Financial Sector Supervision Lessons from Recent Turmoil

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					Financial Sector Supervision:
 Lessons from Recent Turmoil

               William Rutledge
          Executive Vice President
      Federal Reserve Bank of New York
                18 June 2008

         The views expressed here are not necessarily those of
  the Federal Reserve Bank of New York or the Federal Reserve System
   Themes from the Senior Supervisors Group
    (SSG) review

   Historical lessons and new elements

   Supervisory response to crisis

Themes from SSG review
   Effectiveness of firm-wide risk identification

   Rigor of valuation practices

   Effectiveness of balance sheet and liquidity

   Quality of risk metrics

   Quality of stress testing

Effectiveness of
firm-wide risk identification
   Successful firms
       Emphasized comprehensive, firm-wide view in
        assessing risk exposures of the firm
       Routine discussions of evolving market
        conditions and implications for risks across firm

   Less successful firms
       More “silo”-ing of business line risks and
       Less emphasis on consolidated view

Rigor of valuation practices
   Successful firms
       Emphasized mark-to-market discipline
       Developed in-house pricing models and
        specialized staff expertise

   Less successful firms
       More passive approach to valuation
       Heavier reliance on external assessments

    Effectiveness of balance sheet
    and liquidity management
   Successful firms
       Before turmoil: strong processes around allocation
        and pricing of liquidity
       During turmoil: actively managed positions using
        quantitative and qualitative information

   Less successful firms
       Not as focused on consolidated positions
       Weak or missing controls, particularly around
        contingent liquidity (broader shortcomings in
        contingency funding planning)
Quality of risk metrics
   Successful firms
       Recognized VaR limitations
       Used a wide range of risk measures
       Changing correlations in stressed market
       Integrated metrics across business lines

   Less successful firms
       Limited alternative views on risk
       Less aware of firm-wide concentrations

Quality of stress testing
   Successful firms
       Blending of quantitative and qualitative
       Senior management involvement and support
       Link to business strategy

   Less successful firms
       Less flexible MIS
       Limited senior management support

New wine, old bottle
   Some historical lessons reinforced
       Asset bubbles breaking
       Risk management principles

   New elements for banking organizations in
    the market turmoil
       Complexity of instruments
       Importance of funding liquidity
       Increased importance of market risks
Supervisory response to crisis

   Supervision of individual firms

   International and domestic guidance

   Capital raising activities

   International supervisory coordination
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