Explainer - How does the Central Bank supervise financial services providers?
Supervision refers to the ongoing oversight of financial service providers to make sure they are following regulatory rules. The aim of our supervisory work is to result in a financial system that meets the needs of consumers and the wider economy in a sustainable manner over the long term. Supervision is an essential part of financial regulation because it allows us to check that financial services providers are following the rules of regulation.
Our supervision work can be broken down into two broad categories:
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Macro-prudential supervision
Macro-prudential supervision evaluates the safety and soundness of the overall financial system.
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Micro-prudential supervision
Micro-prudential supervision evaluates oversight of the safety and soundness of individual firms. It is this type of supervision which is the topic of this explainer.
Risk-based supervision
To supervise individual firms in the financial industry we use a strategy called “risk-based supervision”. Risk-based supervision means we conduct more frequent, targeted supervision of those firms or institutions that pose the greatest potential harm. Basically it’s about focusing our time and attention on what matters most. So the level of supervision we give to a particular industry or sector is based on the level of risk that industry or sector presents. The more potential it presents for harm to the financial system and consumers, the closer we supervise it.
Who do we supervise?
We supervise over 10,000 financial service providers across a range of industries and market sectors. These include:
- Banks and credit unions
- Insurance companies
- Financial brokers
- Asset managers
- Funds
The responsibility for supervising banks is shared between the European Central Bank (ECB) and the Central Bank of Ireland.
How does supervision work in practice?
We have a range of different methods of supervision, specifically tailored to the firm or industry. These include:
- Reviewing and approving applications from financial service providers
- Assessing if individuals are fit and proper to take on senior roles in firms
- Reviewing firms’ policies to see if they are appropriate
- Conducting risk assessments
- Intrusive, on-site inspections conducted by experts
- Analysing financial statements and returns
- Engagement meetings with financial services providers
- Desk-based research and reviews
What are supervisors looking for?
Financial firms are complex, so what are supervisors looking for? Supervisors assess and rate the level of risks in a number of areas. If the risk in one of the areas is too high, we specify remedial actions the firms must take, and the deadline for doing so. This is called a “Risk Mitigation Programme”. Financial firms are, of course, based on risk taking. That is how they make their money. For example, when a bank makes a loan, there is a risk that the consumer won’t pay it back. What is important is that they understand and manage the different risks that they take. This is what supervisors oversee.
So in the case of giving a consumer a loan, a supervisor wants to see, amongst other things, that the firm providing the loan has policies in place to check that the consumer has the means to pay the loan back, and that the people approving the loan have the skill and experience to do so. Amongst their many responsibilities, supervisors also check that the firm has the necessary funds to absorb losses in the case of financial difficulty (solvency) and that it is able to pay out money owed as necessary (liquidity).
What are our current supervisory priorities?
Along with our day-to-day job of supervising the financial system and financial services providers, we have a number of overriding supervisory priorities that cut across the sectors. These include:
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Brexit
Brexit potentially poses many risks for both firms and the financial system. We want to make sure financial firms are well prepared for Brexit particularly firms which do a lot of business in the UK.
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IT and cyber risk
Technology is now an integral part of financial services and with that comes risk. We want to make sure firms have appropriate systems in place to ensure continued resilience to IT failures and cybersecurity incidents. Therefore conducting on-site inspections in the areas of IT and cyber risk is one of our key supervisory priorities.
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Conduct and culture
Challenging the underlying culture in financial services providers is another of our supervisory priorities. We want to make sure financial services providers are well-governed and treat their customers fairly. We also want to see more diversity and inclusion in the financial industry, especially at a senior level.
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