Colombia
Technical Assistance Report-Detailed Assessment of Observance of Key Attributes of Effective Resolution Regimes for Financial Institutions-Pilot of the Draft Assessment Methodology

This paper provides a detailed assessment of key attributes of effective resolution regimes for financial institutions in Columbia. The authorities of Columbia have strong powers to manage weak and failing financial institutions and a track record of using them. Colombia’s resolution regime, however, has shortcomings with respect to standards set in the key attributes. Important resolution powers are not available to the authorities, the regime does not emphasize minimizing the exposure of taxpayers to loss, and taking resolution actions does not hinge on an assessment of non-viability. However, Columbia has a large and diversified financial system compared with peer countries, with significant cross-border institutions and large mixed function conglomerates.

Abstract

This paper provides a detailed assessment of key attributes of effective resolution regimes for financial institutions in Columbia. The authorities of Columbia have strong powers to manage weak and failing financial institutions and a track record of using them. Colombia’s resolution regime, however, has shortcomings with respect to standards set in the key attributes. Important resolution powers are not available to the authorities, the regime does not emphasize minimizing the exposure of taxpayers to loss, and taking resolution actions does not hinge on an assessment of non-viability. However, Columbia has a large and diversified financial system compared with peer countries, with significant cross-border institutions and large mixed function conglomerates.

Introduction

A. Background

1. At the request of the Colombian authorities, the bank resolution regime was assessed against the Key Attributes of Effective Resolution Regimes for Financial Institutions (KAs). The assessment was conducted by staff of the Financial Stability Board (FSB), International Monetary Fund (IMF) and World Bank utilizing the draft KA Assessment Methodology (AM)1. The assessment reviewed the resolution regime as of October 2015, and was limited to the banking sector, considering only those elements of the AM that directly relate to bank resolution without assessing those addressing the resolution of insurance firms, investment firms and financial market infrastructures (FMIs).

2. As a draft methodology was used, the findings of the assessment should be viewed as preliminary. A central goal of this assessment was to test the draft AM, and a future revision of the AM might yield different results with respect to the adherence of the Colombian bank resolution regime to the KAs. In this light, no ratings were assigned in this review. This assessment was the first one undertaken in a country that is not a member of the FSB, or home to a Global Systemically Important Financial Institution (G-SIFI).

3. The authorities provided a detailed self-assessment in accordance with a template and questionnaire prepared by the assessment team, which was reviewed off-site. The comprehensive report with this assessment was coordinated by the Superintendency of Financial Institutions (SFC), with contributions from the deposit insurance fund (FOGAFIN), the central bank (BR) and the Financial Regulation Agency (URF—an operationally independent office of the Ministry of Finance (MHCP)). In addition, related laws, decrees and other relevant documentation were reviewed. The team benefitted from the findings of the Financial Sector Assessment Program (FSAP) undertaken in 2012/13. A mission then visited Bogotá from September 28 to October 13, 2015, to meet with the authorities and market participants. During the onsite visit meetings were held with SFC, FOGAFIN, BR and URF, and a closing meeting was held with the Minister of Finance, the Financial Superintendent, the Director of FOGAFIN, and BR. In addition, the mission met with representatives of the large domestically owned banks, foreign banks, law firms, the stock exchange and clearing house, and other market participants.

4. The authorities extended full cooperation to the assessment team. There were no substantive impediments to the completion of the assessors’ work. The cooperation, time dedicated, and frank and cordial discussions that the authorities offered the team is greatly appreciated.

B. Institutional Setting and Market Infrastructure

Overview of the resolution regime

5. The Colombian legal framework does not include the full range of resolution powers and related attributes as specified in the KAs. Weak, failing and insolvent financial institutions are subject to administrative powers that share many features with resolution powers as described in the KAs. The objectives of the resolution authority are consistent with some of those described in the preamble to the KAs, namely the avoidance of “severe systemic disruption… while protecting vital economic functions.” However, the early intervention tools available (known as rescue tools—“institutos de salvamento”)—are focused on avoiding the need for “takeover and control” rather than the resolution of failing financial institutions when assessed as non-viable by the resolution authority, and there is no clear priority given to avoid exposing taxpayers to loss. The framework does not recognize resolution as a stand-alone legal proceeding, empowering the authorities to impose resolution measures (such as restructuring or winding down a firm’s operations) through a directly binding measure, without shareholder and creditors’ consent.2 The scope for shareholders to absorb losses is limited to liquidation, nationalization or capitalization with deposit insurance funds, and only to liquidation with respect to unsecured and uninsured creditors. In trying to preserve financial stability, the authorities have few options beyond actions to avoid takeover and control, including through use of public funds and without explicit powers to override shareholder consent, liquidation, and nationalization.

6. This context informs the assessment of the KAs. While the Colombian resolution regime goes well beyond subjecting failing banks to ordinary corporate insolvency proceedings, the motivation and feasibility of avoiding bail-outs of shareholders and unsecured and uninsured creditors that lie behind the KAs is absent. The approach taken by the assessors was to judge the regime’s adherence to each KA and essential criterion (EC) on its own merits, while the overall conclusions acknowledge that the current regime deviates from the intent and spirit that lies behind the KAs in important respects.

7. Colombia’s constitution gives primary responsibility for regulating and supervising the financial system to the President of the Republic. The MHCP has delegated powers of legislative initiative and regulation of the financial sector, the latter through the URF, while supervision is the competence of the SFC.

8. Responsibility for bank resolution is delegated to the SFC and FOGAFIN. The SFC is responsible for deciding when a bank should be resolved, working closely with FOGAFIN, that has specific functions in the execution of resolution. The SFC, an administratively and operationally independent agency of the MHCP, is responsible for supervision of all financial institutions, including banks, insurance and securities firms, except a narrowly defined subset of cooperatives. The deposit insurance agency, FOGAFIN, has a separate board and mandate, also deriving its authority from the MHCP, and is subject to the oversight of the SFC. The SFC and FOGAFIN, along with the BR and MHCP play a key role in monitoring financial stability, with policy in this area coordinated through the Financial Sector Coordination and Monitoring Committee (CCSSF). The BR ranks financial firms by their systemic importance, for consideration by the CCSSF twice a year.

9. The specific resolution regime for cooperatives is not reviewed in this assessment. Approximately 11,400 cooperatives that accept deposits (only from their members) are supervised by the Superintendency of the Solidary Economy (Superintendencia de la Economía Solidaria—SES). The SES has broadly similar supervisory and resolution powers as the SFC, and there is a separate deposit insurance fund (Fondo de Garantías de Entidades Cooperativas—FOGACOOP). These cooperatives are subject to limits on financial functions and funding sources, and must convert to financial cooperatives supervised by SFC when a size threshold is reached. Due to their small size—total assets are equal to under 5 percent of financial system assets—and the low exposure of the banking sector—loans to cooperatives account for about 0.5 percent of the total loan portfolio of credit institutions—these entities are not considered to be of systemic importance. Failing institutions have usually been managed through arranged mergers within the cooperative sector.

10. The financial system, SFC and FOGAFIN are governed by the body of law contained in the organic statute of the financial system (EOSF). This decree compiles the many laws governing the financial system and has the legal hierarchy of the underlying laws. It includes all the powers available to the SFC and FOGAFIN in resolution. Financial regulation, including with respect to resolution powers, is expressed through Presidential decrees, and is compiled in Decree 2555 (2010), which is lower in the legal hierarchy than the EOSF.

11. The SFC has administrative powers to manage failing financial institutions. The law enables the SFC to intervene (“toma de posesión”, henceforth “takeover and control”) a bank if triggers are met, including a capital adequacy threshold, failure to comply with a rehabilitation plan addressing identified weaknesses and several other conditions including payments failure, breaches of regulations or supervisory orders, and unsafe and unsound management. Once takeover and control has been triggered, a strategy to enable recovery of the institution or initiate a liquidation is taken. The SFC may also take actions to prevent the triggers for takeover and control being reached, including changing management and requiring a rehabilitation plan, among others.

Overview of the financial system

12. Colombia’s financial system is relatively large and diversified in relation to other middle income countries. Total financial system assets are equivalent to close to 150 percent of GDP, with credit institutions (overwhelmingly banks) accounting for about 45 percent of the total. Of 57 credit institutions, 25 are banks (the others being financial corporations of various types and financial cooperatives, subject to limitations on their operations and the nature of their liabilities). About 30 percent of financial system assets are held in trust structures, including investment funds administered on behalf of third parties (including private wealth vehicles), public sector infrastructure investment funds, and collective investment vehicles such as mutual funds. The largest private trusts are part of financial groups that include banks. Pension funds account for a further 16 percent of financial sector assets, with all four pension funds being part of financial groups that include banks. The remaining assets are held by insurance companies and special purpose public financial entities (about 4.5 percent of total assets each), and capital markets intermediaries.

13. The degree of banking system concentration is moderate. The largest four banks account for about 60 percent of banking system assets. Taking into account that one group (Aval) owns four banks, including the second largest, the largest four banking groups account for over 70 percent of total assets. Of these four groups, the top three are domestic and privately owned, while the fourth is foreign-owned and part of a G-SIFI (BBVA). Banks are overwhelmingly funded with local deposits, with sizes and concentration in relation to deposits similar to the pattern for assets.

14. The three largest domestically-owned banking groups have substantial overseas operations. Grupo Aval, Grupo Bancolombia and Grupo Bolívar are regionally systemic financial institutions in Central America. All three groups own overseas banking subsidiaries that are materially important for the group, and systemically important for the host jurisdictions. Colombian banks have a presence in all countries in the Central American region. They have a combined market share (by assets) of 54 percent in El Salvador, 27 percent in Panama, 23 percent in Nicaragua and 19 percent in Honduras. Grupo Suramericana does not own banks, but is considered a regionally systemic insurance group. Colombia is also host to a regionally-systemic financial institution (the Brazilian firm Itaú owns Corpbanca, the sixth largest bank with a 6 percent market share by assets).

15. The large financial groups are part of mixed function conglomerates (see Box 1). These groups have significant financial activities beyond banking—the pension funds, the largest trust vehicles (excepting those created for public investments) and brokerage and investment banking firms are owned by them. The three largest domestic groups, noted above, have common ownership with significant real sector operations across a wide range of economic activities. They have consolidated assets totaling a little over 20 percent of GDP, and account for over 70 percent of total consolidated assets of financial and mixed conglomerates. There are two other domestically-owned conglomerates with mixed functions (including Grupo Suramericana).

16. The four largest banking groups are considered domestically systemic. Systemic importance stems mainly from the size of the groups, as the banking system is predominantly deposit-funded and interconnectedness is generally measured as low. Depending on the methodology, the fifth largest group is also sometimes measured as systemic. There are no explicit additional supervisory or regulatory requirements for systemic firms.

Mixed Conglomerates—Implications for Bank Resolution

Mixed conglomerates dominate the Colombian financial system, posing specific challenges from a resolution viewpoint. Interconnectedness and intra-group financial flows give rise to specific channels of contagion, or reputational and confidence impacts, across very different businesses and markets. These potential obstacles to effective resolution of financial firms that are part of mixed conglomerates raise questions for the assessment and implementation of the KAs.

Regulation and supervision are the first line of defense. Rigorous prudential regulation of intra-group exposures (limits on large and related party exposures) and effective conglomerate supervision are essential. This requires having sufficient powers to ensure that those groups are organized transparently, including with respect to separation of financial and nonfinancial activities, and the visibility of nonfinancial firms such as holding companies, essential service providers or overseas operations (including in non-transparent jurisdictions). In this respect, adoption of the draft conglomerates law would be an important step complementing existing powers that grant extensive powers to gather information on all parts of conglomerates, but limit the perimeter for consolidated supervision to supervised entities.

With respect to resolution, key issues include:

  • Institutional cooperation: Different authorities manage insolvency processes for financial and nonfinancial entities. The SFC has a mandate to preserve financial stability, while the SSoc seeks to protect creditors and minority shareholders through corporate insolvency proceedings. Action by creditors of different entities in a conglomerate can raise coordination challenges, with a risk of undermining resolution strategies or transmitting financial stress to otherwise sound financial institutions. The SFC and the SSoc have coordinated effectively in the past. Information-sharing and cooperation protocols could be formalized in an MOU, with a view to avoiding that legal or operational impediments hinder resolution, and enhancing crisis preparedness.

  • Including holding companies in the bank resolution regime: The lack of resolution powers over holding companies may prevent the SFC from gaining sufficient control over a failing conglomerate to implement a comprehensive, orderly resolution of the financial sector component. Extending resolution powers to (financial and nonfinancial) holding companies could avoid uncoordinated action and facilitate the carve-out of the financial parts of the conglomerates. Triggers for resolution should still be bank-specific: the weakness of the holding company must have an impact on the viability of the bank before resolution actions are justified.

  • Resolvability: Complex, opaque corporate structures are difficult to resolve, and powers to require a firm to reorganize to improve resolvability are desirable. Removal of operational or legal impediments to conversion of intra-group claims into equity should be considered. Cross-default clauses in debt or other financial contracts of nonfinancial affiliates could have serious implications for financial stability, and mechanisms to prevent such an impact should be in place. Mechanisms are also needed to ensure that nonfinancial affiliates providing operational services to banks can continue to do so in resolution, or if subject to insolvency.

17. The Colombian financial system has performed well in recent years, and the authorities consider financial stability risks to be contained. Total financial assets doubled in nominal terms between 2009 and 2015, with the banking system growing at a similar pace. Banks appear well capitalized, with the system average CAR standing at over 15 percent. Although Colombia is undergoing an economic slowdown and its currency has recently experienced a large depreciation, credit growth remains positive and banks remain profitable. Nonperforming loans (defined as credits 30 days or more past due) ratios have risen modestly since 2012, but remain low at 3 percent of total loans and coverage ratios are in excess of 100 percent. Dollarization in Colombia is low (about 12 percent of credit institution assets), but is significantly higher in the Central American subsidiaries of the banking groups. The Central American economic cycle is not synchronized with Colombia’s; for a start, Central American countries are oil importers, while Colombia is an oil exporter. Subsidiaries in the region are currently supporting the profitability of the internationally-diversified firms. At the same time, housing loans in Colombia have grown quickly in recent years, but NPL ratios remain very low, and prudential standards are conservative (including a 70 percent maximum loan-to-value ratio).

C. Review of Preconditions

Precondition A: A well-established framework for financial stability, surveillance and policy formulation.

18. The MHCP is responsible for issuing prudential regulations, and the SFC for supervision. In coordination with the URF, the SFC plays a critical role in the proposal and development of financial regulation and policy formulation. The SFC also has the authority to issue instructions of mandatory compliance on a broad range of issues, including risk management, loan classification and provisioning, and accounting and reporting. The 2013 Financial Sector Assessment Program (FSAP) found Colombia’s financial sector oversight to be comprehensive and well-integrated, with appropriate technical input into the development of regulation and with no evidence of political interference.

19. The CCSSF was established by statute in 2003 to improve coordination among financial safety net entities. It is composed of high-level representatives of the key agencies responsible for financial stability, including the Minister of Finance, the Governor of the BR, the Financial Superintendent, the Managing Director of FOGAFIN and the director of the URF as a permanent observer, meeting at least quarterly. The CCSSF provides a forum for information sharing and coordination, but is not a decision-making body; powers reside in the member institutions. Its main responsibilities are to monitor systemic risk, macro- and micro-prudential policy coordination, crisis preparedness and management, and information sharing. Technical sub-committees follow up on agenda items and reinforce cooperation and communication.

20. The BR can provide emergency liquidity through a lender of last resort facility. Conditions for access to the facility are set by the Board of Governors of the BR, and are laid out explicitly. The current conditions stipulate that the BR must lend to credit institutions that produce an audited statement attesting solvency and providing acceptable collateral, regardless of the BR’s or the SFC’s opinion on the viability of the firm. While a repayment plan is required, and a wider range of collateral than government securities is accepted with haircuts, other lending terms including maximum maturity are pre-set. All conditions of lending can be modified by a decision of the BR’s Board of Governors.

Precondition B: An effective system of supervision, regulation and oversight of financial institutions

21. The SFC has a broad oversight mandate. The SFC’s objectives include to preserve financial stability and confidence, protect depositors, investors and insurance policyholders, consumer protection and capital markets oversight and development. While presenting significant resource and organizational challenges, the SFC’s broad mandate also facilitates the development of a consistent supervisory framework across financial activities and access to information for consolidated supervision of financial groups.

22. The 2013 FSAP found that bank supervision had been strengthened in relation to previous assessments, and also identified shortcomings. The Basel Core Principles assessment noted shortcomings, including with respect to the independence of the SFC, legal protection of supervisors, the capital adequacy framework, risk management, the supervisory approach, external audit and consolidated supervision. The SFC enforces a robust framework for assessment of credit risk and asset classification and provisioning, and ensures that banks manage market, liquidity and operational risks prudently. The authorization processes are well designed and thorough, including licensing, transfers of ownership and investments. The SFC has issued resolutions and circulars on risk management, as well as other topics such as valuation, accounting and reporting requirements. The FSAP recommended that the large exposure and related party regulations be made more comprehensive and allow fewer exceptions, most importantly by changing the rules to include unconsolidated local affiliates and available unused credit lines in calculating large exposures and related party lending. Also, the definition of corporate control may create opportunities to bypass the related party limits. A MHCP proposal on large exposures is under review: the SFC provided comments building on the Basel Committee for Banking Supervision methodology for large exposures. The new regulation was expected to be issued in the fourth quarter of 2015.

23. According to the 2013 FSAP the consolidated supervision of financial conglomerates has been significantly enhanced since the creation of the SFC. Improvements in the legal framework have empowered the SFC to conduct onsite exams and obtain necessary information from unsupervised members of financial conglomerates, to order the consolidation of financial statements of companies of these conglomerates, to exchange information with foreign supervisors and to authorize investments in the capital of foreign entities. Supervisory procedures are in place and a dedicated team is responsible for the supervision of financial conglomerates. The scope of the analysis covers the financial conglomerate, as well as the broader mixed conglomerate.

24. The 2013 FSAP recommended adoption of a law extending SFC’s full regulatory and supervisory powers to holding companies of financial institutions. The SFC can supervise such firms to the extent that they issue publicly-traded securities (the holding companies of all the large groups in Colombia do so). Draft legislation currently being considered by the MHCP will enable the SFC to require (i) additional information from nonfinancial firms (including holding companies) in conglomerates that include financial firms; (ii) organizational changes and corporate governance changes where the conglomerate structure is deemed to impede effective supervision; (iii) that the conglomerate or holding company meet prudential regulations; and (iv) that the firm cease activities that could put the financial entities at risk. It will not, however, extend resolution powers to holding companies.

25. The SFC has established a network of cooperation with other countries to exercise effective cross-border supervision. There are no legal limitations on supervisory cooperation. Based on several memoranda of understanding (MOUs), SFC engages in regular exchanges of information with these agencies. The SFC is in the process of becoming a full member of the Central American Council of Banking Supervisors (CCSBSO), a forum for coordination with most of the host supervisors of the largest Colombian financial groups.

Precondition C: Effective protection schemes for depositors and clear rules on the treatment of client assets

26. Colombia has an effective deposit insurance system, managed by FOGAFIN. The current coverage limit is about US$7,000 (COP 20,000,000) per depositor per institution. All deposit-taking financial institutions are required to participate in the system (except for the cooperatives covered by FOGACOOP), paying quarterly deposit insurance premiums. The scheme covers 98 percent of the depositors in full. As of August 2014, the deposit insurance fund had resources of US$4.6 billion (COP 14.0 trillion), and there is currently no target ratio. In the event that the fund is depleted, FOGAFIN is allowed to raise extraordinary contributions or ask for contributions from the national budget (EOSF art. 319). FOGAFIN has to pay out insured deposits within two months, but is developing the capabilities to start the reimbursements of insured depositors two days after the liquidation order. It has only recently started to collect depositor data directly from member banks for the purpose of deposit insurance. The current long payout timeframe raises concerns as it could contribute to depositor uncertainty in cases of bank failures.

27. FOGAFIN has specific roles in bank resolution, including providing capital for recapitalization and granting loans and providing guarantees, among others. SFC must coordinate with FOGAFIN in the execution of some resolution tools. When the liquidation of an institution is decided, FOGAFIN designates and supervises the liquidator. FOGAFIN relies on the SFC to assess the financial soundness of credit institutions. FOGAFIN can provide open bank assistance.

28. Only certain types of supervised entities, not including banks, are permitted to carry on activities that involve the holding or safeguarding of client assets. Those entities—brokerage firms, trust companies, investment management companies and pension funds—are subject to rules and SFC instructions on the segregation and identification of client assets that require them to be held separately from the entity’s own funds and proprietary assets. By law, client assets held by a supervised entity do not form part of the insolvency estate in the event of the liquidation of the entity and must be returned to the owners or persons entitled them. The legal framework also establishes the principle of pro rata distribution where the excluded assets are insufficient to meet those entitlements in full.

Precondition D: A robust accounting, auditing and disclosure regime

29. Colombia recently adopted International Financial Reporting and Auditing Standards (IFRS). The SFC applied the convergence process for moving to IFRS through 2014, and will review implementation of IFRS relative to the previous standards in 2015, providing an opportunity to address any outstanding issues.

Precondition E: A well-developed legal framework and judicial system

30. Colombia has a well-developed legal tradition. Commercial and corporate insolvency law are well-developed, and there is a legal framework for personal insolvencies. Corporate and financial insolvency processes are managed by administrative agencies of the state. The SFC exercises judicial functions on certain matters (e.g. consumer protection), while the Superintendence of Corporations (SSoc), an agency of the Ministry of Commerce, Industry and Tourism, has narrowly-defined judicial powers in corporate insolvency (for nonfinancial firms). Judicial decisions taken by administrative authorities are exempted from the jurisdiction of administrative courts. Administrative courts are in charge of ruling on challenges regarding decisions taken by public bodies or individuals that exercise an administrative function.

Detailed Assessment

31. The table below presents a detailed review of the compliance of the Colombian resolution regime with the KAs. As noted earlier, two key considerations to keep in mind are: (i) the review is based on a draft assessment methodology that is subject to change in future—therefore the assessment may not be directly comparable with future assessments; and (ii) the review pertains only to the banking sector, and ECs pertaining to insurance companies and financial market infrastructures are not reviewed.

Table 1.

Colombia: Detailed Assessment Report

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Recommended Actions and the Authorities’ Response

A. Action Plan

32. The action plan outlined below suggests reforms that would enhance the framework for orderly resolution in Colombia, in line with the KAs. While the current framework has proven adequate for managing recent failures of financial institutions in a way that preserves financial stability, there are shortcomings with respect to the standards set by the KAs. Resolution powers enabling continued operation of a firm while losses are imposed on shareholders and unsecured, uninsured creditors are lacking; also, the regime does not contemplate timely resolution on an assessment of non-viability, or avoiding exposing taxpayers to loss. While public funds may be used in resolution, there is no mechanism for recovering any losses incurred from the industry. The reforms suggested aim to strengthen the authorities’ tools and capacity to act, which would be particularly important should a systemic failure or event with systemic risks arise. They give due weight to the two aspects of the public interest that resolution regimes aim to further: preservation of financial stability, and protection of taxpayers from exposure to losses from failing financial firms. As the host of G-SIFIs and home of R-SIFIs, there are also important cross-border aspects to the recommendations. Table 2 ranks the different recommendations according to their priority (high – medium – low).

Table 2.

Colombia: Recommended Actions

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33. A reformed resolution framework should include triggers based on the non-viability of an institution. Delayed resolution of failing institutions almost always leads to increased economic costs and rising financial stability risks. Clear criteria for early entry into resolution based on a determination that a financial entity is no longer viable or will become so, allow authorities to take resolution action in a timely manner. Indeed, it is only when such a determination is made that resolution (that interferes with private property rights by allocating losses to shareholders and creditors before a firm is balance sheet insolvent) can be justified on public interest grounds.

34. A key priority should be the creation of a power enabling transfers of assets and liabilities. Introducing powers to transfer assets and liabilities, on a mandatory basis and without shareholders or creditors’ consent, from a failing entity to financially sound institutions would significantly strengthen the resolution options available to the authorities. This resolution tool helps preserve public confidence by giving to depositors prompt access to their deposits, and maintains the going concern value of the assets transferred. The license of the failed entity should be withdrawn, and the residual assets and liabilities placed in liquidation. These liabilities should include uninsured and unsecured credits, and shares, to the extent that insufficient good assets are available to cover them in the transfer. This tool minimizes outlays by the deposit guarantee fund (and by implication the public resources that backstop the fund). Bridge banks combine transfer powers with the creation of a new public bank, subject to the principle of protecting taxpayer’s money, and can be a useful instrument in a systemic crisis, or where time is needed to find private buyers of failed bank assets.

35. Stay powers and safeguards of creditor rights are desirable to underpin the use of this power. A power to impose a temporary stay on the exercise of early termination rights in financial contracts is highly desirable to support the use of transfer powers, as entry into resolution may constitute an event of default under financial contracts with acceleration, or early termination clauses. A mass close-out of financial contracts can undermine a resolution transaction, and a stay of 24 to 48 hours is intended to provide a short period to enable the resolution action to be carried through. Legal safeguards should be put in place to ensure that the use of transfer powers strikes an appropriate balance between the public interest and the property rights of shareholders and creditors. Partial property transfers protects selected liabilities while other liabilities are left behind and liquidated. Sufficient flexibility in such transactions requires the legal framework to permit departure from the strict principle of equal (pari passu) treatment of creditors of the same class in resolution. Providing compensation under a ‘no creditor worse off that in liquidation’ principle provides a minimum protection to creditors, and strengthens the legal position of the resolution authority. Explicit changes to the creditor hierarchy for banks—depositor preference—is an alternative, less flexible, approach that may be easier to implement and does not interfere with fundamental legal principles. By ranking deposits higher than other unsecured liabilities, they can be transferred from a failing bank to a purchaser or bridge bank without breaching pari passu.

36. Legal certainty could be enhanced if the judicial remedies under the resolution regime are limited to financial compensation, unless the actions are unlawful. The possibility that a court might reverse a transfer action can significantly weaken the effectiveness of transfer powers, since purchasers may be reluctant to participate. In general, the risk that courts might suspend or order the reversal of a resolution decision could delay timely action. Reforms would not prevent courts from awarding other remedies in cases where the authorities had acted outside of their powers or in bad faith, and a statutory restriction of this kind can help enhance the legal certainty of resolution actions and support market confidence.

37. It is advisable that the SFC initiates recovery and resolution planning as soon as possible. Recovery planning is a powerful supervisory tool, helping in both the pre-emption and the planning of resolution. Banks should prepare the plans, to be approved by the SFC and the banks’ own boards of directors, to ensure their “ownership.” Resolution planning is important to prepare for the possible failure of firms, in particular systemically important entities, and to identify deficiencies in the resolution framework. Cooperation with FOGAFIN will be important, particularly to the extent that specific resolution strategies involve the use of deposit insurance funds. Resolvability assessments are a key part of the planning process, and the SFC should have the power to require firms to alter their structure if material impediments to resolution are found. To support the planning process, a dedicated full-time resolution unit within SFC should be established. The unit should be operationally independent and its reporting line to the Superintendent should be separate from that of the Supervision Department to avoid potential conflicts of interests.

38. Cross-border cooperation on resolution matters should be enhanced to provide for prompt action and coordination between home and host authorities. Existing MoUs could be expanded to cover information exchange and cooperation on recovery and resolution matters on a firm-specific basis where the firms are significant in either jurisdiction. The law should be modified to provide for expedited action on cross-border matters. It would be helpful for SFC to provide guidelines clarifying the conditions under which support for cross-border resolution action would be available. SFC should have the power to support cross-border resolution action, if it deems appropriate, even if the domestic supervised entity is not subject to resolution proceedings.

39. Finally, consideration should be given to further strengthening the formal safeguards on operational independence of the resolution authority. While there is no evidence of undue political or industry influence over resolution decisions in recent times, and there is a track record of action with respect to weak and failing institutions, enhancing formal protections could be of great value in the unlikely, but not impossible, event of a systemic institution encountering serious difficulties. Potential reforms could include making the Superintendent’s term in office overlapping, rather than concurrent, with the Presidential term, extending similar terms to the Director of FOGAFIN, allowing for dismissal only on a predetermined set of grounds, providing for statutory judicial protections of officials acting in good faith in resolution actions, reconsidering the role and composition of the Advisory Council, or requiring due process in cases of dismissal of the Superintendent through review by another branch of government, or an independent body.

B. Authorities Response

Authorities’ Comments – January 2016

Colombia’s 2015 Detailed Assessment of Observance Key Attributes of Effective Resolution Regimes for Financial Institutions

-FSB, IMF, World Bank-

Dear Assessment Committee Members,

The Colombian authorities involved in the execution of the resolution mechanisms are immensely grateful for your team’s effort and dedication in the Assessment. Both your professional skills and your kindness were crucial factors for this rewarding experience. The recommendations obtained are valuable inputs for strengthening Colombia’s financial public policy.

Hereafter, we submit the following comments regarding the final version of the Assessment:

General Comments

40. Except for a few that will be presented below, the Colombian authorities agree with the main conclusions of this Assessment. It is worth noting that the Assessment recognized the effectiveness of Colombia’s legal framework and experience regarding resolution mechanisms. The effective use of our broad powers allowed that, in the past, financial institutions were orderly resolved and that the financial system’s stability was preserved. The independence of the resolution authority and the other authorities involved in the exercise of such mechanisms has assured technically based decisions, free of political and the industry’s influence.

41. The Colombian authorities agree with the context exposed by the Assessment. The document reflects the main characteristics of our strong and diversified financial system. Also, the institutional framework is correctly depicted, showing all relevant authorities, their coordination organs, the resolution regime and the overview of our financial system. Our strong international cooperation network, our effective protection schemes for depositors and our clear rules on the treatment of client assets are duly acknowledged and exposed.

42. The Colombian authorities are proud of the transparency and openness of the assessment proceedings. We strongly value the appreciations regarding the absence of impediments to the completion of the assessors’ work, the cooperation, time dedicated, and the quality of the discussions that preceded this assessment.

43. Colombia values the useful recommendations issued by this Assessment. We recognize the importance of updating our resolution mechanisms’ regime in accordance with the second generation mechanisms that arose from the 2008 financial crisis.

44. The Financial Superintendency disagrees with the conclusion regarding the absence of legal powers of the resolution authority to override the shareholders’ consent during the exercise of the resolution mechanisms. As maintained throughout the assessment process, the SFC does not need any consent of shareholders or third parties for executing its resolution powers. Furthermore, if the firm in resolution does not satisfy an order given by the SFC, there is a set of tools that deter shareholders or administrators for not complying with it, including the possibility of imposing sanctions or liquidating the firm.

45. The SFC strongly considers that the resolution authority has the power to exercise several resolution powers without requiring any consent of shareholders or third parties. This is evident in the exclusion of assets and liabilities (number 11 of Article 113 of the EOSF), where it is clear that the transfer is mandatory and not subject to any further approval. This is expressly stated in letter a) of such norm: “Transfer of liabilities arising from the exclusion occurs automatically, subject to previous notice to holders of liabilities object of exclusion.” According to this norm, it is openly expressed that the effects of the transfer are immediate and that it is not required any sort of approval from shareholders or any third parties.

46. Additionally, when a merger (number 5 of Article 113 of the EOSF) is ordered, Paragraph 1 states that the order emitted by the SFC is mandatory and shall be registered as soon as the administrative act is in force. This necessarily implies the absence of the requirement of the shareholders’ consent.

47. Furthermore, it is clear within the provision for labor contract payments (number 11 of Article 113 of the EOSF) that the exercise of this power does not require any shareholders’ consent.

48. Finally, it is worth noting that this conclusion is part of several arguments or observations throughout the document, from which we disagree. These are detailed in the following table:

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Specific Comments

49. On the following assertion on page 4: “Important resolution powers are not available to the authorities (…)”: The SFC considers this assertion too ample. Precision in the important mechanisms missing was essential in the executive summary. In our opinion, the SFC has all main resolution mechanisms, although their scope and objectives may differ with the KA’s perspective. The fact that the premises of the existing mechanisms differ from the ones of the KAs, does not mean that Colombia does not have important resolution powers.

50. On the following assertion on page 4: “There are no requirements for, and few tools enabling, the imposition of losses on the shareholders responsible for the institution’s failure or the avoidance of taxpayer exposure to loss or unwarranted protection of unsecured and uninsured creditors.” The SFC does not agree with this statement since there is at least one tool that requires and enables the imposition of losses on shareholders. When a recapitalization measure is ordered, for example, the shareholders must use their own resources to increase the capital of the entity and compensate for loses. If they do not respond to this order, the entity is subject to a takeover.

51. On the following assertion on page 13: “20. The BR can provide emergency liquidity through a lender of last resort facility. Conditions for access to the facility are set by the Board of Governors of the BR, and are laid out explicitly. They currently require that the BR must lend to credit institutions providing an audited statement attesting solvency and providing acceptable collateral, regardless of the BR’s or the SFC’s opinion on the viability of the firm. In case the BR or the SFC have any doubts on the viability of the institution, the central bank has the discretion to deny access to the liquidity facility. In fact, article 6 of External Resolution of 2001 states that “Article 16 (Restrictions). At any moment the Banco de la República may deny access to lender of last resort facilities or demand their cancellation, when it verifies that the support operations carried out did not match or do not match the ends, conditions and requirements set out in this resolution, or when it establishes that the information contained in the requests does not correspond to the entities’ situation.

52. On the description and findings of EC 3.13: Regarding EC3.13, it is important to note that a new decree was issued after the evaluation was performed. The Decree 2392 (issued on 11 December 2015) extended the loss absorbent features to Tier 2 instruments (in Decree 1648 of 2014 such features applied only to Additional Tier 1 instruments). Decree 2392 established that contingent capital instruments are written down or converted into equity at a trigger point before a bank enters into resolution, or when the SFC decides so. Even though these instruments have not been issued so far, Decree 2392 of 2015 has set out a transition period to replace the current T2 instruments for instruments with the new loss absorbent features. This will enable authorities to apply their bail-in powers on such instruments.

1

The mission was led by Mr. Alvaro Piris (IMF, Monetary and Capital Markets Department), and comprised Ms. Ruth Walters and Mr. Vijay Tata (FSB Secretariat), and Messrs. Alessandro Gullo (IMF, Legal Department) and Jan Nolte (World Bank, Finance and Markets Global Practice).

2

The authorities’ have noted their disagreement with this representation (see “The Authorities’ Response”, p. 68). Given the interference with shareholders’ economic and governance rights under ordinary corporate law, the assessors decided to leave the representation unchanged, considering that an explicit legal provision for overriding shareholder consent, applying generally to resolution actions, is necessary to support effective implementation of resolution and allocate losses to shareholders and creditors in the public interest in line with the KAs.

3

While the text of EOSF art. 115 states that the takeover and control decision is subject to the approval of the MHCP, the authorities explain that a comprehensive interpretation of the legislation currently in force is that such approval is no longer necessary. Indeed, while the text of art. 115 has remained unaltered, the explanatory statements to the law 795 of 2003 amending the EOSF, refer to the abrogation of the requirement for the MHCP approval. Moreover, as a matter of practice, no approval was sought or given in the recent cases of application of art. 115, nor was this aspect raised by affected parties in litigation. The mission defers to the arguments made by the authorities.

4

See Article 116.1 of the EOSF. It should be noted that, while this article regulates takeover and control in a liquidation context, Articles 9.1.1.1.1, 9.1.1.1.2 and 9.1.2.1.1 of D2555 provide for the appointment of a special agent in the context of a takeover and control to administer the bank that is specifically relevant for this KA. It may therefore be argued that the power to remove managers and directors could apply also to takeover and control for administration purposes.