Summary of Key Points

The Policy Dialogue discussed model frameworks for the three policy issues. The preliminary conclusions and draft summary recommendations are as follows:

  • Legal Protection and Indemnification
    • Situations exist in a number of economies where individuals working for deposit insurers and other organizations involved in the financial system safety net (i.e. current and former employees, directors, officers and agents) are held personally liable for their decisions and actions taken in good faith and on behalf of their organizations. While this lack of legal protection may have been established to help improve accountability, it has resulted in reduced incentives for these individuals to be vigilant in the carrying out their mandates.
    • The need for legal protection is well recognized. The Financial Stability Forum Working Group on Deposit Insurance recommended that personnel should receive legal protection against civil and criminal liability for their official actions in the normal course of deposit insurance activities or supervision. In addition, the BIS Core Principles for Effective Banking Supervision clearly emphasizes the need for legal protection of supervisory personnel.
    • Thus, individuals working for deposit insurers and other financial safety-net system participants should be protected against civil and criminal lawsuits for their decisions and actions taken in "good faith" while discharging their mandates. Legal protection should also be codified in legislation and administrative procedures, be automatic, and include the full coverage of legal costs for those indemnified.
    • However, legal protection must coexist in an environment where there is clear accountability. This means that while individuals should be legally protected, they must be required to follow appropriate oaths of office, conflict of interest rules and codes of conduct to ensure they remain accountable. As well, it is important that the safety net organization itself should be held accountable for its actions and not be indemnified.
    • Provisions regarding secrecy and confidentiality regarding all documents, information and records pertaining to matters dealt with by the deposit insurance entity need to be in place.
  • Governance and Interrelationships Among Financial Safety-Net Participants
    • The sound governance of agencies comprising the financial system safety net strengthens the financial system's architecture and contributes directly to system stability. The four major elements comprising sound governance of agencies are: independence, accountability, transparency, and integrity. All are equally important and reinforce each other.
    • Operationally independent and accountable safety net organizations with clear mandates and which are insulated from undue political and industry influence provide greater integrity, credibility and legitimacy than entities lacking such independence. This is embodied in the standards that are assessed in the World Bank-IMF Financial Sector Assessment Program. Operational independence exists when an organization is granted independence in using the instruments and means assigned to it in order to fulfil its mandate.
    • Experience has shown that a separate, operationally independent and accountable deposit insurance entity working within the financial safety net is the "best practice" model available to promote the four key elements of sound governance. This arrangement also provides: (1) the most effective incentives for the control of moral hazard affecting a deposit insurer; (2) the greatest protection of the interests of depositors; (3) more balanced and effective decision-making; and (4) promotes more extensive monitoring of potential conflicts than entities lacking such independence.
    • A deposit insurer's interrelationship management needs vary according to its mandate and powers, but the need for close coordination and information sharing among safety-net participants is essential in all cases.
    • Information sharing among all safety-net participants is essential for an effective deposit insurance system. Such information should be timely, accurate, and relevant with due respect given to maintaining confidentiality when required.
    • Formal information sharing arrangements either through legislation, memoranda of understanding, legal agreements or a combination of these techniques are necessary.
    • The most important and effective way to promote smooth coordination on the part of financial safety net participants is to provide for clear mandates and a division of powers and responsibilities among them. Formal arrangements are necessary in providing a general framework for safety net participants to coordinate their related activities.
  • Trigger Mechanisms for Early Intervention and Failure Resolution
    • In a competitive financial system banks can and do fail. Financial-system safety net providers must ensure that a framework exists for the prompt detection and resolution of troubled deposit-taking institutions. This helps reduce the social costs of failures, contributes to stability and can help lessen the likelihood of future crises.
    • Institutional arrangements for prompt corrective action need to include clear objectives and roles for all safety net participants. This involves ensuring that the safety net participants involved have clearly defined mandates, roles and responsibilities and that the framework is well defined, transparent and understood by safety net participants, the banking industry and the general public.
    • Measures for prompt corrective action need to be supported by strong regulation and supervision, sound accounting and disclosure regimes, and an effective legal system.
    • Information sharing and coordination among the various agencies that make up the safety net, particularly when dealing with troubled banks, should also be addressed as part of the framework associated with an early intervention resolution system.
    • The determination and recognition of when a bank is or is expected to be in serious financial difficulty should be made early and on the basis of well defined and transparent trigger mechanisms by safety net participants with the operational independence and legal authority to act.
    • Because a bank's financial performance and capital position can deteriorate quickly, trigger mechanisms based on single measures such as capital insolvency or liquidity may not be sufficient. Effective trigger mechanism for prompt corrective action should include a variety of relevant indicators.

A report on the Policy Dialogue is being prepared for the APEC Secretariat so that Finance Ministers can consider the recommendations at their September 2004 meeting in Chile.