Bank regulation
Bank regulations are a form of government
Government refers to the legislators, administrators, and arbitrators in the administrative bureaucracy who control a state at a given time, and to the system of government by which they are organized...

Regulation is administrative legislation that constitutes or constrains rights and allocates responsibilities. It can be distinguished from primary legislation on the one hand and judge-made law on the other...

 which subject bank
A bank is a financial institution that serves as a financial intermediary. The term "bank" may refer to one of several related types of entities:...

s to certain requirements, restrictions and guidelines. This regulatory structure creates transparency between banking institutions and the individuals and corporations
A corporation is created under the laws of a state as a separate legal entity that has privileges and liabilities that are distinct from those of its members. There are many different forms of corporations, most of which are used to conduct business. Early corporations were established by charter...

 with whom they conduct business, among other things. Given the interconnectedness of the banking industry and the reliance that the national (and global) economy
An economy consists of the economic system of a country or other area; the labor, capital and land resources; and the manufacturing, trade, distribution, and consumption of goods and services of that area...

 hold on banks, it is important for regulatory agencies to maintain control over the standardized practices of these institutions. Supporters of such regulation often hinge their arguments on the "too big to fail"
Too Big to Fail
Too Big to Fail is a television drama film in the United States broadcast on HBO on May 23, 2011. It is based on the non-fiction book Too Big to Fail by Andrew Ross Sorkin. The TV film was directed by Curtis Hanson...

 notion. This holds that many financial institutions (particularly investment banks
Investment banking
An investment bank is a financial institution that assists individuals, corporations and governments in raising capital by underwriting and/or acting as the client's agent in the issuance of securities...

 with a commercial
Commercial bank
After the implementation of the Glass–Steagall Act, the U.S. Congress required that banks engage only in banking activities, whereas investment banks were limited to capital market activities. As the two no longer have to be under separate ownership under U.S...

 arm) hold too much control over the economy to fail without enormous consequences. Others advocate deregulation, or free banking
Free banking
Free banking refers to a monetary arrangement in which banks are subject to no special regulations beyond those applicable to most enterprises, and in which they also are free to issue their own paper currency...

, whereby banks are given extended liberties as to how they operate the institution.

Objectives of bank regulation

The objectives of bank regulation, and the emphasis, vary between jurisdictions. The most common objectives are:
  1. Prudential—to reduce the level of risk to which bank creditors are exposed (i.e. to protect depositors)
  2. Systemic risk
    Systemic risk
    In finance, systemic risk is the risk of collapse of an entire financial system or entire market, as opposed to risk associated with any one individual entity, group or component of a system. It can be defined as "financial system instability, potentially catastrophic, caused or exacerbated by...

     reduction—to reduce the risk of disruption resulting from adverse trading conditions for banks causing multiple or major bank failures
  3. Avoid misuse of banks—to reduce the risk of banks being used for criminal purposes, e.g. laundering the proceeds of crime
  4. To protect banking confidentiality
  5. Credit allocation—to direct credit to favored sectors

General principles of bank regulation

Banking regulations can vary widely across nations and jurisdictions. This section of the article describes general principles of bank regulation throughout the world.

Minimum requirements

Requirements are imposed on banks in order to promote the objectives of the regulator. Often, these requirements are closely tied to the level of risk exposure for a certain sector of the bank. The most important minimum requirement in banking regulation is maintaining minimum capital ratios
Capital requirement
Capital requirement refers to -The standardized requirements in place for banks and other depository institutions, which determines how much capital is required to be held for a certain level of assets through regulatory agencies such as the Bank for International Settlements, Federal Deposit...


Supervisory review

Banks are required to be issued with a bank license by the regulator in order to carry on business as a bank, and the regulator supervises licenced banks for compliance with the requirements and responds to breaches of the requirements through obtaining undertakings, giving directions, imposing penalties or revoking the bank's licence.

Market discipline

The regulator requires banks to publicly disclose financial and other information, and depositors and other creditors are able to use this information to assess the level of risk and to make investment decisions. As a result of this, the bank is subject to market discipline and the regulator can also use market pricing information as an indicator of the bank's financial health.

Capital requirement

The capital requirement sets a framework on how banks must handle their capital
Capital (economics)
In economics, capital, capital goods, or real capital refers to already-produced durable goods used in production of goods or services. The capital goods are not significantly consumed, though they may depreciate in the production process...

 in relation to their asset
In financial accounting, assets are economic resources. Anything tangible or intangible that is capable of being owned or controlled to produce value and that is held to have positive economic value is considered an asset...

s. Internationally, the Bank for International Settlements
Bank for International Settlements
The Bank for International Settlements is an intergovernmental organization of central banks which "fosters international monetary and financial cooperation and serves as a bank for central banks." It is not accountable to any national government...

' Basel Committee on Banking Supervision
Basel Committee on Banking Supervision
The Basel Committee on Banking Supervision is a committee of banking supervisory authorities that was established by the central bank governors of the Group of Ten countries in 1975. It provides a forum for regular cooperation on banking supervisory matters. Its objective is to enhance...

 influences each country's capital requirements. In 1988, the Committee decided to introduce a capital measurement system commonly referred to as the Basel Capital Accords. The latest capital adequacy framework is commonly known as Basel III
Basel III
BASEL III is a new global regulatory standard on bank capital adequacy and liquidity agreed upon by the members of the Basel Committee on Banking Supervision. The third of the Basel Accords was developed in a response to the deficiencies in financial regulation revealed by the global financial...

. This updated framework is intended to be more risk sensitive than the original one, but is also a lot more complex.

Reserve requirement

The reserve requirement sets the minimum reserves
Bank reserves
Bank reserves are banks' holdings of deposits in accounts with their central bank , plus currency that is physically held in the bank's vault . The central banks of some nations set minimum reserve requirements...

 each bank
A bank is a financial institution that serves as a financial intermediary. The term "bank" may refer to one of several related types of entities:...

 must hold to demand deposits and banknotes. This type of regulation has lost the role it once had, as the emphasis has moved toward capital adequacy, and in many countries there is no minimum reserve ratio. The purpose of minimum reserve ratios is liquidity rather than safety. An example of a country with a contemporary minimum reserve ratio is Hong Kong
Hong Kong
Hong Kong is one of two Special Administrative Regions of the People's Republic of China , the other being Macau. A city-state situated on China's south coast and enclosed by the Pearl River Delta and South China Sea, it is renowned for its expansive skyline and deep natural harbour...

, where banks are required to maintain 25% of their liabilities that are due on demand or within 1 month as qualifying liquefiable assets.

Reserve requirements have also been used in the past to control the stock of banknotes and/or bank deposits. Required reserves have at times been gold coin, central bank banknotes or deposits, and foreign currency.

Corporate governance

Corporate governance requirements are intended to encourage the bank to be well managed, and is an indirect way of achieving other objectives. As many banks are relatively large, with many divisions, it is important for management to maintain a close watch on all operations. Investors and clients will often hold higher management accountable for missteps, as these individuals are expected to be aware of all activities of the institution. Some of these requirements may include:
  1. To be a body corporate (i.e. not an individual, a partnership, trust or other unincorporated entity)
  2. To be incorporated locally, and/or to be incorporated under as a particular type of body corporate, rather than being incorporated in a foreign jurisdiction.
  3. To have a minimum number of directors
  4. To have an organisational structure that includes various offices and officers, e.g. corporate secretary, treasurer/CFO, auditor, Asset Liability Management Committee, Privacy Officer etc. Also the officers for those offices may need to be approved persons, or from an approved class of persons.
  5. To have a constitution or articles of association that is approved, or contains or does not contain particular clauses, e.g. clauses that enable directors to act other than in the best interests of the company (e.g. in the interests of a parent company) may not be allowed.

Financial reporting and disclosure requirements

Among the most important regulations that are placed on banking institutions is the requirement for disclosure of the bank's finances. Particularly for banks that trade on the public market, the Securities and Exchange Commission (SEC) requires management to prepare annual financial statements according to a financial reporting standard
International Financial Reporting Standards
International Financial Reporting Standards are principles-based standards, interpretations and the framework adopted by the International Accounting Standards Board ....

, have them audited, and to register or publish them. Often, these banks are even required to prepare more frequent financial disclosures, such as Quarterly Disclosure Statements
Form 10-Q
Form 10-Q, also known as a 10-Q or 10Q is a quarterly report designed to give a status of how a business is doing after three months of operation. These reports generally compare last quarter to the current quarter and last years quarter to this years quarter. The SEC put this form in place to...

. The Sarbanes-Oxley Act of 2002
Sarbanes-Oxley Act
The Sarbanes–Oxley Act of 2002 , also known as the 'Public Company Accounting Reform and Investor Protection Act' and 'Corporate and Auditing Accountability and Responsibility Act' and commonly called Sarbanes–Oxley, Sarbox or SOX, is a United States federal law enacted on July 30, 2002, which...

 outlines in detail the exact structure of the reports that the SEC requires.

In addition to preparing these statements, the SEC also stipulates that directors of the bank must attest to the accuracy of such financial disclosures. Thus, included in their annual reports must be a report of management on the company's internal control over financial reporting. The internal control report must include: a statement of management's responsibility for establishing and maintaining adequate internal control over financial reporting for the company; management's assessment of the effectiveness of the company's internal control over financial reporting as of the end of the company's most recent fiscal year; a statement identifying the framework used by management to evaluate the effectiveness of the company's internal control over financial reporting; and a statement that the registered public accounting firm that audited the company's financial statements included in the annual report has issued an attestation report on management's assessment of the company's internal control over financial reporting. Under the new rules, a company is required to file the registered public accounting firm's
An accountant is a practitioner of accountancy or accounting , which is the measurement, disclosure or provision of assurance about financial information that helps managers, investors, tax authorities and others make decisions about allocating resources.The Big Four auditors are the largest...

 attestation report as part of the annual report. Furthermore, the SEC added a requirement that management evaluate any change in the company's internal control over financial reporting that occurred during a fiscal quarter that has materially affected, or is reasonably likely to materially affect, the company's internal control over financial reporting.

Credit rating requirement

Banks may be required to obtain and maintain a current credit rating from an approved credit rating agency
Credit rating agency
A Credit rating agency is a company that assigns credit ratings for issuers of certain types of debt obligations as well as the debt instruments themselves...

, and to disclose it to investors and prospective investors. Also, banks may be required to maintain a minimum credit rating. These ratings are designed to provide color for prospective clients or investors regarding the relative risk that one assumes when engaging in business with the bank. The ratings reflect the tendencies of the bank to take on high risk endeavors, in addition to the likelihood of succeeding in such deals or initiatives. The rating agencies that banks are most strictly governed by, referred to as the "Big Three"
Big Three (credit rating agencies)
The Big Three credit rating agencies are Standard & Poor's , Moody's, and Fitch Group. S&P and Moody's are US-based, while Fitch is dual-headquartered in New York City and London, and is controlled by the France-based FIMALAC. The European Union has considered setting up a state-supported EU-based...

 are the Fitch Group, Standard and Poor's and Moody's
Moody's Corporation is the holding company for Moody's Analytics and Moody's Investors Service, a credit rating agency which performs international financial research and analysis on commercial and government entities. The company also ranks the credit-worthiness of borrowers using a standardized...

. These agencies hold the most influence over how banks (and all public companies) are viewed by those engaged in the public market.

Large exposures restrictions

Banks may be restricted from having imprudently large exposures to individual counterparties
A counterparty is a legal and financial term. It means a party to a contract. A counterparty is usually the entity with whom one negotiates on a given agreement, and the term can refer to either party or both, depending on context....

 or groups of connected counterparties. This may be expressed as a proportion of the bank's assets or equity, and different limits may apply depending on the security held and/or the credit rating of the counterparty. Restricting disproportionate exposure to high risk initiatives allows regulatory agencies to prevent financial institutions from placing investor (as well as the firm's) capital at unnecessary risk.

Activity and affiliation restrictions

In 1933, during the first 100 days of President
A president is a leader of an organization, company, trade union, university, or country.Etymologically, a president is one who presides, who sits in leadership...

 Franklin D. Roosevelt’s
Franklin D. Roosevelt
Franklin Delano Roosevelt , also known by his initials, FDR, was the 32nd President of the United States and a central figure in world events during the mid-20th century, leading the United States during a time of worldwide economic crisis and world war...

 New Deal
New Deal
The New Deal was a series of economic programs implemented in the United States between 1933 and 1936. They were passed by the U.S. Congress during the first term of President Franklin D. Roosevelt. The programs were Roosevelt's responses to the Great Depression, and focused on what historians call...

, the Securities Act of 1933
Securities Act of 1933
Congress enacted the Securities Act of 1933 , in the aftermath of the stock market crash of 1929 and during the ensuing Great Depression...

 and the Glass-Steagall Act (GSA)
Glass-Steagall Act
The Banking Act of 1933, , was a law that established the Federal Deposit Insurance Corporation in the United States and introduced banking reforms, some of which were designed to control speculation. It is most commonly known as the Glass–Steagall Act, after its legislative sponsors, Senator...

 were enacted, setting up a pervasive regulatory scheme for the public offering of securities and generally prohibiting commercial banks from underwriting and dealing in those securities. GSA prohibited affiliations between banks (which means bank-chartered depository institutions, that is, financial institutions that hold federally insured consumer deposits) and securities firms (which are commonly referred to as “investment banks”
Investment banking
An investment bank is a financial institution that assists individuals, corporations and governments in raising capital by underwriting and/or acting as the client's agent in the issuance of securities...

 even though they are not technically banks and do not hold federally insured consumer deposits); further restrictions on bank affiliations with non- banking firms were enacted in Bank Holding Company Act of 1956 (BHCA) and its subsequent amendments, eliminating the possibility that companies owning banks would be permitted to take ownership or controlling interest in insurance companies, manufacturing companies, real estate companies, securities firms, or any other non-banking company. As a result, distinct regulatory systems developed in the United States for regulating banks, on the one hand, and securities firms on the other.

See also

  • Anti-money laundering
  • Anti-money laundering software
    Anti-money laundering software
    Anti-money laundering software is a term mainly used in the finance and legal industries to describe the legal controls that require financial institutions and other regulated entities to prevent or report money laundering activities. Anti money-laundering guidelines came into prominence globally...

  • Bank condition
    Bank condition
    Bank condition is a random variable used to represent the probability of failure of a bank. The true probability of failure is unknown to depositors....

  • Bank failure
    Bank failure
    A bank failure occurs when a bank is unable to meet its obligations to its depositors or other creditors because it has become insolvent or too illiquid to meet its liabilities. More specifically, a bank usually fails economically when the market value of its assets declines to a value that is...

  • Bank run
    Bank run
    A bank run occurs when a large number of bank customers withdraw their deposits because they believe the bank is, or might become, insolvent...

  • Business process management
    Business process management
    Business process management is a holistic management approach focused on aligning all aspects of an organization with the wants and needs of clients. It promotes business effectiveness and efficiency while striving for innovation, flexibility, and integration with technology. BPM attempts to...

  • Data Loss Prevention
  • Financial regulation
    Financial regulation
    Financial regulation is a form of regulation or supervision, which subjects financial institutions to certain requirements, restrictions and guidelines, aiming to maintain the integrity of the financial system...

  • Financial repression
    Financial repression
    Financial repression is a term used to describe several measures which governments employ to channel funds to themselves which in a deregulated market would go elsewhere. Financial repression can be particularly effective at liquidating debt....

  • Know your customer
    Know your customer
    Know Your Customer refers to both:* The activities of customer due diligence that financial institutions and other regulated companies must perform to identify their clients and ascertain relevant information pertinent to doing financial business with them* And the bank regulation which governs...

  • Monetary policy
    Monetary policy
    Monetary policy is the process by which the monetary authority of a country controls the supply of money, often targeting a rate of interest for the purpose of promoting economic growth and stability. The official goals usually include relatively stable prices and low unemployment...

  • Money market
    Money market
    The money market is a component of the financial markets for assets involved in short-term borrowing and lending with original maturities of one year or shorter time frames. Trading in the money markets involves Treasury bills, commercial paper, bankers' acceptances, certificates of deposit,...

  • Standards
    • ISO 4217
      ISO 4217
      ISO 4217 is a standard published by the International Standards Organization, which delineates currency designators, country codes , and references to minor units in three tables:* Table A.1 – Current currency & funds code list...

       - Standard for unique 3 digit currency code
    • ISO 6166
      ISO 6166
      ISO 6166 defines the structure of an International Securities Identifying Number . An ISIN uniquely identifies a fungible security. Securities with which ISINs can be used are Equities, Fixed income & ETF's only....

       - Standard for unique identifier for securities ISIN
      An International Securities Identification Number uniquely identifies a security. Its structure is defined in ISO 6166. Securities for which ISINs are issued include bonds, commercial paper, equities and warrants...

    • ISO 8109 - Standard for format and unique identifiers for Eurobond
      A Eurobond is an international bond that is denominated in a currency not native to the country where it is issued. It can be categorised according to the currency in which it is issued. London is one of the centers of the Eurobond market, but Eurobonds may be traded throughout the world - for...

    • ISO 9362
      ISO 9362
      ISO 9362 is a standard format of Business Identifier Codes approved by the International Organization for Standardization . It is a unique identification code for both financial and non-financial institutions...

       - Standard format of Business Identifier Codes to identify Banks also known as BIC
      -Places:* Le bic, Rimouski, Quebec, Canada** Bic National Park, Quebec nationa located near the village of Le bic. See List of Quebec national parks* Bîc River, Moldova* Bic, a village administered by Şimleu Silvaniei town, Sălaj County, Romania...

    • ISO 10962
      ISO 10962
      ISO 10962 is the CFI code maintained by the International Organization for Standardization . It is an alphabetical code consisting of 6 letters. The first letter is the category, the second is the group, and the remaining letters show special attributes of the group...

       - Standard for financial instrument classification codes
    • ISO/IEC 15944 - Standard that provides a consolidated vocabulary of eBusiness concepts
    • ISO 19092-1
      ISO 19092-1
      ISO 19092-1 Financial Services - Biometrics - Part 1: Security framework, is an ISO standard and describes the adequate information management security controls and the proper procedures for using biometrics as an authentication mechanism for secure remote electronic access or local physical access...

      - Standard for biometric security in financial applications

External links

Reserve requirements

Capital requirements

Agenda from ISO


The source of this article is wikipedia, the free encyclopedia.  The text of this article is licensed under the GFDL.