The International Monetary Fund (IMF) is pressing the Bank of Jamaica (BOJ) to strengthen the supervision of financial conglomerates to reduce the risk their subsidiaries pose to the group and other financial entities.
The IMF, in its latest assessment of Jamaica's economy, said while financial institutions in Jamaica are well capitalised, “risks arise from concentrated ownership, related party and large group exposures, and off balance sheet positions”.
Regulatory authorities across the world are always in danger of falling behind the growth in the financial sector and the push appears to align with the requirement that the regulators stay one step ahead of the game.
The fund went on to add that “even with proper separation between bank and non-bank group members, direct and indirect exposures could be a source of contagion”.
Contagion refers to the risk that financial difficulties at one or more financial entity inside or outside a group could spill over to a large number of others or impact the financial system as a whole.
Financial holding companies in Jamaica such as the NCB Financial Group owns commercial banks, insurance companies and investments arms. Others own stakes in competitor companies. For example, Proven – an investment management company owns 20 per cent of JMMB Group. The JMMB Group itself owns 23 per cent of Sagicor Financial Company.
This interconnectedness means that if one entity were to fail, it would affect other entities in the financial sector and, by extension, the entire economy.
“Strong efforts are needed to finalise adoption of a legislative framework for the special resolution regime for the orderly resolution of distressed financial institutions and group-wide supervision and continue advancement with data gathering and analytics, particularly of inter-institution linkages and cross-border exposures,” the IMF said in notes accompanying its review.
Maureen Simms, deputy governor, Financial Institution Supervisory Division at the Bank of Jamaica, said: “Several years ago, starting with the Banking Services Act 2017, we started the journey to do conglomerate supervision. Last year, the Parliament passed the licensing rules for financial holding companies. Since this year, BOJ started the process of licensing financial holding companies.”
It is expected that once that regime is fully implemented, financial holding companies will be required to hold capital for the risks across the group — securities dealers, insurers, or any other financial entity within that group. The holding company will bear responsibility for other risks, including off balance sheet items for which they have fiduciary responsibility to ensure there are risk mitigants in place for any risk identified.
Simms explained further that “Some of the mechanisms we use in conglomerate supervision, for example, is looking at network analysis that looks at the inter-relationships, the interconnectedness of all players within the financial systems, not just DTIs (deposit-taking institutions), but DTIs and their counterparts. So we look at the entire network in a transaction and look for interconnectedness and look for risks within those areas. So that is part of the work we are doing, using network analysis and big data to understand the risks across groups.”
With Jamaica having few large groups either headquartered on the island or for the most part in Canada, Simms said the oversight requires cooperation with regulators in home jurisdiction.
“Jamaica is home supervisor for one of the large financial groups across the region, that is NCB. We co-ordinate with other regulators across the region in terms of supervising the NCB Financial Group. We also participate in regulatory colleges for those institutions with their home regulators in other places, for example, Canada.”
Under the Banking Services Act, once a financial entity operates in Jamaica, it is required to have a financial holding company in Jamaica that is responsible for managing the group, including subsidiaries that are outside Jamaica.
“Commercial law is commercial law and where we need to get expertise to help us in supervising risks that are outside of Jamaica, that expertise is always available to us and we can call on that expertise to help us. But Jamaica has that responsibility. Further, if as regulator, home regulator, we believe that we do not have the competency to regulate the risk in that group there is a requirement for that group to get rid of that or to close those operations that we do not have the capability to regulate. Further, before they can expand to other jurisdictions, they need to get the approval of the Bank of Jamaica as home regulator, before they can establish in those jurisdictions. So there is a whole process of approval including, supervisory co-operation and how that entity is going to be regulated within the jurisdiction in which they are establishing.”
She said where the central bank may deem a subsidiary overseas which is “unsupervisable”, the financial holding company would be required to get rid of the entity.
“That is one of the reason for special resolution regime. That is why we talk about the need for entities to have a plan to be able to resolve that entity if they feel it is too big or too risky. There are requirements for them to manage those risks or to divest themselves of those risk, if they feel that it is unresolvable. So part of the framework that we are working on is the resolvability test and entities will have to develop their own resolvability plan and indicate to the central bank how they will resolve their issues should those issues become too problematic to manage.”
“It starts with a group that is supervisable, a group that is resolvable and the groups themselves putting together resolvable plans that are shared with the regulator, approved by the regulator and that are updated frequently. That's the framework we are currently working on. It's the kind of risk the IMF is pointing to that the country needs to better manage both from the private sector and the regulators perspective, putting that framework in place as quickly as possible and ensuring that it is implemented.”