July 10, 2009

1. This statement provides information that has become available since the Staff Report was circulated to the Executive Board on June 25, 2009. The information does not alter the staff’s broad assessment of policy issues and recommendations contained in the staff report.

2. On July 8, the UK Treasury released a white paper, which lays out a strategy for further regulatory reform (http://www.hm-reasury.gov.uk/reforming_financial_markets.htm). The following priorities are identified in the paper:

• Strengthening the UK’s regulatory institutional framework. The white paper endorses the current tripartite arrangement, but the government seeks to strengthen its operation and risk assessment capacity by creating a “Council for Financial Stability” to replace the existing standing committee. Further, the government intends to provide the FSA with a formal, statutory objective for financial stability, along with clearer legal authority to take into account systemic implications when setting prudential rules. The FSA would also obtain enhanced regulatory powers to deal with misconduct, and a possible extension of its information gathering powers to support its more intensive supervisory approach. Deposit insurance would transit to a prefunded system over the medium term.

• Dealing with systemically important financial institutions. The white paper rejects proposals to impose regulatory limits on the size or complexity of financial firms. Instead, the government’s approach rests on better market discipline, notably through reforms to corporate governance and remuneration policies, and an enhanced supervisory focus on “high impact” firms that may be seen as being “too big to fail.” Such firms would be required to prepare detailed practical plans for their own resolution in case of failure, and be subject to more stringent regulation, including higher capital and liquidity requirements.

• Greater emphasis on monitoring and managing system-wide risks. The white paper stresses the need to improve transparency, including through more consistent accounting and valuation standards, and to make wholesale markets more robust, especially for securitization and over-the-counter derivatives. Efforts would concentrate on promoting standardization and central counterparty arrangements. Moreover, the government supports the development of macroprudential tools—both rules-based and discretionary—to counteract the build-up of large systemic risks.

• Close cooperation with international partners to deliver regulatory reform in areas where a coordinated approach is required. This covers, notably, the government’s support for key recommendations from the Turner Review, i.e., to mandate more and higher-quality capital requirements, introduce a backstop leverage ratio, enhance the regulation of liquidity, and develop macroprudential tools. The white paper also endorses the June 2009 European Council conclusions to strengthen the EU supervisory and regulatory framework.

3. To take the proposed program forward the government intends to consult with the FSA, the Bank of England, other relevant parties, and its international partners over the coming months. Concrete legislative action is envisaged to start later in 2009.

4. On June 25, the Bank of England released its latest Financial Stability Report (FSR), (http://www.bankofengland.co.uk/publications/fsr/2009/index.htm). The FSR notes that given their leverage and funding positions, banks in the UK (and internationally) will remain sensitive to further shocks for some time. Further, although private demand for non-guaranteed bank debt has begun to return, funding pressure is likely to persist in the coming years as banks need to secure substantial private financing to replace the current official funding support. If the economic recovery were to stall because of weak bank lending, losses on assets could rise, further affecting confidence in the banking sector. To increase the resilience of the financial system the FSR calls for stronger market discipline, including through more granular and frequent disclosure by banks; greater self-insurance, including by holding higher capital and liquidity buffers; and improved management of risks arising from interactions, including by improved information on connections between financial institutions and countercyclical prudential policy to limit the growth of financial imbalances.

5. The proposals put forth in the Treasury’s white paper and the BoE’s FSR complement those in the Turner Review (released in February 2009) and are consistent with the thrust of the staff report’s recommendations. The UK authorities are encouraged to continue work on the implementation of the proposed actions in close collaboration with international partners.