Slaughter and May head of financial regulation group Jan Putnis talks to The Lawyer‘s Catrin Griffiths about resilience in the banking sector and reconciling the potentially conflicting needs of customers and the banks’ balance sheets.
What does resilience in the banking sector look like over the next year?
It means serving customers well and fairly, with operationally functional systems, while maintaining capital and liquidity strength. Within the bounds of competition law, there is a need for banks and their shareholders to reach an industry consensus on the level of certainty that is required of a bank on its dividend policy to ensure that it retains the ability to raise new equity if it needs to do so. Since the big banks were effectively prevented by the Prudential Regulation Authority (PRA) from paying dividends at the start of the covid-19 crisis, it is important that the PRA is clear about its approach to interim and final dividends for 2020. Otherwise the equity story of banks could become much harder to tell. I know the PRA realises that banks have to be in a position to raise more capital where needed, and that this means they need to be investable; otherwise, they won’t be able to continue to support the economy.
The other way of improving the capital position of a bank is of course for it to make additional profits and banks are certainly thinking about whether they are best positioned strategically to maximise their financial success. The recovery around the world will happen at different speeds, so some banks are looking at the opportunities for directing resources or making acquisitions overseas to remain successful group-wide. Lawyers will need to be at the vanguard of much of the work that comes out of these points.
How can the sector balance conservative risk-planning and ensuring a flow of credit is available?
There is a tension here, because the more forbearance that a bank grants (or is required by regulators to grant) its customers, the worse the potential outcome for its balance sheet – but what banks can’t do is neglect their customers in favour of the balance sheet. To treat your customers fairly you need adequate systems with which to do so – and that’s where system resilience becomes a feature of overall resilience. The big challenge I see all banks facing is reconciling the potentially conflicting needs of customers and the banks’ balance sheets, but banks could come out of this with their reputations enhanced if they manage to get that balance right.
The customer treatment side is quite a difficult judgement for banks to reach in isolation – of course they need to reach a consensus on this with the regulators but also with the government, because the government is guaranteeing a lot of the loans that the banks have made under government sponsored covid-19 schemes. Both the government and the regulators are relying on the banks to assess which businesses are viable and which are not when they make lending decisions. The banks are in a better position than the government or regulators to assess whether or not those businesses are going to fail, but problems will arise when those businesses disagree with the banks’ judgement on that point and complain to the regulator or, where possible, the Financial Ombudsman Service. I’d say it’s a very politically charged judgement the banks have to make and I don’t think they can really make it without remaining in quite close touch with the regulators and the government on this point.
What will be the effect of payment holidays on the banking sector?
There’s some way to go to work out the effect of payment holidays on bank balance sheets on the prudential side, but there is likely to be a real challenge about how to treat customers when payment holidays come to an end. If you’ve just come off a payment holiday and the first thing your bank does is write you a letter to say you appear to be in default and your house is at risk, then that will cause an immense amount of stress. The question is around the ‘exit strategy’ and when it will become normal and ‘fair’ for banks to apply conventional enforcement procedures if customers default on loans. The industry will need help from the regulator to set expectations in the right place – what they don’t want to do is reach their own judgement only for the regulator to contradict that later on.
How will the pandemic affect the Senior Managers Regime?
For all of the forbearance that the regulators have exercised (for example, by delaying some consultations on new rules), they haven’t relaxed the fundamental duty of senior managers to take the steps that a person in their position could reasonably be expected to take to avoid breaches occurring in their areas of responsibility. Many senior managers have been worrying about their ability to discharge that responsibility because of the sheer volume of customer enquiries they’ve had and the challenges of long-term remote working, but their obligations are not diminished even if you take into account the difficult working conditions that people are experiencing. The duty hasn’t changed so we have to assume the standard would be the same if something goes wrong, although I would expect the regulators to show a degree of leniency towards senior managers who are fundamentally trying to do the right thing for customers in difficult circumstances.
What are the challenges for in-house teams in banks?
They’re immense – most of the ‘business as usual’ portfolio of work hasn’t disappeared. LIBOR transition, for example, has a fairly immovable timetable and a lot of time has been lost on that work through the covid-19 crisis. One of the interesting questions that does arise is whether some sort of legislative solution to that transition will become more likely. It’s a potential development that is rising up the agenda and we’ve been talking to a number of clients and industry associations about what that legislation might look like. And then there’s Brexit – some assumptions about the viability of business models that UK banks have adopted for their EU operations were expected to be tested after Brexit took effect – what we’re’ seeing is conversations continuing with regulators in the EU on how those business models can evolve – and in a sense those conversations may never end.