Global banks need to be watched as integrated, single entity
By Shrikanth Rao, The Hindu Business Line
Frauds are not new to the banking industry and they have been perpetrated since organised banking has been in vogue.
But cases such as Bank of Credit and Commerce International (BCCI) which went down barely in two decades from its inception on account of alleged rampant frauds and dubious transactions, did compel the regulators to rethink regulatory paradigm to prevent its recurrence.
It is now believed that BCCI had a legitimate banking business involving around a million depositors co-existing alongside the dubious and murky.
The bank, though chartered in Luxembourg and the Grand Caymans, operated out of Cayman Islands, Pakistan, the UK, the US and the UAE. The Bank of England (BoE) considered regulators at Luxembourg and Grand Caymans as the principal or lead regulators and itself, as playing a secondary role within the banking laws prevailing then.
Undoubtedly, BCCI leveraged the regulatory cracks to its advantage. There were reports that BoE was aware of goings-on at BCCI as far back as 1970s and the 1980s but hesitated to act sternly probably due to the confusion of whose job is it to regulate BCCI?
Indeed, BCCI was allowed to move its corporate headquarters from London to Abu Dhabi when BoE found huge losses at its Treasury.
What transpired later is history now but the events did precipitate a global crisis involving genuine customers across the globe.
Global banks, which have presence in multiple countries, therefore, need to be watched as an integrated single entity. It appears that regulators have indeed learnt lessons from the BCCI collapse.
Rampant frauds
While clarifying that central bankers are not expected to play the role of preventing bank failures, Principles of Effective Banking Supervision require Central Banks to supervise banking operations of an entity on a consolidated basis encompassing business conducted by the banking group worldwide.
Yet another principle governing home-host relationship requires, in respect of cross-border banking transactions, supervisors to coordinate with regulators of other countries to ensure the bank’s global operations are effectively regulated.
Basel norms specifically refer to regulation of systemically important banks.
Another reason attributed to rampant frauds at the BCCI remaining undetected for a long time is the accounting practices followed by the collapsed bank, notably those relating to consolidation of the books. BCCI operated through a web of subsidiaries incorporated in different countries following differing financial years.
This made it easy for the bank to hide losses or frauds in a subsidiary by moving it to one or more of the other subsidiaries before closing the books of the subsidiary under question.
The practice was aided by the jurisdictional requirement of the countries that allowed entities to publish stand alone financial statements instead of the consolidated financials for the group.
This has also been largely addressed through the ushering in of International Financial Reporting Standards which mandate that entities which have subsidiaries spread across nations or within one country need to publish the consolidated audited financials rather than stand-alone financials.
Lastly, post the lessons from the 2008 financial crisis, the Basel III norms have taken the process further by defining global systemically important institutions and the buffers that these institutions need to maintain.
Regulators have realised that it would be prudent to strengthen the entity’s capital base which would enable it to survive severe liquidity shocks instead of relying on tax-payer’s money to keep them afloat.
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