RBNZ's Geoff Bascand says bank reporting 'appropriately' vouched for by bank directors through attestation statements but regulator 'actively considering' steps to enhance effectiveness of attestation

The Reserve Bank says greater use of thematic reviews rather than moving to a more intrusive supervisory regime is likely following a review of its bank director attestation regime.

In an Auckland speech to the New Zealand Bankers' Association, Deputy Governor Geoff Bascand noted the International Monetary Fund (IMF) urged the Reserve Bank to more rigorously test director attestations in last year's Financial Sector Assessment Program (FSAP) report on New Zealand.

The bank disclosure regime the Reserve Bank oversees is supported by a requirement for bank directors to attest to, i.e. sign-off on, the accuracy of information contained in disclosure statements. This, Bascand said, is a crucial aspect of NZ’s regulatory regime.

"Directors are responsible and accountable for the integrity of bank reporting. Due diligence helps support the internal governance processes of the bank, driving responsibilities, systems and processes to generate and scrutinise management information." 

"The question arises as to how confident users can be in the robustness of attestation statements. Directors and users of disclosure statements are aided by the reporting of external auditors, but to what extent should the Reserve Bank review the information directors have relied on, or independently test and challenge their assurances?" Bascand asked. 

The Reserve Bank evaluates the reliability of directors’ attestations and compliance with its guidelines via reviews of documentation such as risk appetite statements, financial information, reports submitted to bank management, and meetings with bank management and directors. Bascand noted the IMF urged the Reserve Bank to more rigorously test attestations through specific reviews, especially for locally-owned banks.

"For example, they expressed a concern that the Reserve Bank did not undertake much independent verification of banks’ internal risk management practices or Board effectiveness." 

"Last year, and partly in response to the IMF’s FSAP, the Reserve Bank undertook a thematic review of the attestation process across 15 locally-incorporated banks. The review was carried out by Deloitte on behalf of the Reserve Bank. Deloitte determined the attestation regime as ‘largely effective’ based on a weighted average of scores using their methodology, with some variation across individual banks," Bascand said.

Deloitte pointed to a number of a general issues that potentially limit the effectiveness of the regime, he added, which are:

• A reliance on high-quality directors to make the regime work. The number of directorships held by directors, length of tenure, lack of banking experience, risk of capture by management and lack of diverse skills on the Board all potentially affect the effectiveness of the regime.

• There is a correlation between the effectiveness of the attestation regime and an open and honest culture within the bank. Sign-off from directors is only appropriate if they believe that staff at all levels will communicate ‘bad news’ upwards.

• In the absence of Reserve Bank guidance, banks could be applying different processes to verify attestations; applying different materiality thresholds, and; applying some policies differently. There may be a role for the Reserve Bank to provide more specific guidance on specific policies, and to independently verify an individual bank’s attestation process.

No plans for on-site inspections

Bascand said the Reserve Bank is considering the IMF's findings and those from its attestation review.

"In relation to FSAP, the Reserve Bank is closely examining the recommendations that, taken together, may further enhance the three pillar approach to regulation and supervision. Particularly key are the recommendations about independent verification by the Reserve Bank of banks’ internal policies and processes, and the provision of more explicit guidance to help provide a better benchmark to support bank director attestation."

The Reserve Bank says its regulatory and supervisory framework is based on the three pillars of self-discipline, regulatory discipline, and market discipline.

"Our view is that rather than a fundamental shift to a more intrusive supervisory regime such as checking an individual institution’s reporting via on-site inspections, our verification is likely to be undertaken through greater use of thematic reviews, i.e. reviewing policies and practices across the banking sector. We continue to see directors and auditors owning the primary verification role," said Bascand. 

"The Reserve Bank will be considering the findings of the attestation review in the context of how it might better support banks’ internal governance processes, i.e. self-discipline."

Bascand said no final policy decisions have been made, but some elements of an "enhanced approach" could include: 

• More frequent engagement with bank Board of directors. This will provide a greater opportunity for the Reserve Bank to communicate any concerns with directors, and help to address the information asymmetry between senior management and directors described earlier. The Reserve Bank will also gain a potentially better insight into the effectiveness of the Board and how it is discharging its oversight duties. 

• The Reserve Bank will also consider how to support directors in understanding their duties, via induction sessions for new independent directors. 

• The development of guidance on the Reserve Bank’s expectations around risk management. This will help provide a clearer and more consistent benchmark for bank directors to attest whether they believe their institution is adequately managing risks. 

• Formally embedding a ‘positive assurance’ process for attestation sign-off. The review highlighted that most banks adopt a limited or ‘negative’ assurance process whereby management states to directors that they are not aware of any compliance or risk appetite breaches. The Reserve Bank would prefer to see senior management actively demonstrating or providing evidence of compliance to directors. 

• Reviewing requirements in the Reserve Bank’s corporate governance policy (BS14) related to, for example, tenure limits for independent directors, limits on directorships and requirements on banking experience. 

• Reviewing BS10 [a prudential supervision document] to require banks to undertake on-going suitability assessments of their directors and senior managers. The Reserve Bank will also be providing greater clarity on the definition of ‘senior manager’ for the purposes of the current non-objection process.

'Integrity of bank reporting is 'appropriately' vouched for by bank directors'

Bascand went on to say the integrity of bank reporting is "appropriately" vouched for by bank directors through their attestation statements.

"The Reserve Bank is actively considering steps to enhance the effectiveness of the attestation regime through expecting evidence of positive assurance, more thematic reviews, more explicit guidance on good banking practices, more frequent engagement with bank directors, and a review of the materiality of disclosures," said Bascand.

In terms of the IMF review he said a specific area where NZ was marked down was because the Reserve Bank doesn't determine or verify that banks use valuation practices consistent with NZ accounting standards, relying instead on the existing banks' auditing process and director attestation.

"The IMF recommended that the Reserve Bank engage in a more focussed way with external auditors to discuss valuation practices of banks in their financial reporting. We will add this to the list of issues that we explore in our engagement with auditors."

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