To realise the benefits to growth and competition from financial stability, firms of all sizes need to be ‘resolvable’: able to fail in an orderly manner with investors, not the public purse, bearing losses. The UK’s resolution regime is built on these principles. The absence of a credible resolution regime during the 2007-09 Global Financial Crisis (GFC) meant that the UK government had to step in, injecting public money to the tune of £137bn to stabilise the financial sector, and that the financial system acted as an amplifier, intensifying the UK economic downturn at great economic and fiscal cost. The changes that the Bank of England and other authorities, working with the banks themselves, have introduced since the GFC mean that the UK is now much better placed to deal with the failure of one of its banks. We have implemented changes to remove the ‘Too Big to Fail’ implicit subsidy enjoyed by bigger banks and set out expectations for how banks should make themselves resolvable, in line with the commitment that we made to Parliament.
Managing the failure of a bank of any size is unlikely ever to be a smooth process. But the UK resolution regime provides more options to act when banks fail, keep critical banking services operating or pay out depositors, and so improve prospects for financial stability.
We have the necessary tools and legislative frameworks to underpin the UK’s resolution regime and have developed policy to set out the outcomes that firms must achieve if they are to overcome the major barriers to resolution. This year, we are also preparing to enter the first cycle of the Resolvability Assessment Framework (RAF). The RAF places responsibility on the banks to demonstrate both to the Bank and in public their preparedness for a resolution: a key milestone in our commitment to Parliament that major UK banks should be resolvable by 2022. But resolvability is not a static concept, and firms will need to work to maintain and improve their resolvability on an ongoing basis.
Having a resolution regime that is fit for purpose and ready to be used supports a more dynamic financial sector. The ability for banks to leave the market in an orderly way supports the PRA’s approach to authorisation. Since its creation in 2013, the PRA has authorised 27 new domestic banks. The Bank’s resolution regime and the PRA approach to authorisation work together to lower barriers to entry and exit and thereby support effective competition in the banking sector.
There is still further work to do to address resolvability risks in the wider financial sector. The UK is making good progress developing modified insolvency and resolution frameworks for non-banks. HM Treasury has recently consulted on a proposal to enhance the UK’s existing resolution framework for Central Counterparties; and has signalled an intention to introduce a specific resolution regime for insurers in due course to supplement proposed enhancements to the insurer insolvency arrangements. HM Treasury has also introduced this year a bespoke insolvency regime for payment and e-money institutions, helping to ensure that arrangements are in place so that innovations can take place safely.
Today the Bank is issuing two resolution publications: a Consultation Paper reviewing our approach to setting a minimum requirement for own funds and eligible liabilities (MREL); and an Operational Guide on executing bail-in. These publications build on the progress made over the last decade, and represent the latest stage of development of what is an increasingly mature regime. As I set out in February 2021footnote [1], I see the UK resolution regime as built around four robust and coherent principles: credibility and transparency in its design; and flexibility and proportionality in its implementation. Both the publications today help to reflect these principles in action. The Consultation Paper on the MREL Review demonstrates our commitment to implementing our policies in a flexible and proportionate way, and the Operational Guide on executing bail-in demonstrates our commitment to providing more transparency and detail to the industry and the market.
The Consultation Paper on the MREL Review proposes a new, longer and more gradual transitional path for firms growing into MREL requirements. The Bank sets MREL to achieve orderly resolution, with investors not taxpayers bearing loss, in accordance with our responsibilities and objectives. When a bank fails, the resolution authority can use the financial resources provided by MREL to absorb losses and recapitalise the continuing business and support its restructuring. But we recognise the potential costs and challenges for growing firms issuing MREL. In this context, we are consulting on smoothing the transition to our balance sheet thresholds for firms as they grow and move from a depositor pay out to a continuity strategy. Making it easier for firms to grow into MREL responds directly to firms’ concerns about barriers to growth created by the step up in MREL requirements as firms expand their balance sheets. The proposals for an extended transition path are proportionate in implementation and directly respond to stakeholder feedback arguing for a ‘smoother climb’. They are inherently flexible and agile as they allow for a further extension if unforeseen circumstances demand it. And they enhance the transparency of the regime by being clearer when MREL requirements may start to apply to firms individually.
It is important that we only set MREL for firms where it is likely to be needed if an institution did fail. MREL is for GSIBs, DSIBs and other banks whose entry into insolvency would be too disruptive for banking customers and services. Recent developments in payments technology and innovations might change how we would approach resolving smaller firms with large numbers of transactional accounts. We will work with the industry, FSCS, FCA and PRA to review and develop alternative processes which could avoid the disruption to banking customers and services caused by insolvency. This could allow us to significantly raise or remove the current transactional accounts threshold for MREL requirements if successful.
The PRA’s revised approach to new and growing banks, and its proposed “Strong and Simple” approach to the regulation of smaller banks, reflect the Bank’s commitment to maintaining resilience that supports established financial services and new innovations and thinking openly about how the rules of the road can be fitted to changing circumstances. Alongside these changes, HM Treasury considers that the Bank’s proposed changes to the framework for setting MREL should ensure that the Bank’s MREL policy, including the calibration of end-state MRELs, continue to provide an appropriate degree of protection of public funds while ensuring a proportionate approach for growing firms.
We have also clarified our approach to legacy MREL instruments. This is in line with ongoing work to deliver the RAF to ensure that firms’ resources can bear loss, and does not disturb the fair allocation of those losses in a failure. Having a fair allocation of losses is a key protection for investors in financial instruments in resolution.
Ensuring that MREL is in place is a necessary, but not sufficient, condition for an effective resolution which relies on a ’bail-in’ rather than publicly funded ’bail-outs’. It also needs to be possible for us to execute the bail-in in practice, in what is likely to be a highly complex transaction involving multiple parties. Our second publication today provides a more detailed operational guide on how the Bank might execute a bail-in, alongside the draft ‘base’ or ‘illustrative’ legal instruments it might make. It is intended to increase awareness and understanding of the actions that may take place as part of a bail-in resolution in the United Kingdom, and to enhance the transparency and credibility of the tool. Publication of this guide reflects the work that the Bank has been doing to improve our own capacity and readiness, alongside the work that we have been asking firms to do. Any bail-in transaction is likely to require a tailored approach depending on the facts and circumstances of the particular case – and so I would emphasise the intentional choice of words in ‘guide’ rather than ‘manual’ in today’s publication.
The resolution regime is maturing and has made great strides since the Global Financial Crisis. We consider that the key features of that regime- who pays for losses of a failed bank and how many resources are needed to support a resolution- are in place. Today’s publications represent a further step towards maturity and towards our goals of ending Too Big to Fail and protecting banking customers from disruption if their bank were to fail. But there is still more work to be done and further improvements that can be made, including in response to feedback from market participants and in response to market and technological developments. We remain committed to refining and provide greater clarity on our policy approach in an open, nimble and agile way, and to consistently applying our principles of credibility, transparency, flexibility and proportionality.
With that in mind, I would like to end by personally thanking all those people in regulated firms, advisors, regulatory and government bodies in the UK and abroad, universities, and other institutions who have contributed to supporting our work on resolution. As Andrew Bailey recently highlighted in the foreword to the “New Chapter for Financial Services”footnote [2], the UK has a long history as an open, global financial centre, at the forefront of innovation. This is a globally shared public good, which is dependent on the resilience and safety of the UK financial system. We look forward to continuing work with a wide range of people across the industry and regulatory community and beyond to maintain the resilience of a financial system that continues to serve the people of the United Kingdom well.