RBS 2011 Annual Report Download - page 211

RBS Group 2011 209
Governance*
All country exposures are covered by the Group's country risk framework.
In this framework, a limited number of advanced countries are under risk-
based monitoring, with all other countries placed under limit control using
the Group’s country risk watchlist process either when these have been
identified as exhibiting signs of stress, or when it is considered
appropriate. Detailed portfolio reviews are undertaken to align country
risk profiles to the Group’s country risk appetite in light of evolving
economic and political developments.
The framework for the Group’s appetite for country risk is set by the
Executive Risk Forum (ERF) in the form of country risk appetite ceilings
by sovereign risk grade for both total and medium-term exposure.
Authority is delegated to the Group Country Risk Committee to manage
exposures within the framework, with escalation where needed to ERF.
Total and medium-term exposure limits are set for individual countries
based on a risk assessment taking into account the country’s economic
situation and outlook as well as the Group’s franchise and business mix
in that country. Additional limitations (for example, on foreign-currency
exposure and product types with higher potential for loss in case of
country events) may be established to address specific vulnerabilities in
the context of a country's outlook and/or the Group's business strategy in
aparticular country.
Monitoring, management and mitigation*
Acountrywatchlist framework is in place to proactively monitor emerging
issues and facilitate the development of mitigation strategies.
Management of country risk was further strengthened in 2011 with
intensified stress testing, portfolio actions on a number of countries and
enhancements to risk appetite setting and management systems,
contributing inter alia to a reduction in exposures to a range of countries.
During 2011, the Group conducted an analysis of its country risk profile.
The outcome of this analysis was used to define more specific scenarios
to be used as trigger events in stress testing - on an ongoing basis - at
both Group and divisional levels. Such risk scenarios include a major
balance sheet deleveraging across Europe, a default of a eurozone
sovereign, or one or more stressed member states exiting the eurozone
and undergoing currency redenomination, with subsequent contagion
effects.
The situation remains very uncertain and the results of stress tests are
sensitive to input assumptions. As a result, estimates of the potential
impact on the Group of various developments are wide-ranging. If a
single country exits the eurozone, the impact could be limited. If several
do, the impact is likely to be significant. Depending on the circumstances,
the generally negative effect on the Group of devaluations could be offset
by the impact of revaluations. Nonetheless, the extent of market
disruption is very difficult to predict and could be substantial.
From mid-2011, the Group intensified its risk-mitigating actions at
divisional level aimed at preparing the Group for a wide variety of
potential eurozone stress scenarios, with a particular focus on
counterparty credit risk, settlement risk and funding risk. It also carried
out a detailed assessment of the potential impact of such scenarios on
Group systems to ensure broad readiness.
In a few specific cases, management of the Group’s exposure was
temporarily handed over to a cross-divisional country crisis team. Risk
mitigation actions typically included taking guarantees or insurance,
updating collateral agreements, credit documentation reviews and
specified credit referral processes.
Risk appetite setting was strengthened by various measures. In addition
to Greece, Ireland and Portugal, the Group brought Italy and Spain under
country limit control. Belgium and Japan followed in January 2012, with
other advanced countries scheduled for review in this process throughout
2012. Benchmark ratios systematically guide the setting of medium-term
country exposure limits.
The Group’s regular, comprehensive and detailed country exposure
reviews were further enhanced by intensified counterparty monitoring.
Refer to pages 147 to 149 for discussion on banks, financial institutions
and other sectors.
All of this, in combination with customers’ own efforts to reduce their debt
levels, contributed to reductions in exposure to a range of countries
including the vulnerable eurozone countries, Japan and countries in
political transition in North Africa and the Middle East. Exposure
reductions were implemented selectively, often retaining some credit
lines for strategic clients and in cases of sufficient risk mitigation. Due to
their nature, medium-term exposures cannot be adjusted as rapidly as
short-term exposure.
Further strategic enhancements to portfolio management systems
included the introduction of a comprehensive country risk management
and reporting application, comprising banking and trading book
exposures across the Group on a consistent basis, and taking account of
country risk transfers given guarantees, insurance and collateral taken.
This system supports analysing and managing the exposures to countries
in the eurozone and elsewhere, by tenor bucket, currency type, sector
and product type, as well as by individual counterparty names and
facilities. In addition, developments in trading book management systems
played a role in actual exposure reductions in trading on a number of
countries.
Internal rating systems were also further developed, contributing to more
accurate calculations of country-specific default probabilities and
expected loss given default rates which are determinants in the
calculation of risk-weighted assets and economic capital.
Other developments in country risk management in 2011 included the
development of the regional and country risk view in the Group’s
economic capital model and in integrated stress testing.