Responding to the post-Brexit environment, Director of Policy & Risk Gerry Cross

23 December 2016

This article was first published in the January 2017 edition of Finance Dublin

The Central Bank of Ireland's director of policy and risk Gerry Cross outlines the pre and post-Brexit work undertaken by the Central Bank to ensure it can 'provide high quality and credible financial regulation and supervision designed to promote financial stability, protect consumers and support effectively functioning financial markets' - which he describes as 'by far the most valuable contribution that the Central Bank can make to the attractiveness of the jurisdiction as a location for financial services firms.' He also outlines some of the Central Bank's expectations in light of 'material number of inquiries' it has received so far from firms looking to relocate from the UK to Ireland, adding that 'we are alive to the logistical and practical challenges in doing a number of things in what may be a relatively short timeframe, and have no objection to thinking constructively with firms about how this sequencing challenge might be addressed.

About 18 months ago the Central Bank of Ireland started seriously thinking about and planning for a possible ‘leave’ vote in the UK referendum. While, like others, we would not have said that we expected the outcome, we were well prepared for it when it happened.

From a regulatory and supervisory perspective the Central Bank’s primary work, both in the period leading up to the referendum, immediately thereafter, and on a continuing basis has been to ensure that regulated firms are addressing and planning appropriately for the impacts. As part of our preparations we had engaged extensively with regulated firms across all sectors, seeking to ensure that they also were well prepared for the possibility of a negative outcome. It remains a key part of our strategy to continue to ensure that regulated firms consider and adapt to the potential implications for their business models and revenue streams.

Our planning and thinking has progressed from examining the immediate impacts of the leave vote, to considering some of the structural, political and policy repercussions. The precise long-term implications of the UK withdrawing from the EU on the Irish financial sector is difficult to determine - and will ultimately depend on the timing, progress and final outcome of the upcoming negotiations.

Indeed, the most significant feature of the post-referendum period is that of uncertainty. This looks likely to continue for an extended period, as we do not know what the future arrangements between the UK and the EU will be, both generally and in relation to financial services access and regulation. Against this backdrop of uncertainty, the Central Bank’s objectives remain clear: to safeguard stability, protect consumers, and ensure a well-functioning financial system.

One important aspect of the UK referendum outcome is that many financial groups based in the UK are considering what changes they might need to make to reflect the changing relationship between EU and the UK. In this article, I will provide some reflections on the Central Bank approach to engaging with and potentially authorising and supervising financial firms who are approaching us to discuss their group structural and geographical arrangements for a post-Brexit world.

As Governor Lane indicated in August, we are committed to providing transparency, consistency and predictability with regard to our regulatory and supervisory responsibilities to mitigate some of the uncertainties facing financial institutions. It is not our role to promote Ireland as a location for doing business.

Authorisation process

In deciding on applications for authorisation to do business in Ireland and Europe, the Central Bank adopts a structured, robust and risk based process that seeks to ensure that only those firms that demonstrate compliance with EU and Irish authorisation requirements are authorised. We interpret our mandate as requiring us to carry out our tasks effectively, efficiently, and on the basis of high quality outcomes.¹ Our approach has been set out more fully in a number of recent speeches by Central Bank Staff.

Firms seeking authorisation in Ireland will find the Central Bank to be engaged, efficient, open and rigorous. We have considerable experience in dealing with authorisations. The Central Bank regulates approximately 10,000 financial services providers (including banks, credit unions, investment funds, insurance firms, payment intermediaries, etc.) and continues to undertake a very large number of new authorisations each year.

While the principles remain the same, the practical approach differs depending upon the type of entity. For example, in the case of qualifying investor fund authorisation, the turnaround time is a matter of days. In other areas the timing, often prescribed by EU law, is a matter of months once the application is complete. And then there is a whole spectrum in between. The actual time needed for an authorisation will depend on the type of business for which a licence is being sought, the approach of the applicant and how well it is able to demonstrate that it is meeting the authorisation standards, and the extent to which the authorisation procedure can be considered more or less standardised, more or less complex.

Making a complete application can in itself be a challenging exercise for firms. In addition to initial exchanges of the type of which we are seeing at the moment, the Central Bank is open to meeting and engaging with firms in advance of the completed application. This can be particularly helpful in more complex cases. Of course, we do expect firms to be well-prepared for such pre-application exchanges.

Supervisory Expectations

At the Central Bank we have seen a material number of enquiries that are Brexit related. To date most of these engagements have been preliminary. Though recently a number of these enquiries have advanced further. When we engage with these firms, we are generally asked a number of similar questions. Some of the main questions raised and how we respond are the following:

Substantive presence

Where we are asked to consider the authorisation of a firm in Ireland, we will want to be satisfied that we are authorising a business or line of business that will be run from Ireland and which we will be effectively supervising. We will expect there to be substantive presence.

In general, we would expect that the Board and the management of the entity are located in Ireland such that the business is run from here. We will want to be satisfied that the mind and management of the entity are located here; and decisions are taken here. Another way of looking at this is that we will want to be very clearly satisfied that the risks that are associated with the business of the entity are governed, remunerated, managed and mitigated in and by that entity. That obviously flows through to the staffing that we would expect to see.

Business models

We have seen enquiries and interest from a significant number of firms. These firms are of many different types and cover a wide range of activities. In an open market economy it is important that participants are able to take up new businesses, and engage in new activities. The system depends upon freedom of economic activity.

Financial firms are regulated for a reason. Their failure can put deposits, client assets, claims, premiums or members funds at risk. Some business models are more risky than others and require more safeguards - for instance, underwriting foreign insurance risks requires deep knowledge and expertise of those markets. A few business models can be ill-conceived, such as taking on far-flung underwriting risks in very distant jurisdictions on an Irish balance sheet, or selling products widely seen as unsuitable.

For any authorisation process we are focused on the firm's own understanding of the risks, and how they are managed and mitigated. We also seek to ensure that the customer’s interests are central to the business proposition, from the suitability of products to the treatment of claims. This is the role of a regulatory authority. Proper business models, with convincing risk identification and management, focus on consumer needs, suitable products, sound finances, strong boards and executives, can be expected to be approved, whether or not such business models already exist in Ireland.

Outsourcing (and insourcing)

It would not make much business sense to place a disconnected head in Ireland while the operations are run and the business is conducted elsewhere. However, the Central Bank does not have any per se difficulty with outsourcing and/or insourcing up to an appropriate point. Such approaches form a part of many business models. They should not be considered problematic in themselves.

It must also be said however that outsourcing and insourcing can also be the source of material risks. So our focus in this regard will be on ensuring that they are done well and in line with sound practices. In particular we will be focused closely on the principle that while an activity may be outsourced, responsibility for it may not. We will always want to see that there is the level of expertise and seniority within the entity to effectively oversee and manage such outsourcing.

Importantly, a firm may not outsource to the extent that it is effectively hollowing out an important part of the regulated activity.

Capacity

We are also asked whether the Central Bank is in a position to cope with a large volume of applications over what might be a relatively short period of time. And then to carry out the oversight activities that will be required.

The Central Bank’s skilled and motivated workforce is committed to meeting these challenges. Our planning for next year, which is currently being finalised, reflects the additional resources needed to deal with applications that will come our way. This takes the form both of an increase in staff, that is, additional staff recruited to the Central Bank, in areas where we already know that we will need additional numbers, and contingency numbers for those areas where we think they might be needed but it is not yet clear that they will be.

Of course, it will be a continuing challenge for us to recruit and retain the highly skilled people that are needed to effectively supervise sophisticated financial services firms, and this challenge will increase if and when more firms enter the jurisdiction and begin staffing up.

Conclusion

Regulatory competition should not be a determining factor in where firms chose to seek authorisation. What determines where financial firms choose to locate themselves includes a wide array of factors. These include the track-records of different financial centres; political stability, national legal and tax environments; language and cultural factors; infrastructure; quality of life attractiveness; and of course the regulatory and supervisory environment. Moreover, since the financial crisis the EU has advocated a more harmonised approach to financial regulation and supervision, which mitigates the possibility of regulatory arbitrage across Member States.

The Central Bank does not have a role in seeking to attract business to Ireland. Indeed the promotional mandate that it had pre-crisis, which was seen to have contributed materially to the development of the crisis conditions, has been expressly removed from our mandate.

We do, of course, recognise some of the practical constraints that firms are facing - particularly around some of the timing issues. Decisions regarding moving business lines, locating staff, assessing infrastructure, seeking authorisation and model approval, understanding the requirements of compliance with legal and tax frameworks in a different jurisdiction, and so on, are complex and have far-reaching implications on not just the structure and business model of firms themselves, but also on the financial system itself and the provision of products and services delivered to the real economy.

We are alive to the logistical and practical challenges in doing a number of things in what may be a relatively short timeframe, and have no objection to thinking constructively with firms about how this sequencing challenge might be addressed.

Our role is to provide high quality and credible financial regulation and supervision designed to promote financial stability, protect consumers and support effectively functioning financial markets. A key component of a successful and attractive jurisdiction for the location of financial services activities is a strong and independent regulator, with international credibility. Delivering this is, in my view, by far the most valuable contribution that the Central Bank can make to the attractiveness of the jurisdiction as a location for financial services firms.

¹See our six monthly Regulatory Service Standards Performance Report which sets out both the standards to which we are committed in terms of dealing with authorisation applications in the different sectors and our performance against those standards.