Top risk for financial institutions in the region is likely to come from US and EU reforms, writes Trond Vagen, Asia editor for Thomson Reuters Accelus Compliance Complete

Trond Vagen

Nearly five years have passed since the 2008 financial crisis was at its peak, but financial institutions worldwide are still dealing with its aftermath. This is also the case in Asia, where the crisis was short-lived and caused relatively limited damage.

The real challenge for institutions and regulators in the region has been coping with the flood of new regulations and reforms announced in the wake of the crisis, in particular with regard to adapting global regulatory initiatives to suit local market needs.

However, given the global nature of finance, the greatest risk to financial institutions in Asia is likely to be one they have little control over: domestic reforms in Europe and the US that affect any firms trading in those jurisdictions, including Asian financial institutions.

Cross-border and extraterritorial regulation

One of the main threats to the business models of financial institutions in Asia comes not from within the region but from regulatory authorities in the US and the EU.

Regulations such as the Dodd-Frank Act in the US and EMIR in the EU have wide remits and impose strict requirements on institutions that trade in or with those markets, including foreign-based firms.

Ongoing talks are leaving Asian financial institutions in the dark, facing shrinking implementation deadlines’

Regulators in Asia have recognised this threat and are lobbying their US and EU counterparts for a fair assessment of the “equivalence” between their respective markets – including taking a holistic rather than a rule-by-rule approach for comparison.

But ongoing talks are leaving Asian financial institutions in the dark, facing shrinking implementation deadlines.

Foreign Account Tax Compliance Act (Fatca)

Although the deadline for compliance with this US legislation has been pushed back by six months, it is still expected to be a large burden for compliance departments at banks across Asia in the coming year.

The act’s strict requirements for reporting on US account holders to the US tax authorities will force many financial institutions to invest in record-keeping and reporting solutions. Non-compliant organisations will face a 30% withholding tax on their US assets.

Anti-money laundering and sanctions compliance

The heavy fines paid by HSBC and Standard Chartered in the US in recent years highlight how seriously regulators are taking this issue.

HSBC was fined $1.9bn for laundering money for Mexican drug cartels, while Standard Chartered took a $667m hit for breaking US sanctions on dealing with entities from Iran.

Global standard-setter the Financial Action Task Force (FATF) has recently tightened its recommendations for dealing with anti-money laundering (AML) and terrorist financing, and regulators in Asia have in recent years taken great strides towards cracking down on laundering of funds from illicit sources.

Know your customer

Faced with Fatca and greater regulatory pressure over AML, financial institutions are being forced to take a closer look at their customers and what they get up to.

They are investing in additional manpower or solutions to help screen potential new customers, monitor ongoing transactions and conduct in-depth due diligence on their customers in order to prevent AML or sanctions breaches.

Financial institutions are being forced to take a closer look at their customers and what they get up to’

The need for better customer monitoring tools has also become more important following the advent of Fatca, which forces financial institutions to identify and report on any account holders that are US citizens. It is not surprising that most recruitment sites are full of compliance and AML roles – compliance is among the few departments that can (and have to) add headcount at the moment.

Anti-bribery legislation

The Foreign Corrupt Practices Act (FCPA), in force since 1974, and the UK Bribery Act 2010 impose tough anti-bribery requirements on financial institutions that do business in Asia but have a connection to the US or UK.

While there has been a crackdown on bribery in places such as China, it is still commonly used to “grease the wheels of business” across large parts of Asia.

Penalties can be severe under the FCPA and UK Bribery Act. As a result, financial institutions have had to invest heavily in compliance solutions.

These range from running internal awareness programmes to engaging third parties to conduct enhanced due diligence investigations into dealings with existing and potential partners.


Source: WikiCommons

Data protection

Singapore and Hong Kong, Asia’s top financial centres, have recently introduced new legislation on personal data and privacy protection. These impose restrictions on how financial institutions can use personal data for marketing and commercial purposes.

The new Personal Data (Privacy) Ordinance in Hong Kong even imposes a measure of criminal liability.

But, perhaps more important for financial institutions, is the issue of customer trust – and the impact on trust when an institution’s reputation takes a hit following misconduct revelations.

Market manipulation

In recent years, we have seen regulators worldwide open investigations into potentially massive market manipulation schemes, from Libor and its offshoot investigation in Singapore, to the recent probe into banks’ involvement in commodities warehousing.

It is clear that regulators are taking market manipulation very seriously, and that they are prepared to open deep investigations into alleged manipulative activities.

Similarly, Hong Kong has seen a steady crackdown on insider dealing and market manipulation. The Securities and Futures Commission (SFC) has taken a bolder enforcement approach, including pursuing criminal prosecution against wrong-doers and seizing the assets of foreign hedge funds.

Basel III

While banks across Asia are generally well capitalised, the looming implementation of Basel III in the region will not be painless.

Meeting the capital adequacy requirements of Basel III is just one requirement. Asian banks are more likely to be concerned about the less publicised Liquid Capital Ratio and Net Stable Funding Ratio, which impose requirements on how much liquidity a bank must hold.

Many have complained that the range of financial instruments that will count towards the ratio (so-called high-quality liquid assets) is too narrow and not designed with the Asian market in mind.

Some regulators in the region have also warned that the strict requirements imposed by Basel III will affect lending in the region and lead to a growth in shadow banking.

Shadow banking

The Financial Stability Board (FSB), charged with implementing reforms agreed by the G20 nations, last year said it would begin looking into the threat posed by shadow banking worldwide.

The unregulated nature of shadow banking means authorities have no real means of assessing the risks involved’

Shadow banking can include anything from kerbside lenders to micro-financing schemes. But because of its growing size, particularly in regions such as China, it is attracting greater scrutiny. Some have claimed that the vast amounts of credit outstanding in the shadow banking system is among the greatest threats to the global financial system, as the unregulated nature of shadow banking means authorities have no real means of assessing the risks involved.

Systemically important financial institutions

Following the FSB’s announcement of a list of global systematically important financial institutions (SIFIs) last year, local regulators are working on designating institutions that could be classified as domestic SIFIs.

Apart from being placed under increased scrutiny because of their systemic importance to the local market, domestic SIFIs will also have to put aside more capital under Basel III than their non-systemic peers.

Furthermore, systemic financial institutions will be required to draw up recovery and resolution planning schemes – so-called living wills – to provide for an orderly unwinding of assets should they run into financial difficulties.

Trond Vagen is Asia editor for Thomson Reuters Accelus Compliance Complete, a publication providing regulatory news, analysis, rules and developments. Compliance Complete tracks regulatory changes from more than 400 regulators and exchanges worldwide as they happen and links regulatory developments back to the underlying rulebooks, helping institutions manage risk.