Keynote address by
Lesetja Kganyago, Governor of the South African Reserve Bank,
at the Conference on Financial Intermediation in Emerging Markets
hosted by the University of Cape Town / Imperial Business School / Economic
Research Southern Africa / Review of Finance
Cape Town
7-10 December 2016
Good morning, ladies and gentlemen.
Let me begin by thanking the organisers for inviting me to address you today.
Today, I would like to talk about the evolving banking landscape, specifically the
regulatory and governance challenges that face banks in emerging markets. I would
also like to discuss the challenges relating to correspondent banking as well as the
opportunities and risks that come with fintech and digitisation developments. Last but
not least, I will touch on the concept of 'financial inclusion' and the framework for the
resolution of troubled financial institutions.
The increased volume, complexity and impact of regulatory reforms on the financial
sector in recent years are a challenge for both supervisors and banks. The concern
for supervisors is that the volume and complexity of new international standards are
placing increased demands on limited supervisory resources (particularly in
emerging markets). This may affect supervisory effectiveness.
Supervisors and the supervised institutions alike demonstrate a high demand for
staff most suitable for ensuring regulatory compliance. It remains a challenge for the
regulator, similarly to the rest of the financial sector, to attract and retain adequately
skilled human resources in the current environment of increased regulatory and
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compliance scrutiny, as the South African Reserve Bank or SARB competes with
commercial banks for the same set of skills and experience to address the regulatory
requirements imposed on banks.
The combination of the new credit, market and interest rate risk in the banking book
and liquidity standards, the changes to provisioning, capital buffers as well as the
implementation of the total loss-absorbing capital (or TLAC) and resolution
frameworks are specific challenges. Banks are also facing growing compliance
challenges from the increase in new requirements, which further affect their
resources in order to keep up with regulatory developments.
A concern we hear frequently relates to the potential risks and impact on banks of
the interaction of the various new regulatory and supervisory standards. The
understanding of these risks and their likely impact is necessary to avoid the
unintended consequences of the cumulative modification of regulatory standards.
As a member of the Basel Committee on Bank Supervision, South Africa
continuously strives to strengthen its regulatory and supervisory framework as well
as to promote and enhance the stability of its financial system.
The G-201, the Financial Stability Board and the Basel Committee on Banking
Supervision have made significant strides in future-proofing the resilience of the
global financial system and finalising the core elements of the regulatory reforms.
The first phase of this new global regulatory initiative focused on ending the 'too big
to fail' problem in order to reduce the risk to the fiscus and taxpayers. In particular,
this has meant increasing the resilience of individual institutions.
The G-20 has tasked the Financial Stability Board with developing a framework and
ensuring that the relevant international standard-setting bodies prepare new
important financial institutions (SIFIs). Regulatory bodies have since developed
common standards, monitored by mutual peer reviews, to ensure that economies
can still enjoy the benefits of global trade while reducing the risks caused by a
financial crisis.
South Africa is also imposing new regulatory requirements, especially on banking
groups, which are material subsidiaries of global systemically important banks (or G-
SIBs). The requirements being imposed on these G-SIBs and their material
subsidiaries in the emerging markets have the potential to create an uneven playing
field with other locally incorporated banking groups and carry the consequence of
bringing unwanted risk into the South African financial system.
The second phase of the global reforms involves authorities reducing the costs from
the failure of a financial institution. In a document titled Key attributes of effective
resolution regimes for financial institutions, the Financial Stability Board has set out
key principles to ensure that the consequences of the failure of individual financial
firms are minimised.
South Africa has implemented Basel III through the 2013 Bank Regulations and the
Banks Amendment Act 22 of 2013. A new prudential framework for insurers will be
introduced through the Insurance Bill now being considered by Parliament. This
prudential framework may be expanded to other financial sectors in the near future
to ensure a consistent regulatory approach. These reforms will support the shift
towards the coming Twin Peaks approach to regulating the financial sector in South
Africa. Making financial institutions safer is important, but the possibility of failure
remains.
Considering the fact that South Africa is an emerging market and that South African
banking groups operate mainly in other emerging markets, some of the regulatory
requirements developed or being developed could have a negative impact on the
South African banking system and/or financial market, such as the Net Stable
Funding Ratio or the proposals being developed around TLAC. Some of these
requirements may in fact be more suitable for, or may have been calibrated to be
more applicable in, developed markets; they may not always be fit-for-purpose in
emerging markets such as South Africa.
The large banking groups regulated by the SARB mainly have operations on the
African continent and/or in other emerging markets. Some supervisors on the
continent and in other emerging markets where South African banks have operations
have yet to implement the regulatory reforms. This imposes an obligation on the
SARB, which is the only African member of the Basel Committee on Banking
Supervision, to effectively supervise the subsidiaries of South African banks in the
rest of the African continent and other emerging markets.
Failure to do this creates inconsistencies in how regulatory capital and other risks
are measured, and in how supervisory standards are applied. Another example of an
inconsistent application of international standards is different supervisory
expectations in Africa of the same international standards relating to the use of risk
models under the advanced measurement approaches.
Although there is a need for more standardisation and comparability of risk-weighted
assets across banks and jurisdictions, the SARB believes that there remains a need
for banks to be able to apply quantitative risk models to adequately measure risk
across portfolios and/or risk types. If the expectation is to reduce the use of risk
models in measuring regulatory capital, then banks will become less inclined to
invest in the use of test requirements imposed under Basel II.
The SARB believes that the use of test requirements has made a significant positive
contribution to the way in which banks measure and manage risk, and that this has
led to improved risk management and pricing of risk across the regulated entities.
The SARB supports the risk models under the advanced measurement approaches
to be used.
The regulatory framework is beginning to succeed in meeting its objective of
addressing the 'too big to fail' problem as G-SIBs are in general adjusting their
balance sheets and evaluating their complex business models to meet strengthened
regulatory demands in many areas, especially in respect of higher-quality capital
ratios and the difficult economic environment we are currently facing.
As you know, these developments have spilled over into South Africa when a G-SIB
headquartered in the UK2 announced its partial withdrawal from a domestic
systemically important bank, or D-SIB, mainly due to global regulatory pressures. As
a result, we might face various policy considerations going forward as we need to
carefully assess the effect and potential impact of home regulatory requirements on
local markets and if we are not perhaps importing structural instability (uncertainty)
into our markets.
An unintended consequence of the reforms to end 'too big to fail' is deglobalisation,
resulting in G-SIBs reducing their activity in some emerging market economies,
which in turn has a potential impact on the stability of those financial systems and
policy implications.
Another consequence of the regulatory reforms is that the regulated banking system
is being scrutinised and regulated more strictly but no similar requirements or
oversight are currently imposed on the shadow-banking environment. This is being
discussed in the international meetings we attend.
Let me turn to digital innovations. Innovative technologies are emerging as a
potentially transformative force in financial markets. 'Fintech' is used as a broad term
for technically enabled financial innovation that results in new business models,
applications and/or products with an associated material effect on financial markets,
institutions and the provision of financial services.
Coping with opportunities and threats from innovation and technology remains a key
area for banks and continues to pose challenges for supervisors. New technologies
may be outpacing the ability of banks to put in place adequate controls and
information technology (IT) systems. Furthermore, supervisors do not necessarily
have sufficient expertise to assess a bank's capability in this area. Building capacity
to address IT needs and cyber-risks is therefore becoming more urgent in the
context of the growth of fintech.
With greater reliance on technology comes a greater risk of cyberattacks. The risk of
cyberattacks on the financial sector has dramatically increased in recent years. The
financial sector stands out as a particularly attractive target for cyberattackers.
ambition and capacity to
Cyberattackers' manipulate and gain direct access to
financial data and services may lead not only to severe losses of trust in the global
financial sector but also to high costs for market participants and customers.
today's financial systems being globally
With interconnected and dependent on
technical core infrastructures and services, cybersecurity incidents compromising
such a core function could, by contagion across sectors and jurisdictions, even
develop a capacity to undermine global financial stability.
The SARB joined the Alliance for Financial Inclusion (AFI) during 2016.
Representatives from the SARB have attended AFI Global Policy Forums in the past
two years. We are also a member of the AFI African Mobile Phone Initiative (AMPI).
By participating in international forums, it is clear that the solutions are probably in
fintech, specifically mobile phones and regulatory sandboxes.
Financial inclusion covers aspects of affordability and the ability to use financial
services, which involves a certain level of financial literacy. The SARB has not been
actively driving financial inclusion, but it has done some work on financial literacy.
Going forward, financial inclusion will be an ancillary objective for the Prudential
Authority in terms of the Financial Sector Regulation Bill.
Derisking and deglobalisation contribute to global financial market fragmentation and
could end the open and integrated structure we are all striving for. Derisking can
create financial exclusion.
Digital innovation can also be used to enhance global financial inclusion. A peer
exchange between countries and regions on emerging policy practices for achieving
digital financial inclusion could help those who lack access to financial services to
better steer their implementation efforts.
We believe that the global phenomenon of derisking through a decline in
correspondent banking services requires priority and expedited action. This is one
area where proportionality in the implementation of regulatory reforms is very
appropriate. Evidence reveals that the picture is especially bleak in the sub-Sahara
Africa region where some countries are constrained since they are potentially unable
to process payments across international borders.
To date, a limited number of correspondent banking relationships with South African
banks have been terminated but derisking has not had a significant impact on cross-
border flows from a South African point of view. However, South African banks are
being subjected to heightened scrutiny by foreign counterparts. Markets in all
jurisdictions must have access to a well-functioning global financial system in order
to develop and prosper. This development goes straight against our goal of financial
inclusion, which is a critical element for long-term global economic growth and for the
elimination of poverty.
In conclusion, the fact that the South African banking sector remains profitable and
adequately capitalised is not a cause for complacency. The future performance of
the domestic banking sector could be adversely affected by a number of factors,
including constrained household-sector balance sheets, a weak domestic economic
growth outlook, the subdued global growth outlook, the effects of the threat of a
sovereign downgrade, and increasing regulatory compliance pressures. As a
regulator, the SARB will remain vigilant in monitoring and, where possible and
appropriate, mitigating the impact of the challenging environment in which domestic
banks are operating.
Thank you.