Prudential Regulation Authority Rulebook

5.1

Once the PRA has considered the effectiveness of supervision that it is possible to exercise given the understanding it has of risks in the wider group, including the level of co-operation and information it is receiving and the controls in place, as well as the size and systemic importance of the international bank, it will consider whether the degree of operational integration or separation is commensurate with those factors. The aspects of integration considered are:

1. (a) governance;
2. (b) capital and liquidity;
3. (c) booking risk management;
4. (d) operational resilience;
5. (e) resolution strategy; and
6. (f) structural profitability.

5.2

There is no automatic or fixed outcome that the PRA applies in terms of the degree of integration or separation that is appropriate, but the PRA applies a graduated set of expectations which are tailored to each firm’s circumstances (see also Chapter 6). The better expectations on effective supervision are met, the more the PRA is content for a business in the UK to be highly integrated with the wider foreign group, or with the foreign operations of the firm if it is operating through a branch.

5.3

Where the information or co-operation the PRA receives are such that the PRA’s expectations for effective supervision are not fully met given the degree of operational integration that an international bank currently has, then the PRA will consider taking measures to require the UK operations of the international bank to be more independent.

5.4

The PRA is likely to expect that there is a greater degree of independence of the governance committees of an international bank subsidiary when the PRA has limited information on how much influence is being exerted by group management, when the degree of influence that UK management has on the group’s strategy is inadequate, or when management of the UK entity is dominated by group strategy. This could be in the form of the proportion of independent nonexecutive directors on the board of the international bank, for instance.

5.5

As set out in SS5/16, the PRA also considers it generally undesirable for some key positions on the board of a subsidiary, such as chair, chair of the key board sub-committees, chief executive, or finance director, to be occupied by executive members of the group or parent board. In circumstances where these appointments may be permissible, such as for certain smaller less complex firms, the firm should be able to explain how its governance arrangements will otherwise satisfy the need for independent oversight of the executives.

5.6

Where the PRA has concerns about the effectiveness of supervision over UK branches owing to their relationship with their head office, other UK branches, or UK subsidiaries, or any wider group, additional governance requirements may be considered. For example, to ensure appropriate governance at the UK branch level, the PRA may require the firm to apply for additional SMFs (such as Chief Risk Officer (CRO), Chief Finance Officer (CFO), Chief Operating Officer (COO), or a group executive under SMF7), or to create a local management committee (or equivalent) for the branch.

5.7

The PRA’s assessment of the PRA buffer will take into account the extent to which wider group risks are visible to the PRA, taking into consideration the systemic importance and the degree of integration of the international bank. Capital is not set at UK branch level.

5.8

As explained in the SoP ‘The PRA’s methodologies for setting Pillar 2 capital’, where the PRA assesses a firm’s risk management and governance to be significantly weak, it may also set the PRA buffer to cover the risks posed by those weaknesses until they are addressed.^[44] This will generally be calibrated in the form of a scalar applied to the amount of Common Equity Tier 1 (CET1) capital required to meet the Total Capital Requirements (TCR). The scalar could be up to 40% of the total CET1 TCR.

5.9

A firm’s exposures to entities in its own group are generally treated as exposures to a third party and are subject to large exposure limits. Firms can however apply to the PRA for a non-core large exposures group permission, which allows firms to apply a higher large exposure limit to certain entities within their group provided these entities meet certain conditions.^[45]

5.10

These permissions increase connectivity with the wider group and increase the contagion risk to the UK entity. For this reason, the PRA will still make a wider judgement whether it is appropriate to grant these permissions, even where the conditions are met. The PRA will consider whether group entities are strongly incentivised to support each other, and whether the treatment is consistent with the overall business model of the firm and furthers the PRA’s safety and soundness objective.^[46]

5.11

In deciding what liquidity guidance to give a firm under Pillar 2, the PRA will consider how integrated the UK business is with that of the wider group, and the quality of its relationship and the information exchange with the home state supervisor.^[47]

5.12

The liquidity guidance may be flexed by adjusting the Pillar 2 liquidity add-ons, applying different preferential treatments of intragroup liquidity flows in the Liquidity Coverage Requirement, or by using committed facilities from parent entities.

5.13

Where the PRA has concerns about the liquidity position of the firm or the effectiveness of supervision over branches, the PRA may set additional branch liquidity requirements to ensure appropriate liquidity at the UK branch level, for example by requiring the holding of additional liquidity to ensure sufficient resources are held locally to allow time to respond to a stress at the branch.

5.14

The PRA has a number of high-level expectations of how firms should manage their booking arrangements for trading activity, as set out in Box 2. These are aimed at ensuring that a firm’s booking arrangements are transparent and well-controlled.

5.15

The PRA is open in principle to a wide range of booking models. It recognises that trading activity is often run as a global business model. The UK entity may rely extensively on its affiliates for business origination and for risk management services, but the UK entity remains responsible for ensuring that the level of risk management is appropriate to the risks undertaken.

5.16

Where a firm meets the PRA’s expectations for booking models, the PRA is open to hosting highly integrated and large-scale trading operations.

Where a firm is not able to meet these expectations, the PRA may require more local risk management or limit the degree of connectivity that the firm has with the rest of the group so that less risk is brought into or transferred out of the entity. The PRA may consider a firm unable to meet these expectations if:

• its controls are not commensurate to the risks posed by a complex booking arrangement;
• there is inadequate visibility of the group risk profile, inadequate information sharing, or inadequate home state co-operation; or
• booking arrangements would impede the execution of the resolution plan.

5.17

The PRA expects firms to observe high standards in the management of operational as well as financial risks. If the PRA does not have sufficient understanding of how operational resilience is assured when an international bank is dependent on group or overseas systems and policies, then the PRA would expect those systems or policies to be improved and made clear to the PRA, or for the international bank to become less dependent on those systems.

5.18

The PRA may not have sufficient confidence regarding resolvability if, in consultation with the Bank as resolution authority:

• the group resolution strategy lacks credibility or feasibility;
• it is not clear if it is able to rely on the home state supervisor and home resolution authority to execute the group’s resolution strategy, including the home state supervisor and home resolution authority’s operational capability to implement a resolution and put in place adequate coordination mechanisms between home and host authorities; or
• it has concerns about the arrangements for the subsidiary or its resolution group to deliver orderly resolution, taking into account the resolution outcomes that are broadly comparable outcomes as those set out in the Bank’s RAF SoP.^[48]

5.19

Where the PRA does not have sufficient confidence over the resolvability of a subsidiary and its resolution group, this may mean that it would be necessary for the UK subsidiary to be supervised on a more standalone basis, consistent with a MPE resolution strategy that would be determined by the Bank.