Georgia
Financial Sector Assessment Program-Detailed Assessment of Observance of the Basel Core Principles for Effective Banking Supervision-Technical Note

There have been significant improvements in both the quality of regulation and the supervisory approach since the 2007 FSAP. Many amendments to existing laws, new laws, and regulations have been introduced, aimed at addressing shortfalls identified in the 2007 FSAP. These improvements will be evident throughout this assessment. At the same time, a number of weaknesses have been identified. Among these is an operational risk within the NBG’s own Banking Supervisory Department. There has been a very high level of staff turnover in recent years due to a lack of salary competitiveness vis-à-vis the commercial banks, and there appears to be over-reliance on key personnel. Also, the level and type of staff training need to be expanded. While the NBG puts significant effort into understanding the risk profile of each individual bank and the banking system as a whole, more attention is needed to improve the quality of risk management of the banks. In a number of areas, notably bank licensing, the NBG relies on its broad supervisory powers to carry out its functions in the absence of detailed explicit powers. While this regime generally seems to work well in practice, it could leave the NBG open to challenge where these broad powers are not supported by more granular powers. Recently, several amendments to the legislation have been introduced in order to address these shortcomings.

Abstract

There have been significant improvements in both the quality of regulation and the supervisory approach since the 2007 FSAP. Many amendments to existing laws, new laws, and regulations have been introduced, aimed at addressing shortfalls identified in the 2007 FSAP. These improvements will be evident throughout this assessment. At the same time, a number of weaknesses have been identified. Among these is an operational risk within the NBG’s own Banking Supervisory Department. There has been a very high level of staff turnover in recent years due to a lack of salary competitiveness vis-à-vis the commercial banks, and there appears to be over-reliance on key personnel. Also, the level and type of staff training need to be expanded. While the NBG puts significant effort into understanding the risk profile of each individual bank and the banking system as a whole, more attention is needed to improve the quality of risk management of the banks. In a number of areas, notably bank licensing, the NBG relies on its broad supervisory powers to carry out its functions in the absence of detailed explicit powers. While this regime generally seems to work well in practice, it could leave the NBG open to challenge where these broad powers are not supported by more granular powers. Recently, several amendments to the legislation have been introduced in order to address these shortcomings.

Summary, Key Findings and Recommendations

A. Introduction

1. There have been significant improvements in both the quality of regulation and the supervisory approach since the 2007 FSAP. Many amendments to existing laws, new laws, and regulations have been introduced, aimed at addressing shortfalls identified in the 2007 FSAP. These improvements will be evident throughout this assessment. At the same time, a number of weaknesses have been identified. Among these is an operational risk within the NBG’s own Banking Supervisory Department. There has been a very high level of staff turnover in recent years due to a lack of salary competitiveness vis-à-vis the commercial banks, and there appears to be over-reliance on key personnel. Also, the level and type of staff training need to be expanded. While the NBG puts significant effort into understanding the risk profile of each individual bank and the banking system as a whole, more attention is needed to improve the quality of risk management of the banks. In a number of areas, notably bank licensing, the NBG relies on its broad supervisory powers to carry out its functions in the absence of detailed explicit powers. While this regime generally seems to work well in practice, it could leave the NBG open to challenge where these broad powers are not supported by more granular powers. Recently, several amendments to the legislation have been introduced in order to address these shortcomings.

2. This assessment of Georgia’s implementation of Basel Core Principles for Effective Banking Supervision (BCP) has been completed as part of the Financial Sector Assessment Program (FSAP) undertaken jointly by the International Monetary Fund (IMF) and the World Bank. An assessment of the effectiveness of banking supervision requires a review of the legal framework, both generally and as specifically related to the financial sector, and a detailed examination of the policies and practices of the institutions responsible for banking supervision.

3. It was undertaken between May 15 and June 3, 2014. The assessors were Michael Deasy (IMF Consultant) and Marc Schrijver (World Bank). The previous assessment took place in 2007.

B. Information on the Methodology Used for Assessment

4. The methodology is based on the Basel Core Principles document as agreed in 2012. The grading for each principle is based on the essential criteria (EC). Additional criteria are commented upon, but are not reflected in the grading. The assessment of capital adequacy has been done against the Basel I standards, although assessors have reviewed Basel II/III.

5. The assessment involved discussions with the NBG’s Specialized Groups and Supervisory Policy Department and Banking Supervision Department. It also involved discussions with the Financial Monitoring Service of Georgia (FMS), which is responsible for general anti-money laundering policy in the country, including the receipt and analysis of suspicious transactions reports. Meetings were held with the Ministry of Finance (MOF), a number of commercial banks, the Banking Association, the Georgia Federation for Professional Accountants and Auditors (GFPAA), and a bank external auditing firm. The assessors would like to put on record their deep appreciation for the full cooperation and courtesy they received from all concerned, both in the public and private sectors. The NBG staff was fully transparent throughout the visit, which helped the assessment process.

Institutional and Macroeconomic Setting and Market Structure

6. Following the downturn of the economy in the first half of 2013, there are clear signs that growth is returning and inflation is picking up. Buoyed by accommodative fiscal and monetary policies, credit expansion, and a gradual return of business confidence, growth has been steady since mid-2013, with GDP growth reaching 3.1 percent for the year as a whole. Preliminary figures for the first months of 2014 indicate that the recovery continues into this year, despite regional turbulence. Following deflationary pressures in early 2013, inflation is also picking up and will likely approach the NGB’s target of 6 percent in the coming 12 months. Fiscal policy was procyclical in 2013, which aggravated both the downturn in the first half of the year and created pressures on the external current account at the end of the year. While the current account deficit has come down quickly in 2013—helped by tight fiscal policies—it is projected to widen again in 2014 as imports pick up. External vulnerabilities remain high.

7. The lari depreciated at the end of 2013 after two years of relative stability. While officially being committed to a floating exchange rate, the NBG has intervened, largely to prevent appreciation, thus maintaining the lari-U.S. dollar exchange rate within a 2 percent band since early 2011. Facing mounting exchange rate pressures in the third quarter of 2013—in response to the expansionary fiscal policy and a seasonal demand for imports—the dollar exchange rate depreciated by more than 6 percent, breaking through the NBG’s de facto band. Exchange rate pressures have since subsided. The effective exchange rate has remained broadly stable throughout this episode, helped by the depreciation of the Turkish lira, Russian ruble, and Ukrainian hryvnia.

8. Growth is expected to continue throughout 2014 and remain robust in the medium term. Private consumption—supported by continued credit growth after a 10 percent decline in 2013—and a return of private sector investment on the back of improved business confidence is expected to raise 2014 GDP growth rate to 5 percent, in line with potential growth. Higher imports resulting from the increase in domestic demand will widen the current account deficit in 2014. Over the medium term, sustained growth will depend on maintaining macroeconomic stability, reducing vulnerabilities, and successfully implementing the ambitious reform agenda. The current account is expected to narrow toward 5 percent of GDP.

9. Although the macro-outlook is relatively benign, there are several risks:

  • The worsening of the economic outlook in key trading partners (Russia, Turkey, and Ukraine) could reduce growth through the trade and remittances channel.

  • A relatively high share of oil and gas imports in total imports makes Georgia vulnerable to fuel price shocks. Oil and gas make up more than 15 percent of total imports, implying that an oil price increase could have a large knock-on effect.

  • The large dollarization—around 60 percent of lending is dollar denominated—creates balance sheet risks, as income streams are predominantly in lari. However, it should be noted that a significant part of the economy is also dollarized.

  • Protracted regional political instability could undermine confidence of resident and nonresident depositors, as well as reduce FDI.

  • Banks are reliant to some extent on short-term nonresident deposits, which make up over 15 percent of commercial banks’ deposits.

While the recent increase in domestic credit is largely consistent with GDP growth, there are signs of the emergence of a credit gap.

10. The financial sector is dominated by a few large banks. There is a very small insurance sector and a very underdeveloped securities market. There also exists so-called microfinance institutions—essentially nonbank lending institutions, many of which are pawn brokers. There is a miniscule credit union sector. Leasing is also very underdeveloped.

11. Currently, there are 21 banks operating in Georgia. Aggregate banking assets (per balance sheet) of the 21 banks amount to GEL 17.9 billion. Two banks account for over 57 percent of banking activity—Bank of Georgia (BoG) (34 percent) and TBC Bank (23 percent). The next largest bank—Liberty Bank—represents less than 8 percent of total bank assets. The 10 smallest banks each have a market share of less than 1 percent, and, in aggregate, represent about 5.3 percent of the total market share. The BoG is widely owned and listed on the London Stock Exchange. TBC Bank is owned by a number of financial institutions and it, too, obtained a London listing recently. Most of the remaining banks are subsidiaries or affiliates of foreign banks and a few, mainly the smaller banks, are owned by individuals, both Georgian and foreign. There are two branches of foreign banks operating in Georgia. In terms of lending, the breakdown in aggregate terms is: corporate loans 37 percent; small and medium enterprise (SME) loans 20 percent, and retail loans 43 percent as of April 2014.

12. The number of banks has remained relatively constant over the last 10 years. The number has hovered around 20. At one point in the early 1990s, there were over 220 banks in existence, but the number has been whittled down through a rationalization scheme involving closures and mergers and by banks going out of business.

13. The insurance sector is at an early stage of development. The total size of the insurance sector remains below 1 to 2 percent of GDP. In 2011, the insurance market (life, non-life, personal accident, and health care) was ranked one hundred and nineteenth globally. Due to the recent privatization of health care in 2011, health insurance accounted for nearly 75 percent of the total market. There are no compulsory classes of insurance. The largest insurance company is owned by BoG, but this investment still represents less than 1 percent of that bank’s total assets. Until April 2013, it was supervised by the NBG when that supervision was transferred to a separate agency.

14. The securities market is underdeveloped. It comprises a small stock exchange, a central securities depository, three independent registrars, and nine broker companies. The securities sector is supervised by the NBG.

15. There are over 60 microfinance institutions in existence. A number of them, fewer than 10, have issued promissory notes. The issuing of these notes was seen as a loophole regarding the collection of deposits from the public. Accordingly, legislation was introduced to create a new type of institution—qualified credit institution—to deal with those institutions that attract funds from retail customers. To date, one microfinance institution has been reclassified as a qualified finance institution. All microfinance institutions must register with the NBG. Qualified credit institutions must be authorized by the NBG and are subject to supervision, although to a lesser extent than banks. The microfinance institutions are required to register with the NBG, but are not subject to any meaningful supervisory regime. To date, no members of the public have lost money on the purchase of promissory notes.

16. The total assets of the credit union sector amounted to GEL 7.6 million at end December 2013 with total current and term deposits amounting to GEL5.3 million. They are supervised by the NBG.

Preconditions for Effective Banking Supervision

17. The legislative system in Georgia provides a range of business laws. These include corporate, bankruptcy, contract, consumer protection, and private property law. They appear to be upheld and enforced by courts and relevant public authorities in Georgia. On consumer protection, a special consumer protection unit was established in the NBG to deal with complaints from commercial bank customers.

18. Frequent changes of the law may generate uncertainty over contractual arrangements. Since its enactment in 1999, the Securities Law has been amended 19 times (roughly every nine months over the past 14 years). The Companies Law, enacted in 1996, has been amended 44 times (roughly every five months over the past 17 years). Recently, the Tax Code and the Law on Enforcement Proceedings were amended to give the Tax Authority priority of claim over validly registered pledges and mortgages. In response to demands by the banking industry, the law was amended to reinstate the original scheme of priorities, but only with respect to specific types of financial institutions. This flux in the legislation and its uneven implementation create major legal uncertainty and hamper the overall effectiveness of the legislative and regulatory framework.

19. Accounting standards in Georgia are based on International Financial Reporting Standards (IFRS). However, its application among smaller concerns might be uneven. All banks are required to prepare their annual accounts in IFRS. Audits must be carried out in accordance with best international practice. The “Big 4” audit firms are present in the country and almost all banks are audited by one of them. Accountants and auditors have a representative body in Georgia—Georgia Federation of Professional Accountants and Auditors (GFPAA), but it has a very limited oversight role.

20. In July 2012, a new Law on Payments Systems and Payment Services came into effect. It provides a legal framework for all participants in the payments market and establishes a legal basis in terms of systemic, liquidity and credit risk management.

21. A private credit bureau exists in Georgia. It allows for the exchange of information among banks relating to small- and medium-sized creditors. It appears to work well, although the limit on exchange of positive information is US$500,000, and there is no limit established on the exchange of negative information.

22. No deposit insurance scheme currently exists in Georgia. The Georgian authorities are committed to establishing a deposit insurance agency over the next seven years under the EU Association Agreement that is due to be signed in June.

23. The NBG has a broad financial stability mandate while the macroprudential framework is evolving. The NBG is legally responsible for ensuring financial stability and has the power to issue regulatory measures that could be considered macroprudential. This notwithstanding, the institutional setting for macroprudential policy should be strengthened. The NBG should consider setting up a financial stability unit, which would be responsible for systemic risk analysis and macroprudential policy. On the question of dollarization—one of the main risk areas in the financial system—the NBG has sought to reduce its impact through a number of measures, including by seeking to strengthen trust in the GEL.

24. On bank resolution, the NBG has certain basic powers to take control of a problem bank, to act as a resolution authority, and to lead the liquidation process. The NBG can appoint a temporary administrator and—if it decides to revoke banking license—a liquidator. Both the temporary administrator and the liquidator—accountable to the NBG—take over the shareholders’ and managerial powers, and may arrange for certain resolution transactions, such as a sale of assets and liabilities or the recapitalization of the bank under temporary administration.

A. Main Findings

Principles 1 to 4. Responsibilities, Powers, Independence, Cooperation, etc.

25. In legislation, the wording of the NBG’s functions/tasks appears to give secondary status to its supervisory role as compared to its main function, i.e., price stability. However, there are no practical examples that it has compromised the objectives of supervision. For these principles, as well as for other principles, the NBG relies on its broad powers to achieve its supervisory aims in the absence of explicit legal provisions. Due to lack of salary competitiveness, there is a high level of staff turnover within the supervisory area, with over-reliance on key personnel. External training and education is under-resourced. Despite this, it should be noted that the quality of the supervisory staff is impressive.

Principles 5 to 7. Licensing Criteria, Transfer of Significant Ownership, Major Ownership.

26. There are a number of significant gaps in legislation under these headings. The NBG uses its broad powers to address these gaps, but an explicit provision should be provided in the legislation. For example, there are no explicit provisions specifying that (a) the appointments to the Supervisory Board, Directors, and top management, as well as for their replacements, requires NBG approval; and (b) the NBG should assess whether the home supervisor practices global supervision and/or whether its supervision standards are equivalent to those of the NBG. Further, there is no requirement for an existing bank shareholder who is proposing to dispose of his/her significant shareholdings to notify the NBG of his/her intention. Recently, several of these shortcomings were addressed by strengthening the regulations.

Principle 8, 9, and 11. Supervisory Approach, Tools, Techniques and Corrective Measures

27. The NBG developed a comprehensive, forward-looking, and risk-based supervisory approach proportionate to the systemic relevance of supervised banks. It addresses all risks emanating from banks. It also includes elements such as stress tests, business models, corporate governance, and capital and contingency planning. Furthermore, the NBG has developed an approach that comprises a well balanced use of bank supervisors and specialist risk supervisors (e.g., credit risk, operational risk, financial risk, macroeconomic risk, group structure risk, and corporate governance). Bank supervisors are responsible for all the risks of one bank and risk supervisors are responsible for one risk across all banks, including systemic risk.

28. Although the NBG developed an advanced supervisory approach, further enhancement is needed. The assessment of bank’s resolvability should be further strengthened; in particular, for systemic relevant banks, and there is no comprehensive framework for handling banks in distress.

29. The supervisory approach is supported by a comprehensive supervisory information system. This enables the supervisor to conduct “online” supervision and rigorous data analysis off- site. There is only one important remark to be made: the NBG runs the risk of not spending enough time on-site because of excellent online possibilities. The NBG supervisors should consider spending more time on-site.

Principles 10 and 12. Supervisory Reporting, Consolidated Supervision

30. There has been a significant improvement in this area since the 2007 FSAP. The risks posed by group exposures are now assessed as part of the group structure risk assessment. Notwithstanding the miniscule banking group structure framework in Georgia, large exposures are now calculated on a consolidated basis and the NBG has begun to assess capital on the same basis. One weakness that still remains is that there is not as yet a formal prudential reporting structure in place. However, this is expected to be introduced in November 2014.

Principle 13. Home-Host Supervision

31. The level of cross-border banking is very insignificant in Georgia. The legislation providing for cross-border cooperation is adequate, and the actions undertaken by the NBG are commensurate with the level of activity.

Principle 14–25. Prudential Standards

32. Additional efforts should be made to improve banks’ risk management, ensuring adequate implementation of regulation and guideline. The NBG has been rightly focusing on the largest banks first and is generally more demanding toward more complex and large institutions in light of the risk-based supervision principles.

33. Though the intrusive supervisory approach is highly appreciated, the NBG should avoid being involved in bank’s operational credit risk management. The NBG provided some examples where banks requested NBG views regarding the approval of specific credits. It is a fine balance of being truly intrusive, focused on improving the quality of risk management of banks, but keeping banks fully responsible for their credit decisions and risk management.

Principle 26. Internal Control and Transparency

34. The legislation and practice in these areas appear adequate.

Principles 27 and 28. Financial reporting, audit, disclosure and transparency.

35. The requirements in these areas were met, although some minor weaknesses were identified.

Principle 29. Abuse of Financial Services

36. The legislation and practice in this area appear adequate. One weakness identified is there that there is no legal obligation on banks to report to the NBG suspicious activities and incidents of fraud where such activities/incidents are material to the safety, soundness, or reputation of the bank.

Table 1.

Georgia: Summary Compliance with the Basel Core Principles—Detailed Assessments

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Recommended Actions

Table 2.

Georgia: Recommendations to Improve Compliance with the Basel Core Principles

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Authorities’ Response to the Assessment

The National Bank of Georgia (NBG) would like to express its appreciation towards the FSAP mission team and its assessment of Georgian banking sector and the supervisory quality. We strongly respect the integrity of the mission members and the quality of the reports produced. We appreciate the efforts of the team to analyze the major developments in the banking sector and its supervision and observe major improvements which, according to the assessment, have resulted in an advanced, forward-looking, intrusive, risk-based, efficient, comprehensive and, in several instances, even leading supervisory approach. The discussions with the team members constituted a very interesting process for us. The recent assessment further increased our confidence that we are on the right path, pursuing well-established international standards. Such a positive assessment and acknowledgement of progress made gives forward momentum to remain committed to the continuous enhancement of our supervisory framework based on BCP principles and other international best practice guidelines.

We hope that FSAP project will be granted adequate importance and credit from IMF and WB in future as well, as it represents a very valuable instrument for the assessment of country practices. We believe in enhanced role of FSAP assessments, especially considering that self-identified shortfalls by IMF and WB (August 28, 2009) are gradually being eliminated through the improvement of analytical content, quality, and comparability of assessments and strengthening of “off-site” work. In our view, further efforts are required to ensure that all stakeholders interpret the BCPs in an adequate and uniform manner and apply all aspects of grading methodology to arrive at fair, competent and proportionate grading. In addition, increased emphasis on qualitative content and observance of particularly good practice would result in more stakeholders utilizing assessment reports as an input into their analysis for policy design. Such enhancements should promote better cross-country comparability of assessment results as well. In addition, we would like to highlight (not only in reference to Georgian assessment) that more emphasis should be made on testing the quality of supervisory judgment in practice, taking into account the role of FSAPs in enhancing financial stability.

Hereby we provide individual comments on several principles:

CP2 (Independence, accountability, resourcing and legal protection for supervisors)

The major driver of “MNC” score is the lack of salary competitiveness of the supervisor as compared to the banking industry and junior staff turnover rate. We would like to note that budget limitations have not compromised professionalism and effectiveness of NBG staff. As assessors also confirm that the quality of supervision staff is impressive, we consider the assigned grade to the principle rather incompatible.

CP5 (Licensing criteria)

We believe that we are fully compliant with all the requirements of the given principle. Legal requirement for the NBG to assess whether the home supervisor practices global consolidated supervision, and/or whether its supervision standards are equivalent to those of the NBG is not required by the BCPs. The principle refers solely to the practice that we effectively have in place. We would like to highlight that we have inquired if the assessment was in line with Basel FSI interpretation of the terms “supervisor determines”, “supervisor assesses”, “the supervisor requires” and “has the power to require.” According to the feedback from assessors, presence of legal provisions was important despite the fact that it is not required by formal BCP guidelines. We strongly believe that such a deviation from assessment methodology had a significant negative impact on the grading of 1st, 5th, 7th and 15th principles.

CP6 (Transfer of significant ownership)

There are no sufficient qualitative observations presented in the assessment of the given principle that would reflect how we meet the objectives of the principle. We believe that all essential criteria are being satisfied in practice. We would additionally like to note that there is no risk that we are unaware of any changes in relation to shareholders, as banks have a clear notification requirement. Despite the fact that there are no practical concerns in place, we commit to eliminating legal gaps, such as prescribing in legislation “shareholders acting in concert,” and introducing the obligation to receive supervisory approval for the disposal of qualifying holding.

CP 7 (Major acquisitions)

The assessment would have benefited from more qualitative content. We have a fairly comprehensive approach towards the analysis of major acquisitions and in practical terms we meet all aspects of the 7th principle. Besides, identified legal gaps, listed in the comments section, and are not stipulated by BCPs, for instance, legal obligation on supervisor to assess the effectiveness of the host supervisor.

CP 8 (Supervisory approach)

We were not convinced that there are any inconsistencies with Basel core principles. Given the absence of cross-border activities in Georgia and the prevalence of non-complex banking system and their balance sheets, the resolvability assessment under Georgian context is fairly straightforward and does not pose any material concerns. Moreover, even in advanced financial centers, resolvability framework is at an early stage of implementation; however, such observations have not impeded full compliance with the given principle. It should as well be noted that in practice, NBG has taken all relevant measures in cases where resolvability posed excessive risks to local banks. Among them are the requirements of operational independence, ring-fencing, simplification of group structure, etc. Going further, we plan to update the regulation on dealing with problem banks in line with the FSB’s key attributes and Basel guidelines. As regards to supervisory approach, its enhancement is a continuous process in line with updating international standards.

CP 11 (Corrective and sanctioning powers of supervisors)

We agree that some deficiencies could exist for a prolonged period of time in commercial banks; however, consideration should be given to their materiality and the assessment benchmark as well. We did not receive concrete feedback to clarify the instances where there is a room for improvement and the relevant means despite the fact that we have been fully transparent to the assessors which is an important precondition for fruitful dialogue. In addition, we believe that we do have the powers to set individual risk governance requirements, intervene in the organizational structure or business model of a bank evidenced by practical examples. Relevant escalation matrix is also in place. We will conduct additional review to clarify the substance of the comments under the given principle; however, as of now we consider the recommended action plan to have been implemented already.

CPs 15 – 25

We confirm that we are committed towards further improvement of banks’ risk management. However, we believe the assessment was conducted against benchmarks that are too high contradicting the proportionality principle which constitutes one of the cornerstones of BCP assessment methodology. The assessment of the 15th principle stands out as principally unclarified to us.

We do not agree that we focus on largest banks only in our supervisory assessments. We focus on every bank in line with the risk based supervision principles, and we are indeed oriented towards continuously bringing banks closer to their specific relevant standard. The fact that the sophistication of risk management varies across banks is in line with BCPs. Assessors highlight the need for more attention to the quality of the liquidity risk management and its supervision in small banks. We would like to affirm that NBG monitors liquidity risk management of each and every bank and that there are diverse examples of actions taken by NBG for both large and small banks.

We would like to comment on the assessment of ICAAPs as well. The transition to pillar 2 of Basel II/III has started in recent past; however, that does not imply that we are not complying with the core principles that refer to the assessment and planning of capital adequacy both by banks and supervisor. In 2009, NBG introduced legal provisions in LACB that empowered it to impose individual requirements on commercial banks in line with risk based supervision principles. Recent formal launching of pillar 2 of the Basel II/III does not imply that NBG has not already been assessing the ability of banks to quantify risks, price risks and govern risks which incorporate the calculation of both expected and unexpected losses. Instead, our approach has already been risk-based and the capital requirements across different banks have been in line with their individual risk profiles, what is also confirmed by the mission. As a result, the transition to Basel II/III is not a reversal of our current practice, but it should supplement the existing one. It should also be noted that Georgia is not the only country that is in the implementation process and there are many advanced economies that have not yet implemented the framework, or do not generally request ICAAP from small banks.

In certain instances the assessors advise NBG to introduce excessive pieces of legislation and/or impose requirements on banks to advance their internal models and risk management systems to address absent or very immaterial risks. For instance, we do not agree that there is a need to introduce formal provisioning model for country risk when there are no such direct exposures. Neither is there a need to require from bank boards to monitor such an absent risk. Nevertheless, when such even indirect risks have emerged, NBG has always determined and required from banks to address them. We believe that our practice in quantifying indirect country risk is effective through the estimation of exposures to companies which export/import from relevant countries (taking into account relevant shares of exports/imports in their returns).

Further, we cannot agree that there is any risk of us effectively becoming bank risk managers as intrusive supervision is what is urged and favored internationally. We strongly believe that the unfortunate lack of familiarity of supervisors with inherent risk of banks was one of the severe weaknesses which, at least to some extent, contributed to the global financial crisis and, in this regard, our detailed knowledge of risks in individual banks, as well as results of innovative horizontal reviews, should be seen as a particularly good practice. We also could not fully comprehend what is meant by the statement that banks do not have detailed lending standards. In addition, the fact that NBG commenced the implementation of regulatory stress-tests last year, which are transaction level and enterprise-wide, should not have interpreted as if banks had not already performed their own ones. In relation to credit and concentration risks, we have not observed any material concerns from the side of the assessors that could have compromised the efficiency of our framework. Furthermore, we believe we share a common view with the mission that all individual findings are not seen as “severe shortcomings,” which is required to be evidenced if a principle is assessed as MNC. We agree that CP 15 is an overarching principle and incorporates findings from other principles, but it remains ambiguous to us how the combination of those findings was interpreted jointly. Moreover, based on the aforementioned findings relevant principles were already excessively downgraded to “LC”. Consequently, the assessment methodology of 15th principle remains unclear and involves double counting, which is against relevant BCP methodology.

Detailed Assessment

The assessment of compliance with each principle will be made based on the following four-grade scale: compliant, largely compliant, materially noncompliant, and noncompliant. A “not applicable” grading can be used under certain circumstances. While grades in self-assessments may provide useful information to the authorities, these are not mandatory as the assessors will arrive at their own independent judgment.

Compliant: A country will be considered compliant with a Principle when all essential criteria applicable for this country are met without any significant deficiencies. There may be instances, of course, where a country can demonstrate that the Principle has been achieved by other means. Conversely, due to the specific conditions in individual countries, the essential criteria may not always be sufficient to achieve the objective of the Principle, and therefore other measures may also be needed in order for the aspect of banking supervision addressed by the Principle to be considered effective.

Largely compliant: A country will be considered largely compliant with a Principle whenever only minor shortcomings are observed that do not raise any concerns about the authority’s ability and clear intent to achieve full compliance with the Principle within a prescribed period of time. The assessment “largely compliant” can be used when the system does not meet all essential criteria, but the overall effectiveness is sufficiently good, and no material risks are left unaddressed.

Materially noncompliant: A country will be considered materially noncompliant with a Principle whenever there are severe shortcomings, despite the existence of formal rules, regulations, and procedures, and there is evidence that supervision has clearly not been effective, that practical implementation is weak, or that the shortcomings are sufficient to raise doubts about the authority’s ability to achieve compliance. It is acknowledged that the “gap” between “largely compliant” and “materially noncompliant” is wide, and that the choice may be difficult. On the other hand, the intention has been to force the assessors to make a clear statement.

Noncompliant: A country will be considered noncompliant with a Principle whenever there has been no substantive implementation of the Principle, several essential criteria are not complied with, or supervision is manifestly ineffective.

In addition, a Principle will be considered not applicable when, in the view of the assessor, the Principle does not apply given the structural, legal, and institutional features of a country.

Unless the country explicitly opts for any other option, compliance with the Core Principles will be assessed and graded only with reference to the essential criteria. As a second option, a country may voluntarily choose to be assessed against the additional criteria, in order to identify areas in which it could enhance its regulation and supervision further and benefit from assessors’ commentary on how it could be achieved. However, compliance with the Core Principles will still be graded only with reference to the essential criteria. Finally, to accommodate countries that further seek to attain best supervisory practices, a country may voluntarily choose to be assessed and graded against the additional criteria, in addition to the essential criteria.

Table 3.

Georgia: Detailed Assessment of Compliance with the Basel Core Principles

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