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					     Sovereign Investment Partnerships
Executive Forum on Central Bank Reserves and
      Official Sector Asset Management

                  Governance issues in the
                  central bank investment
                  function: the case of Banca

 Franco Passacantando, Managing Director
 Central Banking, Markets and Payment System Area

  Washington, April 27-29, 2009
                                      Banca d’Italia’s financial portfolios
                                                        (as of Dec 31st 2008)

             Official reserves                                                            Investment portfolio
(forex EUR 32,4 bln; gold EUR 48,9 bln)                                                           (EUR 91,0 bln)
                                                                                              Equities 5,2%             Funds & ETFs 1%

                                                                   Other bonds 0,3%

                              USD 27,3%*

GOLD 60,2%
                                         GBP 5,2%

                                                            YEN 5,8%                               Govt. Bonds 93,6%

                                                    CHF 0,3%
                                                  Others 1,2%
  Source: Annual Report
*The figure includes temporary operations in USD, carried out within the USD Term Auction Facility programme, for an amount of USD 6.141 mln.
     The main drivers of change

                                Weakening of the links between reserve management
                                and foreign exchange policy, after the introduction of
 Changing environment           the euro as a single currency

                                Growing importance of the return generated by the
                                Bank’s foreign reserves and investment portfolio

                                 Enhance specialization
Pressure      to     increase
efficiency , effectiveness
                                 Avoid duplications and exploit synergies

                                 Enhance independence of risk management and
 Enhancing horizontal and        control
 vertical governance
                                 Protect governing bodies from reputational risk

       The recent reform (Dec. 2008)

   Mon. Policy and Exch.Rate Dept.                Asset Management Dept.

   Mon. Pol.          Reserves                    Own Fund                 ELA
                  (F.O., B.O., M.O.)            (F..O., B.O., M.O.)

    Central Banking                    Financial Investment           Risk Management
      Department                           Department                    Department

Mon. Pol.       ELA              Front Office      Back Office          Middle Office
                                                                      (RM e asset allocation,
                                                                            Op. Risk)

 NOW            BEFORE

    Departments involved and respective functions

Central Banking Department: monetary policy operations,
foreign exchange interventions, financial stability-related
functions (ELA).
Financial Investment Department: investment of the
Bank's own funds, foreign currencies, gold reserves and
reserves held on behalf of the ECB.
Risk Management Department: assessment and control of
financial and operational risk on all assets of the Bank;
proposals for strategic and tactical asset allocation.

The present structure

1. The merger between reserve management and
own funds management activities

  Integrated approach towards asset management
  Increasing similarities   between   fx   reserve   portfolio   and
  investment portfolio
  Moving towards an integrated risk management approach at
  enterprise-wide level

  Efficiency reasons

   Exploit the synergies arising from the concentration of
   investment activities within a single team
   Avoid duplications and costs related to the ‘twin’ dealing rooms
   (we merged 3 dealing rooms into a single one!)

The merger between reserve management and
own funds management activities (ctd.)
    The institutional reasons why a central bank holds foreign
    reserves and own funds are different.

    However, risks of using ‘inside information’ can be mitigated.

     Foreign reserves must be characterised by a particularly low
     risk return profile and high liquidity.

    The merger between operational and decision making
    structures does not prevent the definition of different profiles
    for different components of the portfolio.

       2. The separation between investment activity
          and monetary policy implementation

An adequate degree of segregation mitigates the risk that inside information
about monetary policy actions is used when performing investment
activities (Chinese Wall)             Reputational benefits
Synergies arising by single structures and unique teams for monetary policy
and investments are very limited, as the two activities are quite different by
Financial stability-related activities (ELA) are increasingly linked with
monetary policy operations.

One back office for monetary policy (whose volumes have increased
enormously with the recent financial crisis), one back office for
investments       A duplication to be avoided?

    3. The separation of the risk management
       function from operational activities

Achieve a higher degree of independence of the risk manager/controller

Stimulate a constructive ‘debate’ between risk managers and portfolio

 Excessive distance between risk managers and portfolio managers
 may exacerbate tensions and develop diverging professionalities

 Single reporting line at the level of Managing Director
 High-level coordination achieved through Risk and
 Investment Committees
           The decision making process for the investment of
           foreign reserves and own funds – The Committees

                  Strategic and Financial Risk Committee

 Members          One Board Member (Chairman)
                  Managing Directors for: Central Banking, Markets and Payment Systems,
                   Economic Research, Accounting and Control Areas
                  Heads of: Risk Dept., Investment Dept., Central Banking Dept.

Main Activities    Supports the Governor’s decisions on investments.
                   Assesses the Bank’s strategic asset allocation and risk budgeting.
                   Evaluates investment results.
                   Strenghtens the consistency between the Bank’s financial decisions
                  and its balance-sheet developments.

Frequency         Semi-annual

                                  The Committees (ctd.)

                                Investment Committee

   Members        Managing Director for Central Banking, Markets and Payment Systems Area
                  Heads of: Risk Dept., Investment Dept., Central Banking Dept.
                  Two members of the Research Department.

Main activities  Assesses the tactical allocation of investments in foreign reserves and
                   own funds.
                  Evaluates results for each investment portfolio.


          The decision making process - Interactions


Strategic and Financial    Strategic asset alloc.
Risks Committee (SFRC)      Risk budget/limits

 Risk Management Dep.
  Strategic Benchmark                                               Risk Management
                           Investment Committee                           Dep.
                                                                    Tactical Benchmark

                                Tactical bmks
                             (within the limits set by

                                                                    Active management
                          INVESTMENT PORTFOLIOS                     by Investment Dep.