The European Central Bank (ECB) has expressed concerns about the relocation plans of banks that currently operate in the euro area via the UK through subsidiaries or branches.
In a newsletter posted on its website, the supervision division of the ECB said that some elements in a number of banks’ plans do not fully meet the ECB’s expectations and requirements of banks operating in the euro area.
It said: “Banks do not only need to be well-capitalised and have sufficient liquidity and funding. They also need to have substance locally. In other words, there cannot be empty shells or letter box banks.
“It is not straightforward to draw a line between a well-established bank that is integrated into an international group and an empty shell that is overly reliant on group entities in third countries. Still, some of the relocation plans submitted seem to lean towards the latter.
“This is indicated by the extensive sourcing of risk management capabilities and governance structures from outside the EU and – connected with that – the transfer of risks via back-to-back booking models.
Permanent local trading capabilities
The ECB said that many banks have indicated their wish to transfer all market risk to a third-country group entity and this would mean that they were fully reliant on the third-country entities. In terms of supervision, the ECB is not comfortable with such an approach that, as the recent past has revealed, could create risks in crisis situations where local capabilities may be crucial to continue operations.
It added: “This is a key reason why the ECB and the national supervisors expect banks – at least over the medium term – to manage parts of their risks locally and not to be fully reliant on back-to-back transactions of this type.
“For market risk, this means having permanent local trading capabilities and local risk committees (including local infrastructure, staff and risk management functions). It also means actually trading and hedging risks with diversified counterparties and not just the group. This ensures recoverability in the event that the group entity is no longer able to provide its services to the local one.
“ECB Banking Supervision looks forward to continuing its dialogue with banks on these and other Brexit issues over the coming months.”