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More Regulatory Hoops: The U.K.’s Proposal to Ring-Fence Banks

October 13, 2014
Circular fence

Photo by Bev Norton on Flickr; some right reserved.

Last Monday, the Bank of England’s Prudential Regulation Authority published four proposals aimed at protecting customers if a deposit-taking bank or an insurer collapses. The Prudential Regulation Authority (“PRA”) is responsible for the prudential regulation and supervision of U.K. banks, building societies, credit unions, insurers and major investment firms.

The PRA’s proposals implement the U.K.’s 2013 Banking Reform Act, which requires U.K. regulators to implement rules to “ring-fence” core banking services in the U.K. from activities associated with trading and financial interconnectedness. Much like the U.S. Volcker Rule, the ring-fencing is meant to separate a bank’s retail banking operations from proprietary trading activities. The Banking Reform Act is also intended to ensure that ring-fenced banks, and groups containing ring-fenced banks, can be resolved in an orderly manner with minimal disruption to the provision of core services.

Under the Banking Reform Act, banks with core deposits greater than £25 billion will be required to ring-fence their core activities beginning on January 1, 2019. The PRA’s Consultation Paper (“CP”) 19/14, “The implementation of ring-fencing: consultation on legal structure, governance and the continuity of services and facilities,” sets forth the PRA’s proposed expectations. All banks that expect to be subject to ring-fencing requirements by 2019 must submit a preliminary plan of their anticipated legal and operating structures to the PRA by December 31, 2014.

The second consultation, CP20/14 “Depositor Protection,” would implement the European Deposit Guarantee Schemes Directive and proposes new rules that would allow customers to continuously access the deposits covered by the Financial Services Compensation Scheme (“FSCS”) if their deposit-taker fails. The proposal includes a mechanism to transfer accounts to another financial institution in the event of a deposit-taker’s failure or enable faster pay-out of compensation. The proposal also introduces additional FSCS coverage for deposits that are temporarily higher than the £85,000 compensation limit.

Additional elements of the Depositor Protection proposal include new disclosure requirements for firms to inform depositors about the compensation arrangements; the removal of the existing opt-out so that firms with fewer than 5,000 eligible accounts would no longer be able to opt out from electronic single customer view requirements; the requirement that firms create and maintain systems that can separate eligible covered and uncovered balances and place the uncovered balances into a separate account; and the requirement that firms prioritize accounts.

In the third proposal, CP21/14 “Policyholder Protection,” the PRA consults on changes to the insurance limits for FSCS compensation to increase protection for policyholders in the event of an insurer failing. The proposal would increase the limit to 100 percent coverage for annuities, pure protection, claims arising from death or incapacity, and professional indemnity insurance. The limits for all other types of insurance would remain unchanged. FSCS protection would also be provided post-transfer for policyholders who have outstanding protected claims against an insurer whose claims were covered by the FSCS before their policies transferred to a successor firm. In addition, the FSCS would receive flexibility in the way it seeks recoveries from failed insurers and third parties after paying out compensation, through new powers of automatic and electronic assignment and automatic subrogation of policyholders’ rights.

Lastly, the PRA published a discussion paper on operational continuity in resolution. The discussion paper presents the PRA’s preliminary views on the principles that firms’ operational arrangements must satisfy in order to facilitate recovery actions, resolution or post resolution restructuring of firms. The paper’s proposals are meant to help ensure deposit-takers make the appropriate changes to enable critical functions to operate effectively at all times, even if the deposit-taker fails.

Comments on any of the papers should be submitted on or before January 6, 2015.

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