Summary:
In May 2023, MAS ordered DBS to set aside additional regulatory capital, in response to disruptions to the lender’s digital banking and ATM services. This was not the first time authorities had punished DBS by asking it to set aside regulatory capital and neither is DBS the only bank in Singapore that has been asked to do so. In this article, we explain what regulatory capital really is, and why MAS has been asking banks to set aside more of it in response to things like service outages.
Why did MAS impose additional regulatory capital requirements on DBS?
Regulatory capital is a word many at DBS bank are probably hearing a lot of of late.
Authorities in Singapore ordered DBS to set aside around 670 million dollars in regulatory capital after the bank’s digital banking and ATM services were down for the third time in 18 months.
In addition to the 930 million in regulatory capital the bank was previously asked to put away in February 2022 for a widespread outage of digital banking services then, this brought the total additional capital requirement the company must set aside to 1.6 billion dollars.
DBS, however, is not alone.
The lender OCBC was slapped with an additional 330 million in capital requirements in May 2022 for its deficient response to a wave of spoofed SMS phishing scams.
But what exactly is regulatory capital, why is MAS asking banks to set aside more in response to supposed deficiencies, and what does it mean for banks, the financial industry, and consumers?
What is regulatory capital?
Financial institutions, and banks in particular, face a lot more scrutiny from regulators than say a business like a banana stand – and with good reason. If a bank were to run out of cash, lose money, or otherwise run into trouble, depending on the size of the bank, millions might be affected. This includes retirees who might lose their life savings, as well as small businesses that might rely on the bank for their daily operations.
Thus, regulators often require banks to set aside cash for the rainy day – what is known as capital requirements.
So say a bank has 10 billion dollars, it might be required to stow away 1.5 or 2 billion of those dollars. In the event the bank makes a bunch of bad loans, or say loses money by making an unwise investment decision, the money set aside acts as a buffer to absorb such losses and ensures that the bank will still remain solvent.
In the absence of laws, banks might choose to maximise returns to shareholders and lend or invest as much money as possible, which may place the bank in a tricky spot should things head south.
Hence, regulators step in to enforce such capital requirements, to ensure the stability of vital financial institutions like banks, a key mandate for them apart from things like the protection of consumers and the prevention of financial crimes.
There are a couple of capital requirements that banks are subject to – one very common type requires banks to set aside a certain amount of “high-quality, full loss-absorbing capital”, which often means capital that does not result in any repayment or distribution obligations, in relation to “risk-weighted assets”, assets valued with their risk taken into account, at a particular ratio.
Influential here are the Basel Accords, international banking standards, which, among other things, establish guidelines for bank’s capital adequacy.
By upping capital requirements in response to bank’s failures, the MAS has creatively made use of what is, on its face, a safeguard to protect consumers and account holders, and made it a tool in its toolkit of punitive measures that can be imposed on banks here for missteps.
In DBS’s case, MAS required it to set aside 1.8x its risk-weighted assets in May 2023, up from 1.5x previously.
Being forced to sit on more of its capital, which can otherwise be deployed to generate profits or enrich investors with dividends, will hurt banks — potentially making them less profitable and less desirable to shareholders.
But why?
In the increasingly cashless world we live in, mobile transactions are king. People use payment apps everywhere, from mom-and-pop stores to luxury retailers.
When digital banking services are down – this affects not just the consumer who might use digital payment apps to pay at hawker centers, but also the hawkers themselves who might see a decrease in business, and perhaps even food delivery riders who might be forced to get by with lesser deliveries given that the payment on food delivery apps is often linked to digital banking services.
Digital banking platforms support not just the average consumer, but also people like high-frequency traders and FX traders. Any service outage hurts their rice bowl directly and can have a huge financial impact on them. Punitive action like increasing regulatory capital requirements thus ensures that banks take every step possible to ensure that their digital services are reliable by punishing their failures.
While in theory consumers can move their money out of a bank should there be frequent service disruptions there, the reality is that there are not that many other options, particularly in Singapore. Moreover, even if a 12-hour or 24-hour service outage is not enough to get customers to flee with their money, it is disruptive enough to consumers, businesses and the economy as a whole that regulators are justified in stepping in to take action, sending a message to all banks that essential financial services need to be continuously delivered to customers at all times with no excuses.
There does remain the risk that such measures prevent innovation and the upgrading of digital services from banks. After all, every new line of code and every new change made to digital platforms increases the risk of mobile applications malfunctioning, servers crashing, and things going wrong. The threat of not just backlash from customers, but punishments in the form of having to set aside more regulatory capital, might disincentivize change.
That said – perhaps being deliberate about every new step or new addition may not be the worst thing in the world for banks. Given their sheer importance to the country and our economy at large, banks can’t afford to move fast and break things like say a disruptive start-up.
Under a microscope
With digital banking services increasingly becoming the primary banking services that consumers and businesses rely on for both their daily living and their day-to-day operations respectively, regulators both in Singapore and elsewhere, need to keep an eye on banks.
This should involve not just punishments after service outages, but also pre-emptive measures including regular cyber security audits, penetration testing and the provision of guidance to banks that may need some help in becoming ready for the 21st century.
Meanwhile, time will tell if being asked to set aside additional regulatory capital is sufficient, or if more punitive measures are required to get banks to up their digital game.