The Role of Corporate Governance in Macro-Prudential Regulation of Systemic Risk
Macro-prudential regulation is concerned with the stability of the financial system as a whole. Chapter 6 covers a core aspect of this regulatory framework in its treatment of risk management in large banks. It lays the groundwork for this subject and for later chapters on macro-prudential regulation by examining key concepts, such as ‘too big to fail’ and the two competing theories of the causes of systemic risk: contagion and interconnectedness. To this end, it also divides the financial crisis into three periods: the period preceding the crisis when firms’ deficient risk management practices laid the basis for the crisis; the liquidity and credit crisis; and the Great Recession. It identifies the types of systemic risks that emerged in each period and the regulatory responses to address these risks. Firms that weathered the crisis shared information effectively across business lines; had rigorous internal processes requiring critical business judgment in asset valuation; and relied on a wide range of risk measures to gain different perspectives on risk. The chapter details guidance on effective board practices, roles and accountability of senior and line management, risk committees, chief risk officers, and technical guidelines for a firm-wide risk management framework. The chapter also details regulatory guidance on risk data aggregation and reporting.