Three Major Things UK Financial Institutions have to Report

Posted by: Jay Redman
Category: Tax & Accounting
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In the last year, UK banks have had to contemplate the economic impact of COVID-19 and various challenges stemming from Brexit.  Regulatory reform, regulatory investigations, the cocktail of low-interest rates and high capital requirements have not positively impacted the UK companies. 

After the 2008 Great Financial Crisis, a range of domestic and global norms were put into place to ensure that banks have sufficient capital to pay their short-term debt and cover their debt obligations over the long run. There are several types of financial institutions, but this article will look at three things that banks have to report.

Despite leaving the EU, UK policymakers intend to make the United Kingdom an attractive destination for capital and investment. This means it must equally ensure its financial sector is safe using a range of metrics that will be analyzed in this article. Within these metrics, we look at key items that UK banks must disclose to regulators, such as illiquid assets, debt holdings and income-generating activity. 

Introduction

The United Kingdom has two main regulators, which are the Financial Conduct Authority (FCA) and the Prudential Regulatory Authority (PRA). They are responsible for the soundness of the UK financial system, especially the banking sector, which is one of the largest contributors to UK GDP.  The Financial Services and Markets Act gives these organizations the right to police institutions and ensure they do not pose a risk to the financial system. 

Similarly, these sets of laws require banks to comply with and these include the prudential regulatory Authority Handbook (PRA), the FCA handbook, and various other legislative requirements that are necessary for UK banks. 

Capital Conservation Buffer

The capital conservation buffer is designed to ensure that banks are not the only solvent but that their capital is equally protected during a downturn. During the 2008 Great Financial Crisis, the government across Europe and North America had to bail out banks. In order to avert such an outcome, all banks must have a capital conservation buffer, which protects their assets during a downturn and ensures they have sufficient capital. 

The Capital Conservation Buffer requires banks and financial institutions to disclose the incomes, trading activity, and assets held across bonds, equities, commodities, real estates, and other derivatives. Strict reporting entails reporting on aspects of their balance sheets. 

Liquidity Coverage Ratio

The liquidity coverage ratio, or LCR for short, refers to the amount of highly liquid assets held by a bank or financial institution. It ensures that they have the ability to meet their short-term debts, and this ratio is used for generic stress testing to ensure that banks are resilient to unanticipated market-wide shocks. 

This disclosure was put in place by the BASEL committee, ensuring that banks have the necessary capital to fund their payments or debts for over 30 days. The liquidity coverage ratio can be seen as a buffer that protects banks and other financial institutions from undue stress. 

Countercyclical Buffer

The countercyclical buffer is used by the Financial Policy Committee at the Bank of England (BoE) as a tool to adjust the resilience of the banking system to shocks. In order to achieve this, commercial banks and financial institutions must disclose aspects of their balance sheets and income statements, such as the amounts of cash reserves they hold, the number of liquid investments they make, and their total debts at any given period.  The countercyclical buffer is necessary because it enables banks to cushion shocks or any losses they may incur during a downturn. It equally enhances the overall resilience and viability of the banking system in the UK. 

In order to achieve this, the FPC identifies and monitors risks that are visible on banks’ balance sheets by either raising or reducing their capital requirements. This approach equally reduces systemic risks within the financial system and enables effective monitoring of both debts, capital, and credit markets. 

Laws governing financial sector disclosure

In 2020, for example, the tabled a proposal to reduce the requirements for small and large banks in order to stimulate credit to the financial sector. Although smaller banks are affected by higher capital requirements, it has an implication of their ability to give credit to the real economy. 

For all the above reporting requirements, the Prudential Regulatory Authority collects real-time information on illiquid assets and one-way positions, which are usually used in the process of stress testing banks’ resilience to external or nationwide shocks. Such information may be used, for example, to ascertain the capital adequacy of a bank or financial institution’s capital as required by Pillar 2. Pillar II states that banks must submit information on market risk unless such data has already been submitted as part of the Standard Stress testing Programme. 

It is important that disclosure of assets, income and revenue-generating activity may all be part of the stress tests. The reason for this is that regulators have to operate on supervisory judgment and a raft of information may be needed from banks to ensure they comply with banking standards and regulations. 

Conclusion

The UK financial sector comprises banks and other financial institutions. In order to prevent system-wide risks from causing the banking sector and financial crisis, regulators require banks and other financial institutions to periodically report on their assets and their relevant compositions. These exercises are used to design guardrails against possible shocks that could badly impact the banking sector. 

FAQs:

What are high-level assets?

For an asset to be considered high-quality and liquid, it must pass a number of criteria. Specifically, it should be easily convertible to cash regardless of whether this is a level 1 asset, 2A, or 2B.

What are high-level assets?

For an asset to be considered high-quality and liquid, it must pass a number of criteria. Specifically, it should be easily convertible to cash regardless of whether this is a level 1 asset, 2A, or 2B. 

Why was ringfencing implemented?

Ringfencing is used to ensure that the retail banks and investment banks remain separate. If a retail bank fails, this will not cause taxpayers to automatically finance or rescue the investment or retail bank in question. 

Author: Jay Redman