Effective Implementation of FSB Principles for Sound Compensation Practices and Implementation Standards: 2021 progress report

4 November 2021 | PDF full text (1,012 KB)

Compensation practices in large financial institutions were one of the key contributing factors to the excessive risk-taking that was prevalent in the run up to the 2008 global financial crisis.

This progress report assesses the implementation of the FSB’s Principles and Standards for sound compensation practices and how compensation practices have evolved since 2009.

The report covers the compensation practices of the largest financial institutions in the banking, insurance and asset management sectors. The report describes regulatory and supervisory developments; the functioning of governance mechanisms for compensation by firms; the effective use of metrics/criteria and compensation tools; and legal and regulatory challenges to the effective use of compensation tools.

It highlights uneven progress toward implementing the Principles and Standards, with banks relatively more advanced than insurance and asset management firms. This may reflect the more pressing need for banks to align compensation with risk-taking following the 2008 global financial crisis.

Against this backdrop, this report focuses on:

  • The effectiveness of compensation frameworks. A common approach to assess employee performance and determine variable compensation is to use a balanced scorecard based on key performance indicators, complemented by other inputs. The report notes that it is critical to establish and apply such a framework so that it promotes a sound risk culture in a firm. While in-year adjustments and malus are commonly used, the use of clawback is not widespread due to ongoing legal and practical constraints. The report advocates incorporating clawback terms and severance clauses in employment contracts to enhance their enforceability and effectiveness.

  • Emerging trends. The report notes the increased use of non-financial measures and disclosure of compensation-related information to shape and promote a sound risk culture and positive behaviours, as well as to contribute to robust risk management. Firms are increasingly incorporating environmental, social and governance (ESG) aspects to drive accountability for delivering outcomes. This must be underpinned by robust governance, as the increasing application of non-financial measures requires the Board and internal control functions to use discretion and judgement appropriately.

  • Experience during the COVID-19 pandemic. The report finds that most existing compensation frameworks, and associated governance mechanisms, have demonstrated sufficient flexibility to date. However, while banking authorities in most jurisdictions have powers to direct firms to hold back and/or limit bonuses, especially in cases where there are concerns about capital conservation, or to increase deferral periods, this is much less prevalent in the asset management and insurance sectors.

FSB highlights implementation progress and gaps on effective compensation practices in financial institutions

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+41 61 280 8477
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Ref: 31/2021

The Financial Stability Board (FSB) today published a progress report on the implementation of its Principles for Sound Compensation Practices (Principles) and their Implementation Standards (Standards) in financial institutions.

The report covers the practices of the largest financial institutions in the banking, insurance and asset management sectors. It highlights uneven progress toward implementing the Principles and Standards, with banks relatively more advanced than insurance and asset management firms. This may reflect the more pressing need for banks to align compensation with risk-taking following the 2008 global financial crisis.

Against this backdrop, this report focuses on:

  • The effectiveness of compensation frameworks. A common approach to assess employee performance and determine variable compensation is to use a balanced scorecard based on key performance indicators, complemented by other inputs. The report notes that it is critical to establish and apply such a framework to promote a sound risk culture in a firm. While in-year adjustments and malus are commonly used, the use of clawback is not widespread due to ongoing legal and practical constraints. The report advocates incorporating clawback terms and severance clauses in employment contracts to enhance their enforceability and effectiveness.

  • Emerging trends. Non-financial measures and disclosure of compensation-related information are increasingly used to shape and promote a sound risk culture and positive behaviours, as well as to contribute to robust risk management. Firms are increasingly incorporating environmental, social and governance (ESG) aspects to drive accountability for delivering outcomes. This must be underpinned by robust governance, as the increasing application of non-financial measures requires the Board and internal control functions to use discretion and judgement appropriately.

  • Experience during the COVID-19 pandemic. The report finds that most existing compensation frameworks, and associated governance mechanisms, have demonstrated sufficient flexibility to date. However, while banking authorities in most jurisdictions have powers to direct firms to hold back and/or limit bonuses, especially in cases where there are concerns about capital conservation, or to increase deferral periods, this is much less prevalent in the asset management and insurance sectors.

Notes to editors

The 2008 global financial crisis highlighted that compensation practices in large financial institutions were one of the key contributing factors to the excessive risk-taking that was prevalent in the run up to the crisis. Following the crisis, the FSB developed the Principles and Standards to promote sound compensation practices and align compensation with prudent risk-taking at significant financial institutions. The Principles and Standards require the financial industry to align employee incentives with risk and profitability of the firm over different time horizons.

This is the FSB’s seventh progress report on the implementation of the Principles and Standards. The report describes regulatory and supervisory developments; the functioning of governance mechanisms for compensation by firms; the effective use of metrics/criteria and compensation tools; and legal and regulatory challenges to the effective use of compensation tools. It incorporates input from FSB jurisdictions and covers the period 2020-21, including the COVID-19 pandemic. It also incorporates insights from an industry workshop held in May 2021.

The FSB coordinates at the international level the work of national financial authorities and international standard-setting bodies and develops and promotes the implementation of effective regulatory, supervisory, and other financial sector policies in the interest of financial stability. It brings together national authorities responsible for financial stability in 24 countries and jurisdictions, international financial institutions, sector-specific international groupings of regulators and supervisors, and committees of central bank experts. The FSB also conducts outreach with approximately 70 other jurisdictions through its six Regional Consultative Groups.

The FSB is chaired by Randal K. Quarles, Governor, US Federal Reserve; its Vice Chair is Klaas Knot, President of De Nederlandsche Bank. The FSB Secretariat is located in Basel, Switzerland, and hosted by the Bank for International Settlements.

Taking a system-wide perspective: the key to financial resilience

3 November 2021

FSB updates the G20 on its work to enhance resilience in non-bank financial intermediation

1 November 2021

Press enquiries:
+41 61 280 8477
[email protected]
Ref: 30/2021

The Financial Stability Board (FSB) today published a report describing the progress over the past year and planned work to enhance the resilience of non-bank financial intermediation (NBFI). The report was delivered to G20 Leaders ahead of their Summit last weekend.

NBFI has grown considerably over the past decade – to almost half of global financial assets – and become more diverse. However, the March 2020 market turmoil underscored the need to strengthen resilience in this sector, to ensure a more stable provision of financing to the economy and reduce the need for extraordinary central bank interventions. The FSB’s NBFI work programme includes analytical and policy work that builds on the lessons from the turmoil.

The report provides an overview of the NBFI ecosystem and a framework for analysing the availability of liquidity and its effective intermediation under stressed market conditions. Indeed, the ability of market participants to manage risks efficiently and minimise market dislocations when adjusting their portfolios is a key determinant of the functioning and resilience of the NBFI ecosystem. These dislocations become more likely in the case of large imbalances between liquidity supply and demand. NBFI resilience therefore depends on the behaviour of different types of entities in the NBFI ecosystem as well as on the infrastructure and activities that connect those entities together, and with other parts of the financial system.

The main focus of work to date has been on assessing and addressing vulnerabilities in specific NBFI areas that may have contributed to the build-up of liquidity imbalances and their amplification. This includes: policy work to enhance the resilience of money market funds; work to assess liquidity risk and its management in open-ended funds; work to examine the structure and drivers of liquidity in core government and corporate bond markets during stress; an examination of the frameworks and dynamics of margin calls in centrally and non-centrally cleared derivatives and securities  markets; and an assessment of the fragilities in USD cross-border funding and their interaction with vulnerabilities in emerging market economies. The NBFI progress report describes the key findings to date and next steps in all of these areas.

Building on these findings, the FSB’s work going forward aims to develop a systemic approach to NBFI. It involves enhancing the understanding of systemic risks in NBFI to strengthen their ongoing monitoring; and, where appropriate, developing policies to address such risks. The focus of policy work is to ensure that the current policy toolkit is adequate and effective from a system-wide perspective, drawing on the lessons from the March 2020 market turmoil.

The report details the FSB’s work programme on NBFI for 2022 and beyond.

Notes to editors

The FSB published in November 2020 a Holistic Review of the March Market Turmoil, which lays out a comprehensive and ambitious work programme for strengthening the resilience of the NBFI sector while preserving its benefits. This work is being carried out within the FSB as well as by its member standard-setting bodies and international organisations, to ensure that relevant experiences and perspectives are brought to bear.

The first deliverable of the NBFI work programme was the FSB report in October 2021 setting out policy proposals to enhance money market fund resilience. In addition, further to their analysis of margining practices during the March 2020 market turmoil, the BCBS, CPMI, IOSCO have issued a consultative report on potential areas for further work, which may inform policy consideration. Work is ongoing in other areas under the NBFI work programme and additional reports with findings and any policy implications will be published during 2022.

The FSB coordinates at the international level the work of national financial authorities and international standard-setting bodies and develops and promotes the implementation of effective regulatory, supervisory, and other financial sector policies in the interest of financial stability. It brings together national authorities responsible for financial stability in 24 countries and jurisdictions, international financial institutions, sector-specific international groupings of regulators and supervisors, and committees of central bank experts. The FSB also conducts outreach with approximately 70 other jurisdictions through its six Regional Consultative Groups.

The FSB is chaired by Randal K. Quarles, Governor, US Federal Reserve; its Vice Chair is Klaas Knot, President of De Nederlandsche Bank. The FSB Secretariat is located in Basel, Switzerland, and hosted by the Bank for International Settlements.

Enhancing the Resilience of Non-Bank Financial Intermediation: Progress report

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The March 2020 turmoil has underscored the need to strengthen resilience in the NBFI sector.

This report describes progress to date and planned work by the FSB, as well as by standard-setting bodies (SSBs) and other international organisations, to enhance the resilience of non-bank financial intermediation (NBFI).

NBFI has grown considerably over the past decade – to almost half of global financial assets – and become more diverse. However, the March 2020 turmoil underscored the need to strengthen resilience in this sector, to ensure a more stable provision of financing to the economy and reduce the need for extraordinary central bank interventions. The FSB’s NBFI work programme includes analytical and policy work that builds on the lessons from the turmoil.

The report provides an overview of the NBFI ecosystem and a framework for analysing the availability of liquidity and its effective intermediation under stressed market conditions. Indeed, the ability of market participants to manage risks efficiently and minimise market dislocations when adjusting their portfolios is a key determinant of the functioning and resilience of the NBFI ecosystem. These dislocations become more likely in the case of large imbalances between liquidity supply and demand. NBFI resilience therefore depends on the behaviour of different types of entities in the NBFI ecosystem as well as on the infrastructure and activities that connect those entities together, and with other parts of the financial system.

The main focus of work to date has been on assessing and addressing vulnerabilities in specific areas that may have contributed to the build-up of liquidity imbalances and their amplification. This includes:

The NBFI progress report describes the key findings to date and next steps in all of these areas.

Building on these findings, the second part of the FSB’s work programme aims to develop a systemic approach to NBFI. It involves enhancing the understanding of systemic risks in NBFI to strengthen their ongoing monitoring; and, where appropriate, developing policies to address such risks. The focus of policy work is to ensure that the current policy toolkit is adequate and effective from a system-wide perspective, drawing on the lessons from the March 2020 market turmoil.

The table below summarises the work programme on NBFI for 2022 and beyond.

NBFI Progress Report Table 1

Recommendations on Sustainability-Related Practices, Policies, Procedures and Disclosure in Asset Management

View the Standard

Recommendation 1: Asset Manager Practices, Policies, Procedures and Disclosure. Securities regulators and/or policymakers, as applicable, should consider setting regulatory and supervisory expectations for asset managers in respect of the: (a) development and implementation of practices, policies and procedures relating to material sustainability-related risks and opportunities; and (b) related disclosure.

Recommendation 2: Product Disclosure. Securities regulators and/or policymakers, as applicable, should consider clarifying and/or expanding on existing regulatory requirements or guidance or, if necessary, creating new regulatory requirements or guidance, to improve product-level disclosure in order to help investors better understand: (a) sustainability-related products; and (b) material sustainability-related risks for all products.

Recommendation 3: Supervision and Enforcement. Securities regulators and/or policymakers, as applicable, should have supervisory tools to monitor and assess whether asset managers and sustainability-related products are in compliance with regulatory requirements and enforcement tools to address any breaches of such requirements.

Recommendation 4: Terminology. Securities regulators and/or policymakers, as applicable, should consider encouraging industry participants to develop common sustainable finance related terms and definitions, including relating to ESG approaches, to ensure consistency throughout the global asset management industry.

Recommendation 5: Financial and Investor Education. Securities regulators and/or policymakers, as applicable, should consider promoting financial and investor education initiatives relating to sustainability, or, where applicable, enhance existing sustainability related initiatives.

Environmental, Social and Governance (ESG) Ratings and Data Products Providers

View the Standard

Recommendation 1: Regulators could consider focusing more attention on the use of ESG ratings and data products and ESG ratings and data products providers that may be subject to their jurisdiction.

Recommendation 2: ESG ratings and data products providers could consider adopting and implementing written procedures designed to help ensure the issuance of high quality ESG ratings and data products based on publicly disclosed data sources where possible and other information sources where necessary, using transparent and defined methodologies.

Recommendation 3: ESG ratings and data products providers could consider adopting and implementing written policies and procedures designed to help ensure their decisions are independent, free from political or economic interference, and appropriately address potential conflicts of interest that may arise from, among other things, the ESG ratings and data products providers’ organizational structure, business or financial activities, or the financial interests of the ESG ratings and ESG data products providers and their officers and employees.

Recommendation 4: ESG ratings and data products providers could consider identifying, avoiding or appropriately managing, mitigating and disclosing potential conflicts of interest that may compromise the independence and objectivity of the ESG ratings and ESG data products provider’s operations.

Recommendation 5: ESG ratings and data products providers could consider making adequate levels of public disclosure and transparency a priority for their ESG ratings and data products, including their methodologies and processes to enable the users of the product to understand what the product is and how it is produced, including any potential conflicts of interest and while maintaining a balance with respect to proprietary or confidential information, data and methodologies.

Recommendation 6: ESG ratings and data products providers could consider adopting and implementing written policies and procedures designed to address and protect all non-public information received from or communicated to them by any entity, or its agents, related to their ESG ratings and data products, in a manner appropriate in the circumstances.

Recommendation 7: Market participants could consider conducting due diligence or gathering and reviewing information on the ESG ratings and data products that they use in their internal processes. This due diligence or information gathering and review could include an understanding of what is being rated or assessed by the product, how it is being rated or assessed and, limitations and the purposes for which the product is being used.

Recommendation 8: ESG ratings and data products providers could consider improving information gathering processes with entities covered by their products in a manner that leads to more efficient information procurement for both the providers and these entities.

Recommendation 9: Where feasible and appropriate, ESG ratings and data products providers could consider responding to and addressing issues flagged by entities covered by their ESG ratings and data products while maintaining the objectivity of these products.

Recommendation 10: Entities subject to assessment by ESG ratings and data products providers could consider streamlining their disclosure processes for sustainability related information to the extent possible, bearing in mind jurisdictions’ applicable regulatory and other legal requirements

FSB Chair’s letter to G20 Leaders: October 2021

28 October 2021 | PDF full text (176 KB)

Amid signs of global economic recovery, the global financial system confronts structural challenges.

This letter from the FSB Chair, Randal K. Quarles, was sent to G20 Leaders ahead of their October Summit.

The letter notes that the Rome Summit is taking place amid signs of the global economy recovering from the impact of COVID 19 and related containment measures (the COVID Event). At the same time, the global financial system confronts significant structural challenges. These include rapid technological innovations within the traditional financial sector as well as outside, such as in the form of various crypto-assets. They also include a growing focus on potential risks to financial stability from climate change, whether from severe weather events or from uncertainties related to policy actions by governments.

The letter notes that, during the Italian G20 Presidency, the FSB has continued to support policymakers in preserving financial stability during the COVID Event and laying the foundation for a more efficient and resilient financial system in the future. The FSB has done this in two key ways. First, by setting out lessons for financial stability made apparent by the COVID Event, which define a path forward for the G20 on financial stability policy. Second, the FSB has been coordinating international work on key structural issues, not least through the FSB roadmap to address climate-related financial risks and by taking forward the roadmap to enhance cross-border payments.

The letter outlines some key lessons learnt from the COVID Event, including that international cooperation through the G20 has made an important contribution to global financial stability. The letter stresses the need to assess the financial stability implications of financial, and particularly, technological innovation, and to ensure that supervisory and regulatory frameworks and approaches provide a solid foundation for harnessing the benefits of such innovation while containing their risks.

The FSB has been charting a path forward for its work by developing, as a top priority, a more systematic way of assessing vulnerabilities across the global financial system, through a new Financial Stability Surveillance Framework. The FSB has sought to increase input from a broad range of stakeholders, enhancing its transparency and expanding its outreach. Building on these strengths, the FSB is developing its workplan for 2022 in concert with the incoming G20 Indonesian Presidency to build a cohesive path forward.

Lessons learnt from the COVID-19 pandemic from a financial stability perspective: Final report

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The Italian G20 Presidency asked the FSB to identify preliminary lessons for financial stability from the COVID-19 pandemic.

This final report updates the July interim report on the preliminary lessons learnt for financial stability from the COVID-19 pandemic, and outlines actions by the FSB and other standard-setting bodies (SSBs) in response to those lessons. The update reflects feedback from external stakeholders and the FSB’s Regional Consultative Groups, recent studies in this area, and progress made in relevant international initiatives.

Key lessons and actions include:

  • Market and institutional resilience. The functioning of bank capital and liquidity buffers may warrant further attention; the Basel Committee on Banking Supervision will update its overall analysis on the lessons from the pandemic. The March 2020 market turmoil underscored the need to strengthen resilience in the non-bank financial intermediation sector; the FSB is taking forward a comprehensive work programme. Some concerns about possible excessive procyclicality in the financial system remain; standard-setters will take forward work in procyclicality in margining practices and the Basel Committee will further monitor expected credit loss provisioning.
  • Operational resilience. COVID-19 has highlighted the importance of effective operational risk management being in place before a shock hits. The FSB will develop best practices for the types of information authorities may require related to cyber incidents to promote financial stability. The FSB is also launching further work related to third-party risk management and outsourcing, and will develop expectations for financial authorities’ use in oversight of financial institutions’ reliance on critical service providers.
  • Crisis preparedness. The pandemic highlighted the importance of effective cross-border cooperation, coordination and risk-sharing. The FSB will identify a set of good practices and emerging practices of crisis management groups to enhance preparedness for, and facilitate the management and resolution of, a cross-border financial crisis affecting a global systemically important bank (G-SIB).

The report also highlights broader policy issues that warrant further attention. These include: monitoring COVID-19 policy responses as they are wound down, in order to identify systemic vulnerabilities early on; addressing debt overhang in the non-financial corporate sector; promoting resilience amidst rapid technological change; completing the remaining elements of the post-2008 crisis reform agenda; and examining in due course how macroprudential policy has functioned during the pandemic and its aftermath.

FSB Chair reports to G20 Leaders ahead of the Rome Summit

Press enquiries:
+41 61 280 8477
[email protected]
Ref: 29/2021

The Financial Stability Board (FSB) today published a letter from its Chair, Randal K Quarles, to G20 Leaders ahead of their Summit in Rome this week.

The letter notes that the Rome Summit is taking place amid signs of the global economy recovering from the impact of COVID 19 and related containment measures (the COVID Event). At the same time, the global financial system confronts significant structural challenges. These include rapid technological innovations within the traditional financial sector as well as outside, such as in the form of various crypto-assets. They also include a growing focus on potential risks to financial stability from climate change.

During the 2021 Italian G20 Presidency, the FSB has continued to support policymakers in preserving financial stability during the COVID Event and laying the foundation for a more efficient and resilient financial system in the future. The FSB has done so in two key ways. First, by setting out lessons for financial stability made apparent by the COVID Event, which define a path forward for the G20 on financial stability policy. Second, by coordinating international work on key structural issues, not least through the FSB roadmap to address climate-related financial risks and by taking forward the roadmap to enhance cross-border payments.

The FSB Chair charts a path forward for addressing future threats to financial stability that emerge. This year, the FSB published its new comprehensive, disciplined and forward-looking systematic Financial Stability Surveillance Framework, which will further increase the effectiveness of vulnerabilities and the timeliness of follow-up actions. The effectiveness of the FSB during the COVID Event as a mechanism for financial stability has come from the FSB institutional process for international coordination and cooperation and its broad and diverse membership.

The letter is Mr Quarles’ final one to the G20 before his 3-year term as FSB Chair ends on 1 December.

Lessons learnt report

Accompanying the Chair’s letter to G20 Leaders is a report on lessons learnt from COVID-19 from a financial stability perspective, which the FSB also published today. The report, updates the assessment provided in the July interim report and outlines actions by the FSB and other standard-setting bodies in response to those lessons.

Key lessons and actions include:

  • Market and institutional resilience. The functioning of bank capital and liquidity buffers may warrant further attention; the Basel Committee on Banking Supervision will update its overall analysis on the lessons from the pandemic. The March 2020 market turmoil underscored the need to strengthen resilience in the non-bank financial intermediation sector; the FSB is taking forward a comprehensive work programme. Some concerns about possible excessive procyclicality in the financial system remain; standard-setters will take forward work in procyclicality in margining practices and the Basel Committee will further monitor expected credit loss provisioning.

  • Operational resilience. COVID-19 has highlighted the importance of effective operational risk management being in place before a shock hits. The FSB will develop best practices for the types of information authorities may require related to cyber incidents to promote financial stability. The FSB is also launching further work related to third-party risk management and outsourcing, and will develop expectations for financial authorities’ use in oversight of financial institutions’ reliance on critical service providers.

  • Crisis preparedness. The pandemic highlighted the importance of effective cross-border cooperation, coordination and risk-sharing. The FSB will identify a set of good practices and emerging practices of crisis management groups to enhance preparedness for, and facilitate the management and resolution of, a cross-border financial crisis affecting a global systemically important bank (G-SIB).

The report also highlights broader policy issues that warrant further attention. These include: monitoring COVID-19 policy responses as they are wound down, in order to identify systemic vulnerabilities early on; addressing debt overhang in the non-financial corporate sector; promoting resilience amidst rapid technological change; completing the remaining elements of the post-2008 crisis reform agenda; and examining in due course how macroprudential policy has functioned during the pandemic and its aftermath.

Notes to editors

The FSB coordinates at the international level the work of national financial authorities and international standard-setting bodies and develops and promotes the implementation of effective regulatory, supervisory, and other financial sector policies in the interest of financial stability. It brings together national authorities responsible for financial stability in 24 countries and jurisdictions, international financial institutions, sector-specific international groupings of regulators and supervisors, and committees of central bank experts. The FSB also conducts outreach with approximately 70 other jurisdictions through its six Regional Consultative Groups.

The FSB is chaired by Randal K. Quarles, Governor, US Federal Reserve; its Vice Chair is Klaas Knot, President of De Nederlandsche Bank. The FSB Secretariat is located in Basel, Switzerland, and hosted by the Bank for International Settlements.