be appropriate guides for such an assessment. Notwithstanding this, we suggest that the application of the proportionality principle is explored in greater detail through any future consultation paper. For example, we believe proportionality should apply in the context of the restructuring objectives sought and not just the range of firms covered by the requirements. By way of example, the restructuring objectives might be the continuation or winddown of CEFs rather than taking steps for separation. A further issue to be explored is the suggestion in the discussion paper that the PRA will take a more flexible approach to applying these requirements for UK branches of a non-eea entity. While we welcome this flexibility, it would be helpful to understand exactly what this will mean in the context of PRA SS10/14, which requires, as part of the arrangements for resolution, "a clear plan for continuity of service for the CEF, both functional and operational". We propose that consideration be given to including certain financial market infrastructure ( FMIs ) providers and critical outsourced service providers within the scope of similar operational continuity requirements. On a related note, members would welcome support from the PRA to ensure continuity of access to FMIs post a restructuring transaction. This is not a matter which individual institutions can be expected to progress on an individual basis. Question 2: Are there specific elements of SLAs that should be required in order to meet the objective of operational continuity? It is difficult to respond to this question in the absence of greater understanding of the final shape of the requirements or the use of terms such as granular and arm s length (within Assessment Criterion 2 and 3 respectively). It would therefore be helpful if the forthcoming consultation paper could include proposed sample elements of SLAs which could be reviewed by firms. Furthermore it is not currently clear whether SLA in this context refers to contractual agreements between legal entities or to the detailed service levels that govern the standard of service between a service provider and a service recipient. It will be helpful if additional clarification on this subject is provided as part of future consultation. Whatever the case, SLAs should refer to contractual agreements and not to key performance indicators. In accordance with the principle of proportionality, SLAs should only be required where it is likely that the resolution plan would require a separation of economic functions. Furthermore, SLAs could also be restricted to those areas that are likely to be separated, rather than the organisation as a whole. So, for example, under an MPE strategy the SLA would need to be enforceable between the two resultant groups/entities. However, where a firm is preparing for an unknown restructuring plan the focus should be on ensuring that the provision of services to support CEFs across entities/jurisdictions is documented clearly rather than having ex ante contractual arrangements. We would caution against being overly prescriptive about the requirement to have formal charging structures in place, particularly in the case of inter-divisional structures. The vast majority of services are provided in the form of people resource, and in many cases it may be relatively straightforward to allocate headcount to particular economic functions. In these cases it may be more appropriate (and easier) to charge on a per head basis rather than a per transaction basis.

5 Question 3: Should firms be mandated to have a central repository for all SLAs? 5 We do not consider it is necessary to mandate a central repository. Rather we suggest firms should be expected to provide details of critical SLAs on request within a timeframe consistent with the needs of the resolution strategy and that for group entities reliant upon the services of others to be able to produce documented proof of the legal agreement between them and other group entities (depending on the service recipient). Such an approach would be consistent with an outcomesbased design approach. Question 4: Are there any specific activities or services that should be prohibited from being part of the shared service provider? We believe the definition of financial exposures needs further clarification. Any prohibition should not prevent an operational subsidiary from accessing and/or managing funding for its normal course of business. There is a possibility that a CSS may find broad prohibition of activities problematic as it may be a potential block for entering into necessary new arrangements, whereas specific details on prohibited activities could avoid this problem. We suggest, however, that the scope of activities or services is aligned to the FSB Guidance on Identification of Critical Functions and Critical Shared Services and the EBA Consultation EBA/CP/2014/23 which proposes a minimum list of critical services or facilities. We note the reference in paragraph 1.16 that CSS should be considered as being limited to services which are transactional in nature. It would be helpful if the PRA elaborated on what is meant by this, particularly for certain operational services, such as corporate legal support, or communication for human resources. 1 It would also be helpful to clarify exactly what is meant by risk management the FSB guidance includes Risk Management and Valuation as an indicative finance-related shared service. Furthermore, we note the provisions for what may be shared by way of services and facilities appear to be more limited in DP 1/14 than in CP19/14. Question 5: What governance and ownership structures would ensure the operational independence of a shared service provider? Proposed Assessment Criterion 5 sets an appropriate framework through which to assess governance structures. The question does, however, appear to contain the implied presumption that all CSS are provided from a separate services entity. It is less clear how Assessment Criteria 1 and 5 would be met for a CSS provided from within a regulated entity. For example, the proposed requirement for CSS to have their own governance structure is overly restrictive and appears to preclude the provision of services on a centralised basis with a centralised governance structure. This criterion should be considered in the context of a group s resolution strategy and should take into account safety and soundness concerns from fragmented governance and risk management. As a general principle, the framework should not favour the delivery of the objectives through either an operational subsidiary or in-bank model and should not prohibit the outsourcing of activities if the firm can demonstrate that the agreement is resolution proof. The framework should also consider how to ensure continuity after divestment to a competitor in the post-resolution restructuring phase, where change and incident management Transitional Service Agreements ( TSAs ) could potentially run for a long time. For example, it would be difficult for employees of one bank to provide a competitor with new competitive strategies, new developments or feasibility studies. At a minimum, this requires strong governance frameworks. 1 FSB Guidance on Identification of Critical Functions and Critical Shared Services: List of Indicative Operational Shared Services

6 6 Question 6: What type of managerial skills or other assets would a shared service provider need to restructure its operations upon the failure or entry into resolution of significant group entities or business units? The type of managerial skills or assets required would entirely depend on the type, speed and length of the restructuring required. For example, there is a difference between the requirements that would be necessary in relation to a group whose resolution strategy foresees separation and one with a more generic model which will require an understanding of existing governance arrangements. Again, this links back to design principle 1 and the need to identify CEFs. Ensuring maximum flexibility for every scenario would appear to be prohibitively expensive and we suggest that PRA rules be limited to ensuring that the skills for change management, restructuring and to operate the CSS are available. Question 7: Are the financial resilience proposals sufficient to cover losses and a liquidity stress that could be generated by a failure or resolution event within the group? Our starting point is that loss absorbency requirements via TLAC or MREL remove the need for specific capital requirements. The pressure in resolution will be for working capital, such as to pay staff, but these requirements should be tailored to the firm s resolution plan to achieve the operational continuity objectives rather than set on an arbitrary basis. A requirement to hold liquid resources equivalent to six months fixed annual overheads appears to be inconsistent with the timeframes within which it is anticipated that bail-in would be concluded and the return of the firm to normal funding sources. Longer periods of fixed prepayment could serve to restrict flexibility in the run up to and immediately following resolution and there must be consideration given to ensure the requirements are tailored to a specific firm as blanket requirements seem wholly inappropriate. We note that financial resilience requirements as conservative as those proposed may trigger potential unintended consequences by inadvertently incentivising banking groups to procure operational services wholly from external providers, which we believe is against the objectives and spirit of the regulation. Furthermore, it is unclear how requirements of the type proposed would apply to a division or a third party provider. It is also noteworthy that the FSB is considering guidelines, consistent with Key Attribute 6, relating to the funding of firms in resolution to support the implementation of the preferred resolution strategy. No doubt the UK authorities will wish to consider any guidelines when finalising this proposal. Finally, we encourage further engagement with the industry before determining the adequate level of financial coverage. Question 8: How can it be ensured that the liquid assets of the shared service provider will be available in the event of a failure of other entities in the group? We note that advance payments from intra-group entities would help ensure sufficient funding for CSS. We also suggest that agreements with service providers should be sufficiently robust to permit the service provider to require payment from the recipient for continued services in resolution and that the payment terms should not contain onerous provisions.