Corporate Governance in the Banking Industry

By Stanley Epstein

Broadly speaking corporate governance can be best described as a system of rules, practices and processes by which a business enterprise is directed and controlled. In essence corporate governance involves balancing the interests of the many stakeholders in a firm. These stakeholders include its shareholders, management, customers, suppliers, financiers, government and the larger community.

Corporate governance has become firmly entrenched on the world business scene over the past three decades. Today it is a key component in the operation of all manner of firms around the globe. Even more important is the need for corporate governance to be effective, not only for business firms but for the economy as a whole.

Banking is an important component of the economy, be it national or global. Banks play a very important financial intermediation role in this space. Clearly any difficulties arising from corporate governance shortcomings at banks will also result in a very high degree of nervousness in both the public and the market.

Some very fundamental deficiencies in bank corporate governance became very apparent during the 2008 financial crisis adding to the general distress that the crisis itself generated.

So in 2010 the Basel Committee on Banking Supervision published a set of principles for enhancing sound corporate governance practices at banking organizations. These principles set out best practices in corporate governance for banks.

The Basel Committee has since revised its original set of principles. This revision was published in July 2015, after consultation with the international banking community.

The revised guidance stresses the vital importance of effective corporate governance and promotes the importance of risk governance as part of a bank's overall corporate governance structure.

There are in all thirteen principles, which range from the bank board’s responsibilities, composition, structure; senior management, governance, risk management, compliance, audit compensation, disclosure right through to the role of bank supervisors.

So what major changes have taken place over the past five years?

The following five broad themes are evident in the revision.

1. The guidance has been expanded as regards the role of the board in overseeing the implementation of effective risk management systems.
2. Additional stress is placed on the need for the board to be competent as a group and for individual board members to devote enough time to their role on the board and to keep up-to-date of current banking developments.
3. Reinforces the guidance on risk governance. This also covers the risk management roles played by bank business units, risk management teams and internal audit. The importance of a sound risk “culture” is also addressed.
4. Bank supervisors are provided with guidance on how to evaluate the processes that banks use to select not only their board members but their senior management as well.
5. The guidance also recognizes that compensation schemes are a key part of the governance and incentive structure by which the bank board and its senior management transmit acceptable risk-taking behavior and strengthen the bank's operating and risk culture.

The Basel Committee stresses that these principles are relevant irrespective of whether or not a jurisdiction chooses to adopt the Committee’s regulatory framework. The board and senior management at each bank still have an obligation to pursue good governance.

As regards Systematically Important Financial Institutions (SIFIs), these organizations are expected to have the corporate governance structure and practices appropriate with their role in and potential impact on national and global financial stability.

The full document covering the revised principles can be downloaded directly from the BIS at http://www.bis.org/bcbs/publ/d328.pdf