Topic 9 - Regulation

Front 1

What is the role of financial system regulation and why is it important?

Back 1

Financial Institutions are regulated because they provide goods and services that the economy needs to function well.

Front 2

What powers is APRA given under the banking act 1959?

Back 2

The banking act 1959 provides APRA with the power to authorise, deny and revoke authorisation for body corporates to conduct banking business and requires the authorised institutions to provide detailed information to APRA and the RBA as requested. APRA is also provided with various other powers including:
- The power to develop prudential statements and other regulations under the banking act.
- The power to regulate and authorise non-operating holding companies, which own ADIs. this occurs in cases in which APRA refuse to authorise a subsidiary company if its owners do not hold authorisation.
- To issue enforceable directions to ADIs and Authorised NOHCs
- The power to investigate an ADI that does not meet its obligations and appoint an administrator to control the ADI or even take control itself if appropriate. APRA also has the power to wind up institutions like this and distribute their assets.
-The power to disqualify and remove person from actin as directors and senior managers of ADIs.

Front 3

How is regulatory capital measured?

Back 3

Regulatory capital is capital as defined by prudential statements and includes
- Tier 1 (core) capital, high quality capital items.
- Tier 2 (supplementary) capital, items other than Tier 1 capital.
Tier 1 capital must contribute at least 50% of the total.

Example:
APRA imposes 8% capital adequacy ratio (CAR) for all APRA-regulated ADIs.
CAR = Capital/risk-adjusted assets = at least 8%

The calculation of the CAR requires 4 main steps.
1. Estimate the capital base using the regulatory capital definitions (Tier 1 and Tier 2 Capital) set out in APS111
2. Calculate total credit risk-weighted assets using the four risk-weighting categories for both on- and off-balance-sheet items
3. Calculate total market risk-weighted assets.
4. Calculate the CAR by dividing the capital base by total risk-weighted assets.

Front 4

Why is consumer regulation important?

Back 4

Two reasons.
- Consumers generally have unequal market power relative to creditors and other market participants.
- Consumer markets, when left to their own devices may not allocate credit in the most socially desirable manner.

Front 5

What is the BFSO and what is its role in the Australian financial system?

Back 5

The BFSO scheme provides independent and prompt resolution to disputes that are within the BFSO's terms of reference. This includes the facilitation of settlement or resolution of disputes by either the agreement of the parties, recommendation or determination.

Front 6

What are two primary reasons for bank failures?

Back 6

Banks fail because liquidity.
1. If many depositors withdraw funds from the bank simultaneously, the bank is forced to liquidate assets at a loss to generate cash to pay depositors.
2. If a bank acquires assets that are too risky relative to the banks capital base; in other words it has inadequate capital.

Capital can erode if the banks investments decline in value or loans default, which can cause the bank to become insolvent (that is liabilities are greater than its assets)

Front 7

Outline the three main ways that APRA monitors regulated institutions.

Back 7

APRA conducts prudential regulation of ADIs under three major headings; Liquidity, capital adequacy and other (including authorisation of banks, ownership and control of banks etc.)

In Broad sense, this questions could also be answered by referring to the 'tools' that APRA uses:
- Supervisory action plans
- Risk assessment and response tools
- Industry wide risk analysis

Front 8

Outline APRAs PAIRS and SOARS. what is the purpose of the system?

Back 8

APRA has developed two risk assessment and supervisory response tools for this purpose:
- the Probability And Impact Rating System (PAIRS) and
- the Supervisory Oversight and Response System (SOARS).
APRA uses these systems to:

- Assess risk
- Determine the focus of supervisory effort
- determine the level of supervisory response for each regulated institution
- define reporting obligations for each regulated institution.
- Illustrate to regulated institutions how the level of supervision they receive from APRA is determined.

PAIRS is APRA's system to assessthe probability that a regulated institution will fail and the effect such a failure would have on the financial system.
Supervisory Oversight and Response System, SOARS is then used to determine the response APRA should make to the outcome of PAIRS rating.

Front 9

Explain how the prudential framework supervises large exposures of ADIs. why is this important?

Back 9

APS221: Large exposures imposes reporting and policy requirement on ADIs. ADIs are required to report to APRA any new exposures greater than 10% of their capital base and APRA must be consulted before taking on exposures greater than 30% of capital. a quarterly report of all these exposures (10% or more of capital base) must also be provided.
APRA has the authority to impose additional capital requirements on institutions with these exposures if it believes that counterparty risk has increased

Front 10

What is contagion and what problem does it pose to financial system regulators?

Back 10

Contagion is the phenomenon in which the financial difficulties of one organisation spread to others because of the complex interrelationships between institutions and the nature of the exchange settlement systems

Front 11

Discuss the types of disputes that BFSO handles and which organisations these are generally made against.

Back 11

The big four banks have historically accounted for about 75% of complaints. Of the complaints that progressed to referral in 2005 to members, the most common complaints are related to consumer finance (32.5%) followed by deposit accounts (18.5%) and housing finance (18.2%).