Published on the 23 June 2022, the Prudential Regulation Authority (PRA)’s Annual Report outlines the PRA’s activities across the financial year and, alongside the PRA Business Plan 2022/23, details the PRA’s strategy, workplan and budget for the coming year. Sam Wood, the Chief Executive of PRA notes in the report that the PRA needs to “evolve for the next phase of its existence”, with clear suggestions for improving its ability to deliver on its objectives going forward.
The review of 2021/22 highlights the successes and solutions to prominent issues faced by the PRA, in particular by adapting to changes in the external market by ensuring that firms were adequately capitalised for potential risk and development of operational resilience. It highlights the increasing resilience of the UK financial system and the effectiveness of the PRA’s prudential and supervisory frameworks in helping to support the safety and soundness of the banking and insurance system. The report notes that the PRA facilitated effective competition whilst considering the proportionality of its approach in ultimately contributing to the delivery of a smooth transition to a sustainable and resilient UK financial regulatory framework following Brexit. Continued progression in this area during 2022/23 remains a primary goal of the PRA, with a view to tailoring rules more effectively to the UK market and the firms it regulates, while maintaining strong standards.
The Business Plan outlines the PRA’s work towards strategic goals to support delivery of its strategy. In this respect, the PRA has two primary objectives for 2022/23: (i) a general objective to promote the safety and soundness of the firms they regulate; and (ii) an objective specific to insurance firms to contribute to ensuring that policyholders are appropriately protected. Each of these sits alongside the regulator’s objective to facilitate effective competition in the markets for services provided by PRA-authorised firms.
The Business Plan contains further commentary on the PRA’s focus on retaining the strength of the banking sector arising from financial crisis reforms, supporting the markets, running an inclusive and modern regulator with the central bank, and being at the forefront of new emerging risks.
The PRA notes that it has been directly engaged in the response to the war in Ukraine, working with the government and fellow regulators at home and abroad in advising on and implementing UK sanctions. The report highlights that the operational aspect to this has been diverted at high speed to the new crisis - just as it was with Covid. Russia’s invasion of Ukraine, and the resulting impacts on the financial sector and markets, has led to the PRA reprioritising work to ensure the safety and soundness of regulated firms. Rapid escalation measures, with various cross-PRA and cross-Bank information sharing and decision-making groups, resulted in heightened levels of firm engagement and monitoring to ensure a proportionate response while progressing the business as usual work plan.
Across the banking and insurance sectors, the PRA will remain especially focused on the first and second order impacts of the war in Ukraine, and on assessing the extent to which this could impact the stability of financial institutions. Strong relationships with other UK authorities and international regulators have helped the PRA to be abreast of the issues on a global scale, and to ensure that collective approaches in promoting the continued resilience of regulated financial institutions are aligned.
The report notes that climate change also presents a source of material and increasing financial risk to firms and to the financial system. Consequently, managing the risks to firms’ safety and soundness from climate change requires action, and remains a key PRA priority. The PRA highlights that it has provided further guidance and worked with industry through the Climate Financial Risk Forum to produce practical guides and tools in this respect. The PRA expects firms to take a forward-looking, strategic, and ambitious approach to managing climate-related financial risks, which is proportionate to the scale of the risks and the complexity of a firm’s operations while recognising that some smaller firms, for example those with geographic or sectoral concentrations, may face greater climate-related financial risks than other similar-sized firms.
Over the course of the year, the PRA expects firms to refine, innovate, and integrate climate-related financial risk management practices, as regulators and firms collectively build their understanding of the risks, data, tools, and best practices. This includes dealing with the challenges of data gaps and firms using their judgement, expertise, and existing tools to quantify climate-related risks, and incorporate those risks into business strategies, decision-making, risk-taking and risk management, and firms’ own assessment of capital adequacy and risks.
Framework following Brexit
In order to promote competition, safety, and soundness of the UK financial system, the PRA wants to build on recent successful experiences and make it easier for firms to exit the market without impacting their objectives. To maintain a sustainable and resilient framework in post-Brexit UK the PRA will work with the government to support the development and implementation of its proposed “Future Regulatory Framework”, seeking to improve how rules work for UK markets without reducing resilience. Proposals for a simpler but still resilient prudential framework for smaller non-systematic banks and building societies are being explored, whilst engagement with stakeholders to develop the first step of this framework is ongoing.
The PRA will continue to co-operate with the FCA and HM Treasury, as they did in the last year, including on efforts to more fully understand financial services regulatory cooperation, however, there are concerns of the risks of conflict with objectives aiming to promote economic growth, around primary safety and soundness of consumer protection between the PRA and FCA.
With respect to regulatory developments, the PRA reiterated its commitment to finalising the remaining EU Exit Instruments and Temporary Transitional Power (TTP) Directions in their remit in order to ensure an operable legal financial services framework by the end of the transition period.
Technology, the PRA notes, is of increasing relevance to organisational progression and innovation in the financial services space. The PRA want to take further steps in use of data and technology via following through on commitments set out in the response to the “Future of Finance” Report. Proposals include developing ‘RegTech’, refreshing approaches to Data and Analytics (D&A) and building on the success of the PRA Data Innovation team. RegTech will receive the technical support provided to all areas of PRA to improve use of artificial intelligence and machine learning.
Cyber resilience is also a crucial area which the PRA believes will need to be improved this upcoming financial year. In particular, the PRA are committed to crypto asset growth and the continued increased use of artificial intelligence. The PRA notes that Covid-19 has accelerated the overall pace of AI adoption both for in-house models and third-party providers, as well as the wider shift towards an online society and economy.
Long road ahead
Resilience, yet again, is at the forefront of the PRA’s focus, ensuring strength and power for any risk that may produce itself to the Regulator in the upcoming year. Despite “many other areas” to work on in the upcoming year, the PRA is confident that they will make significant progress while maintaining the core philosophy of the Authority, enabling them to navigate the terrain ahead. Operating in a complex and fast-moving environment gives rise to risks, but through monitoring, mitigation and diligent management, the PRA remain confident that they will meet their objectives in the upcoming year.