This blog has been updated following the publication of Policy Statement 19/21 and Supervisory Statement 5/21 in July 2021.

Following the end of the Brexit Transition Period, the Prudential Regulation Authority (PRA) has set out in a Policy Statement and Supervisory Statement how it will approach supervision of international bank branches and subsidiaries in the UK. The key message is that the UK banking system is open for business. The PRA continues to be open to allowing banks to operate in the UK through a branch or subsidiary, and in principle to hosting subsidiaries that operate a highly integrated global business model, especially highly integrated investment banking and trading businesses and custody activities. Banks need to meet certain conditions in return, with an emphasis on providing sufficient management information to supervisors and establishing adequate governance and controls in order to give the PRA assurance that risks are being appropriately managed.

The Supervisory Statement (SS) is relevant to all international banks that have – or are planning to establish – operations in the UK, whether through a branch or subsidiary. The SS will be of interest from the perspective of both planning day-to-day supervisory interactions and legal entity and operating structure optimisation.

According to the PRA, the updated Supervisory Statement simply restates existing practices, some of which were set out in its 2018 Supervisory Statement on branch authorisation and supervision. David Bailey, Executive Director International Banks Supervision, however, noted in a speech when the PRA consulted on its proposals in January 2021 that the policy had: “…not all been written down in this way before”. This is an important consideration. We think the Supervisory Statement contains important points of detail and clarification, not all of which will be familiar to all banks, and therefore require careful study.

On booking models, the PRA expects to ask banks to complete a self-assessment against its revised policy in the near future. For a small number of banks, the PRA also expects to receive better information and have greater visibility of risks going forward, and plans to discuss this with the banks concerned.

Expectations for effective supervision

The PRA’s starting position is that the UK operations of international bank branches and subsidiaries can in principle be highly integrated with the parent banking group. This is in contrast to supervisors in some other jurisdictions whose default position is to expect branches and subsidiaries to operate on a more or less standalone basis.

The PRA though expects certain conditions to be met, and it will adapt its supervisory approach to the specific risks and challenges posed by the business strategy and operating model of each bank. The more closely the PRA’s expectations on effective supervision are met, the more it will be content for an entity in the UK to be highly integrated with the wider group. Conversely, if the PRA does not receive sufficient information or is not satisfied with the degree of cooperation it has with a bank, or if it feels that the controls over risks to the UK business are inadequate, it will be less accommodating.

Put differently, acceptance of a high degree of integration comes with a price to be paid – particularly in the form of the provision of frequent and detailed management information (MI) about the rest of the group and dialogue and co-operation with the home supervisor.

In a number of respects the PRA’s policy is unchanged from what has been published before. This includes, for example, its expectation of sufficient home supervisor equivalence and cooperation; the importance of resolvability and cooperation from the home resolution authority; and the fact that its approach varies according to the size and systemic importance of business in the UK. Expectations with respect to size thresholds to take into account when assessing the appropriate operating structure, cooperation with group, and controls for an entity are also unchanged from the PRA’s previous policy.

- Booking arrangements 

The PRA continues to expect booking arrangements to be transparent, coherent and underpinned by an effective control framework to ensure that approved booking practices are adhered to. All stages of the booking lifecycle are in scope of the PRA’s expectations. The PRA’s definition of booking arrangements captures the front-to-back lifecycle of trading, from origination, trade execution, risk capture and transfer, through to back office settlement. This definition is potentially wider in scope than many banks have considered to date, and banks may need to recalibrate their existing booking model documentation and associated controls.

The PRA provides further detail on its expectations for risk management and controls across the front-to-back trade lifecycle, including emphasising the importance of local risk management capabilities, an appropriate balance of preventative and detective controls, and comprehensive MI.

The SS clarifies that these expectations apply to branches as well as subsidiaries and emphasises the importance of supervisors having adequate visibility of UK booking arrangements in the context of group risks. The PRA sets additional requirements for the booking arrangements of highly integrated entities, with specific expectations outlined for remote booking and back-to-back booking models.

The PRA clarifies that firms should consider extending their booking frameworks and controls to certain banking book exposures that pose similar risks to trading book exposures.

- Other considerations 

Two points from the SS stand out for us, both related to ensuring the viability of UK entities. First, the PRA’s focus on the structural profitability of subsidiaries. Subsidiaries should be on a path to being structurally profitable on a standalone basis (or else, the group’s viability should depend on supporting the UK operations). This is not a new consideration for the PRA but the emphasis on the extent to which the profitability of the UK subsidiary is supported by cross-subsidy from the rest of the group will require careful consideration by banks as well as detailed MI (some of which may not be readily available). Second, the role of parental support. The PRA may request evidence that parental support will be provided. And echoing the consideration of the importance of UK entities to the profitability of the group, the SS notes that “the more important the international bank is to the wider group, the more likely it is that its survival is essential to the group’s resolution”.

Significant weight is placed on the information that is provided to the PRA. The information the PRA expects to have access to will be proportionate, varying according to the risk that the bank poses. The SS sets out the baseline information expected from all banks, and additional information expected for highly integrated or systemically significant businesses. Information required above the baseline will include, for example, further details of where risk is managed within the UK and group, and of performance of the UK entity and group. Global investment banking and trading business lines for systemic entities will be required to provide the PRA with daily or weekly profit and loss data. Conversely, for the smallest firms the information sharing burden will be less significant, with the PRA seeking to obtain most information from the firm’s home state supervisor.

In terms of governance, whilst the SS does not introduce new requirements, further details are provided of the PRA’s expectations. There is an emphasis in particular on ensuring that individuals responsible for governance of UK entities are appropriately independent of the parent, whilst at the same time having sufficient credibility and influence with the group’s wider management to be able to ensure that the interests of the UK entities are considered. The PRA expects banks to allocate responsibility for overseeing the firm’s booking arrangements to a Senior Management Function (SMF) holder.

The SS reminds banks that take retail deposits of the need to comply with requirements related to the single customer view, through which data can be provided for depositor payout in the event of resolution. Banks also need to ensure that they follow the PRA’s rules on operational resilience and on outsourcing. For branches, the PRA will consider whether the home state’s operational resilience framework is sufficiently robust, and will require assurance that operational disruption at the group level will not create undue risk to the group as a whole. Even where functions are outsourced to other group entities outside the UK and/or group-wide policies are being applied, the PRA expects that UK entities also specifically ensure compliance with UK legal and regulatory requirements.

When the PRA’s expectations are not met

Where the PRA does not have sufficient information or is not satisfied with the degree of cooperation is has, or if the controls over risks appear to be inadequate, it will explore potential mitigants. One option will be for a UK entity to become more independent of the overseas business. The degree of integration – or separation – will be considered across several dimensions, including governance; capital and liquidity; booking risk management; operational resilience; resolution strategy; and structural profitability. The PRA notes that a small number of banks that previously operated in the UK via EEA branches have now established subsidiaries in the UK. The establishment of a subsidiary to replace an existing third-country branch may indicate that - at least in some cases - the PRA has already taken decisions along these lines.

In addition, where the PRA identifies concerns that a branch would fail to meet its supervisory expectations, it may exercise its powers under the Financial Services and Markets Act 2000 to apply specific regulatory requirements at the branch level on a case-by-case basis.

Responsible openness

Although the PRA indicates that its revised SS restates existing policy, many international banks that currently have a subsidiary or branch in the UK will find it instructive to review their existing practices against the requirements that have been set out. For international banks considering establishing a new subsidiary or branch in the UK, the SS provides an important framework for planning the legal entity and operating model structure.

Next steps

The PRA has recognised that international branches and subsidiaries (particularly those operating under the temporary permissions regime) may need time to reach compliance with the SS. Firms operating under the TPR will be expected to meet the PRA’s expectations as soon as is practicable, taking into account their size and systemic impact.

Other in-scope firms will be required to meet the PRA’s expectations within a “reasonable time, taking into account the firm’s current position and the scale of the change that might be required.” Firms “…should provide supervisors with a clear explanation of any gaps they need to address and their proposed timeframe for doing so.”