As a reminder, the main purpose of the Supervisory Review and Evaluation Process (SREP) is to ensure that institutions have adequate arrangements, strategies, processes, systems and controls, as well as capital and liquidity, to ensure a solid coverage of their risks along with sound business management. Risks include all that the organisations might be exposed to, including those resulting from stress tests and inherent risks a given institution may cause to the financial system in general.
McKinsey’s paper “SREP: How Europe’s banks can adapt to the new risk-based supervisory playbook” by Giorgio Bonomo, Sebastian Schneider, Paolo Turchetti, and Marco Vettori explores the new challenges that Banks are likely to face in the short term, given the increased regulatory expectations.
A new approach to bank supervision is taking hold in Europe for banks within the purview of the Single Supervisory Mechanism. This year’s stress tests of the European Banking Authority (EBA) and European Central Bank (ECB) will soon be over. The results will help shape this year’s Supervisory Review and Evaluation Process (SREP), an approach that introduces three fundamentally new principles to banking supervision: a forward-looking focus on the sustainability of a bank’s business model (even under stressed conditions), an assessment system that uses industry best practices as a guide, and an expectation that all banks eventually will reach the same high standards.
Early this year, the ECB announced its five supervisory priorities for 2016: business model and profitability risk, credit risk, capital adequacy, risk governance and data quality, and liquidity.1 This article will review the lessons from last year’s process, explain the role of these priorities in this year’s SREP, and outline banks’ responses. An adequate response is crucial; banks that score poorly may face increased regulatory capital requirements and more intense supervisory scrutiny in the future.