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Prudential regulation

i Relationship with the prudential regulator

The primary responsibility for the prudent management of an AI rests with the board of directors and management itself. The HKMA issues guidance to AIs through its Supervisory Policy Manual. While the Supervisory Policy Manual does not itself have the force of law, any failure to adhere to any of the guidelines set out in it may call into question whether an AI continues to satisfy the minimum criteria for authorisation under the Banking Ordinance.

Continuous supervision

The HKMA adopts a continuous supervision policy to detect and address problems at an early stage. Various techniques are used by the HKMA to gather information and to monitor the business of each AI, including:

  1. on-site and off-site examinations;
  2. prudential meetings with the senior management;
  3. meetings with the board of directors;
  4. cooperation with external auditors; and
  5. sharing information with other supervisors.

Furthermore, regular statutory returns are required to be submitted to the HKMA.

Risk-based approach

The HKMA adopts a risk-based approach to evaluate the safety and soundness of an AI, its risk-management systems and its internal controls. This enables the HKMA to pre-empt any serious threat to the stability of the banking system.

The major types of inherent risks identified by the HKMA are credit, interest rate, market, liquidity, operational, legal, reputational and strategic risks. A risk-management rating is assigned and factored into the management and other relevant components of the CAMEL rating system, which is an internationally recognised framework for assessing capital adequacy, asset quality, management, earnings and liquidity. The output of the CAMEL system is a supervisory rating to reflect the HKMA's view of the overall safety and soundness of the relevant AI.

For a Hong Kong-incorporated AI, the HKMA normally conducts a regular supervisory review once a year. The supervisory review process is a comprehensive assessment of the level of capital that a Hong Kong-incorporated AI should set aside for the major types of inherent risks identified for the purpose of risk-based supervision.

The HKMA has issued rules under the Banking (Capital) Rules5 that prescribe in detail how the capital adequacy of locally incorporated AIs should be calculated. These rules incorporate Basel III technical guidance. In addition, the HKMA's Supervisory Policy Manual module CA-G-5 (supervisory review process) sets out details of the changes to the supervisory review process that were necessitated by the implementation of the Basel III capital standards. The Banking (Capital) Rules have been amended in previous years to introduce several capital buffers such as the capital conservation buffer, the countercyclical capital buffer and the higher loss absorbency (HLA) requirement. The capital conservation buffer is an additional layer of Common Equity Tier 1 (CET1) capital above the hard minimum capital requirements that is 2.5 per cent of banks' total risk-weighted assets. The countercyclical capital buffer is a further requirement for CET1 capital ranging from zero to 2.5 per cent of risk-weighted assets for banks' private sector credit exposures in Hong Kong when the HKMA determines there is excess aggregate credit growth associated with a build-up of system-wide risk in Hong Kong. The HLA ratio will apply to domestic banks considered by the HKMA to be systemically important (there are currently no global systemically important banks (G-SIBs) headquartered and incorporated in Hong Kong). They will be obliged to comply with this requirement by maintaining an additional layer of CET1 capital increasing to a range of from 1 per cent to 3.5 per cent of their total risk-weighted assets.

While there are separate regulators for the prudential supervision of securities, insurance, Mandatory Provident Fund schemes and money lending businesses in Hong Kong, the HKMA supervisory review process assesses all the major risks of a banking group, whether arising from banking or non-banking activities.

Climate change risk

On 30 December 2021, the HKMA updated its Supervisory Policy Manual by issuing a new module GS-1 (Climate Risk Management). The module builds on international initiatives (including the Task Force on Climate-related Financial Disclosures) and provides high-level guidance to AIs to build climate resilience by incorporating climate considerations into governance, strategy, risk management and disclosure. It contains helpful historical information and an overview of climate-related issues, including physical and transition risks. The module focuses on governance (responsibilities of board and senior management, oversight of the development and implementation of the AI's climate-related strategy, including setting of goals and actions and risk appetite); climate strategy planning and implementation; incorporation of climate-related risk considerations into the AI's risk management framework (including risk identification and measurement (both at portfolio, counterparty (including clients) and transactional level), monitoring and reporting, control and mitigation); and disclosure.

Module GS-1 envisages the management of climate risk via the existing, traditional framework of risk types (credit risk, market risk, liquidity risk, operational and legal risk, reputational risk and strategic risk).

VA risk

The HKMA issued guidance on 28 January 2022 on how AIs that interface with VAs and VA service providers (whether through proprietary investment or provision of banking services to customers) should approach this from a prudential and risk perspective.

The HKMA clarified that it adopts a risk-based approach based on the principle of 'same risk, same regulation', with banks expected to identify and understand associated risks before engaging in VA activities. Although banks are not currently prohibited from incurring financial exposures to VAs, they are expected to have adequate risk management controls and risk mitigation in place (including setting prudent limits on the institution's overall exposures to VAs) and conduct appropriate due diligence on VAs and VA service providers. AIs planning VA products or services should liaise in advance with the HKMA on the adequacy of their risk-management controls.

Consolidated supervision

The capital adequacy, concentration of exposures and liquidity of a Hong Kong-incorporated AI are supervised on a consolidated basis to enable the HKMA to assess any weaknesses within a banking or financial group that may have an impact on the AI itself, and to take any necessary defensive or remedial actions. When supervising banking groups, the HKMA takes a flexible approach to determining the scope of consolidated supervision. As a general rule, the banking group's local and overseas offices and financial subsidiaries are covered. Non-bank companies are included in the consolidation if they undertake financial business such as hire purchase, credit cards or leasing. Where non-bank companies (e.g., securities firms or insurance companies) are adequately supervised by other supervisors, the HKMA will rely heavily on their cooperation to ensure effective overall supervision of the banking group. The HKMA will also consider contagion risk in relation to an AI's holding and sister companies.

ii Management of banks

One of the authorisation criteria under the Banking Ordinance is that the HKMA must be satisfied that the chief executive and directors of the applicant company are fit and proper persons to hold their respective positions. The HKMA will have regard to the person's experience, knowledge and skills, as well as his or her reputation and character, competence, soundness of judgement and diligence, whether he or she has a record of non-compliance with non-statutory codes or disciplinary records, his or her involvement as a director in any companies wound up by the court, and his or her business record and financial soundness and strength.

The legal and regulatory duties of the management of AIs are detailed in the HKMA's Supervisory Policy Manual modules on corporate governance (CG-1 to CG-7). In particular, Supervisory Policy Manual module CG-1 (Corporate Governance of Locally Incorporated Authorized Institutions) sets out principles adopted by the HKMA in line with the Basel Committee on Banking Supervision's Principles for Enhancing Corporate Governance and Supervisory Policy Manual module CG-6 (Competence and Ethical Behaviour) sets out the latest developments in enhancing training programmes for banking practitioners in Hong Kong.

The board is ultimately responsible for the conduct of an AI's affairs, but the HKMA recognises that it may be beneficial for supervision of major functional areas to be delegated to certain specialised committees such as an executive committee, credit committee, asset and liability committee, remuneration committee and audit committee. It is also recognised that key functions and policies of an AI that is a subsidiary of another banking institution may be determined and centralised at the holding company level.

Outsourcing

The Supervisory Policy Manual module SA-2 (Outsourcing) sets out the HKMA's supervisory approach to outsourcing and the major points that the HKMA recommends AIs to address when outsourcing their activities. The HKMA's main concerns are with accountability, risk assessment, the ability of service providers, confidentiality of customer data, the degree of control the AI maintains over outsourced activities, contingency planning and access to outsourced data by the HKMA's examiners and the AI's internal and external auditors.

iii Regulatory capital, loss-absorbing capacity and liquidityCapital adequacy ratio

The HKMA must be satisfied that an AI has financial resources that are adequate for the inherent risks in its business to reduce the risk of insolvency. All AIs are required under the Banking Ordinance to maintain minimum levels of share capital. As regards Hong Kong-incorporated AIs, the HKMA's framework for capital adequacy is based on Basel III (which was implemented in Hong Kong on 1 January 2013).

A Hong Kong-incorporated AI is required under the Banking (Capital) Rules to maintain a CET1 capital ratio of at least 4.5 per cent, a Tier 1 capital ratio of at least 6 per cent and a total capital ratio of 8 per cent. Branches of foreign banks are not subject to this requirement but, based on the HKMA's past practice of generally requiring any foreign bank that wishes to establish a branch in Hong Kong to maintain a capital adequacy ratio of at least 8 per cent, it is likely that the HKMA will continue to require foreign banks to meet the three minimum risk-weighted capital ratios.

Under the supervisory review process discussed above, the HKMA may require an AI to have a capital buffer to cater for risks and uncertainties that are not already captured by the three minimum risk-weighted capital ratios. The HKMA has the power under the Banking Ordinance to vary any capital requirement rule applicable to an AI.

Leverage ratio

Hong Kong-incorporated AIs must also comply with the minimum leverage ratio set out in the Banking (Capital) Rules. The leverage ratio is a non-risk-based measure of an AI's capital adequacy, introduced as a 'back-stop' to restrict the build-up of excessive leverage in the banking sector and to provide an additional safeguard against model risk and measurement error in the risk-based capital adequacy ratios. The minimum leverage ratio is 3 per cent.

Capital buffers

As mentioned in Section III.i, the HKMA has implemented the following capital buffers: the capital conservation buffer, the countercyclical capital buffer and (for domestic systematically important banks (D-SIBs)) the HLA requirement.

The capital conservation buffer is an additional band of CET1 capital at 2.5 per cent.

The level of the countercyclical capital buffer is an additional band of CET1 capital base that ranges from zero per cent to 2.5 per cent. The level is determined by the HKMA's analysis on whether there is excess aggregate credit growth associated with a build-up of system-wide risk in Hong Kong. It is an extension of the capital conservation buffer. On 28 January 2022, the HKMA announced the countercyclical capital buffer would remain unchanged at 1 per cent and noted that economic indicators point to continued recovery in Hong Kong in the last quarter of 2021, but uncertainties about the global and domestic pandemic situations have increased.

The HLA requirement applies only to D-SIBs. It is also an additional band of CET1 capital base that acts an extension of the capital conservation buffer. The HLA range (where applicable) is normally between 1 per cent and 2.5 per cent, although there is a top range of 3.5 per cent. On 24 December 2021, the HKMA announced that the total number of D-SIBs had decreased from six to five compared to the number of D-SIBs published on 30 December 2020. The Bank of East Asia Limited was no longer identified as a D-SIB, considering its systemic importance relative to other institutions. The updated list of D-SIBs is: HSBC, Bank of China (Hong Kong) Limited, Hang Seng Bank Limited, Industrial and Commercial Bank of China (Asia) Limited and Standard Chartered Bank (Hong Kong) Limited. Of the five banks, the HKMA has designated the highest HLA (2.5 per cent for 2022) to HSBC and the lowest HLA (1 per cent for 2021) to Hang Seng Bank Limited and Industrial and Commercial Bank of China (Asia) Limited.

If a Hong Kong-incorporated AI's capital level erodes to a level falling within the capital conservation buffer zone, the countercyclical capital buffer zone, or, for a D-SIB, the HLA buffer zone, restraints will be imposed on that AI's distributions. A Hong Kong-incorporated AI is expected to discuss with the HKMA if it anticipates that any of its capital levels will fall close to the buffer zones.

Loss-absorbing capacity rules

The Financial Institutions (Resolution) Ordinance6 covers resolution, including bank resolution. On 14 December 2018, the Financial Institutions (Resolution) (Loss-absorbing Capacity Requirements – Banking Sector) Rules were issued and came into operation. The rules enable the HKMA to prescribe loss-absorbing capacity (LAC) requirements for 'within scope' financial institutions that are Hong Kong-incorporated AIs, and for their Hong Kong-incorporated holding companies or Hong Kong-incorporated affiliated operational entities. Not all Hong Kong-incorporated AIs will be classified as 'within scope' – meaning that not all Hong Kong-incorporated AIs will be subject to the LAC requirements. It is worth noting that the LAC consolidation group may differ from the regulatory capital consolidation group. The rules set out how to calculate LAC leverage ratios (both external LAC and internal LAC, and under a solo, solo-consolidated and consolidated basis), capital component ratios and resolution component ratios (which will often be the same as the related capital component ratio). External LAC risk-weighted ratio will, at a minimum, be the sum of an AI's capital component ratio and its resolution component ratio. Internal LAC risk-weighted ratio will be set at a fraction of the external LAC risk-weighted ratio (likely 75 per cent in most cases). There is a requirement for at least a specified portion (likely one-third) of the LAC to be in the form of LAC debt since LAC debt (unlike LAC equity) is not at risk of depletion before bank failure and so provides a fixed quantity of financial resources that can support an orderly resolution. The rules also cover disclosure requirements in relation to LAC and deductions for holding non-capital LAC liabilities.

The Banking (Capital) Rules contain provisions relating to LAC, including a provision that an AI must take into account its minimum LAC requirements, in addition to its minimum regulatory capital requirements, in calculating the CET1 capital remaining available to meet the capital buffer requirement.

Note that capital that counts towards meeting the regulatory capital requirement (i.e., those hard requirements, ignoring the 'softer' capital buffers) will generally count towards meeting a LAC requirement. This means that the new additional burden for a 'within scope' Hong Kong-incorporated AI will likely be the resolution component ratio.

Solo and consolidated capital adequacy ratio

In broad terms, the Banking (Capital) Rules impose capital requirements on Hong Kong-incorporated AIs at two levels: on a solo basis and a consolidated basis.

All Hong Kong-incorporated AIs are required to maintain a capital adequacy ratio on a solo basis, which provides a measure of each institution's (including its local and overseas branches) capital strength. A Hong Kong-incorporated AI may apply to the HKMA to include in its capital base, for the purposes of calculation of its solo capital adequacy requirement, the capital invested in any subsidiary that meets the criteria set out in the Banking (Capital) Rules (effectively requiring the subsidiary to be managed by that parent AI) such that the capital adequacy ratio of that institution will be calculated on a 'solo-consolidated basis'.

Where a Hong Kong-incorporated AI undertakes other banking and financial business through subsidiary companies, the HKMA normally also requires the AI to maintain its capital adequacy ratio on a consolidated basis. This is to ensure that the Hong Kong institution's capital position is maintained at an adequate level taking into account its exposures to risks stemming from such subsidiaries. It is usually the practice of the HKMA to set the same minimum capital adequacy ratio requirement at both the solo and consolidated levels, unless the results of the supervisory review process justify otherwise.

Group supervision may also extend to controllers of the AI, including an assessment of controllers' financial resources to provide continuing support to the AI.

Composition of capital base

Under the Banking Ordinance, the capital base of an AI is the sum of its Tier 1 capital and Tier 2 capital. Tier 1 capital is the sum of an AI's CET1 capital and its additional Tier 1 capital. The key elements of the CET1 capital of an AI are the AI's CET1 capital instruments; the amount standing to the credit of the AI's share premium account (if any) resulting from the issue of the AI's CET1 capital instruments; the AI's retained earnings and other disclosed reserves; and the amount of minority interests arising from the CET1 capital instruments issued by the consolidated bank subsidiaries of the AI and held by third parties. The Banking (Capital) Rules also set out in detail how an AI's additional Tier 1 capital and Tier 2 capital are to be calculated. In respect of each category of capital, the Banking (Capital) Rules also specify which items are to be excluded from the calculation, as well as which deductions are to be made.

Risk-weighted amount

The Banking (Capital) Rules set out approaches that a Hong Kong-incorporated AI can use to calculate its risk-weighted amounts for credit risk, market risk, operational risk and sovereign concentration risk. Each Hong Kong-incorporated AI is expected to choose options for calculating credit risk, market risk and operational risk based on the results of its own detailed feasibility study. However, there is a default approach for each of those risks that every Hong Kong-incorporated AI must adopt unless the prior approval of the HKMA has been obtained for using another approach.

Banks in Hong Kong generally have strong capital bases. The consolidated capital adequacy ratio of Hong Kong-incorporated AIs was well above the 8 per cent requirement under the Banking (Capital) Rules (20.4 per cent as at the end of 2021).

Liquidity risk

The risk-based supervisory approach includes the continuous supervision of each AI's liquidity risk. Central to this is an assessment of an AI's ability to maintain adequate liquidity in the event of a liquidity crisis. The HKMA considers the amount of high-quality liquid assets that an AI can readily dispose of or pledge for funding; the results of stress tests on its cash-flow and liquidity positions; and the stability of the AI's funding sources and its contingency measures for dealing with crisis situations.

The Banking (Liquidity) Rules7 implement the Basel III liquidity coverage ratio (LCR) and seek to promote banks' resilience to short-term liquidity risks by ensuring they have sufficient high-quality liquid assets to meet their obligations for at least 30 days under an acute stress scenario.

The LCR applies only to AIs designated by the HKMA as 'category 1 institutions' under the liquidity rules. Category 1 institutions are those internationally active AIs or larger or more sophisticated AIs that are significant to the general stability of the local Hong Kong banking system or those AIs that have material liquidity risk. Since 1 January 2019, all category 1 institutions must maintain at all times an LCR of at least 100 per cent. Other AIs not designated as category 1 institutions (category 2 institutions) will be subject to the liquidity maintenance ratio (LMR), which is a modified version of the pre-existing liquidity ratio. Since 1 January 2019, all category 2 institutions must maintain on average in each calendar month an LMR of at least 25 per cent.

On 1 January 2018, a new net stable funding ratio (NSFR) and a new local core funding ratio (CFR) were brought into force. These apply to different categories of AI to ensure their assets are financed with sufficiently stable sources of funding. Since 1 January 2019, all category 1 institutions must maintain at all times an NSFR of at least 100 per cent unless certain exemptions apply and certain category 2 institutions (which are designated by the HKMA as category 2A institutions) must maintain on average in each calendar month a CFR of at least 75 per cent.

Whether incorporated in or outside Hong Kong, the LCR, LMR, NSFR or CFR (as applicable) will apply only to an AI's business in Hong Kong and its local branches (i.e., excluding any subsidiaries or overseas branches of the AI). For a Hong Kong-incorporated AI, the HKMA may require the LCR, LMR, NSFR or CFR (as applicable) to be calculated on a consolidated basis instead of on an unconsolidated basis, or on both a consolidated and an unconsolidated basis.

Liquidity of Hong Kong banks

Hong Kong banks' balance sheets have remained liquid in the aftermath of the global financial crisis, notwithstanding persistent challenges arising from the covid-19 pandemic. The consolidated quarterly average LCR of category 1 institutions in Hong Kong stood at 157.3 per cent (September 2018), 153 per cent (September 2019), 156.8 per cent (September 2020) and 155.5 per cent (September 2021). The average LCR of category 1 institutions was 155.5 per cent in the third quarter of 2021 – well above the statutory minimum of 100 per cent. The consolidated quarterly average LMR of category 2 institutions in Hong Kong stood at 52 per cent (September 2018), 54.5 per cent (September 2019), 55.8 per cent (September 2020) and 58.2 per cent (September 2021). The average LMR of category 2 institutions was 58.2 per cent in the third quarter of 2020, well above the statutory minimum of 25 per cent on average in each calendar month.

iv Recovery and resolution

The HKMA is a member of the Financial Stability Board (FSB) and has committed in principle to improving the effectiveness of its own resolution regime in light of the FSB policy paper, Key Attributes of Effective Resolution Regimes, published in October 2011 and updated in October 2014. The Financial Institutions (Resolution) Ordinance,8 which is the primary legislation setting out Hong Kong's resolution regime, came into operation on 7 July 2017. The Ordinance establishes a cross-sector resolution regime for relevant financial institutions (including all AIs) with a view to avoid or mitigate the risks otherwise posed by their non-viability to the stability of Hong Kong's financial system.

The HKMA is contributing to the process of drawing up international resolution and recovery plans as a member of the crisis management groups of several G-SIBs.

In addition to the powers given under that Ordinance, the HKMA may also exercise a number of powers under the Banking Ordinance if, inter alia, an AI informs the HKMA that it is likely to become unable to meet its obligations, or that it is insolvent or about to suspend payment. The HKMA may also take such action unilaterally. In these circumstances, the HKMA, after consultation with the Financial Secretary of Hong Kong, may give directions to the AI in relation to its affairs, business and property.

The Supervisory Policy Manual contains a guideline on recovery planning, RE-1, which informs AIs of the key elements of effective recovery planning and sets out the HKMA's approach and expectations in respect of its review of recovery plans. The Banking Ordinance was amended on 2 February 2018 to give explicit statutory backing to recovery planning. The legislation covers the powers of the HKMA to:

  1. require the preparation and maintenance of a recovery plan;
  2. impose requirements on an AI to ensure the recovery plan is fit for purpose;
  3. impose requirements on an AI to revise its recovery plan;
  4. give directions to implement recovery plan measures under specific conditions;
  5. require AIs to notify certain trigger events; and
  6. extend recovery powers to an AI's locally incorporated holding company.

On 7 July 2017, the HKMA issued three codes of practice: Resolution Planning – Core information Requirements (CI-1); Operational Independence of the Monetary Authority as Resolution Authority (RA-1) and The HKMA's Approach to Resolution Planning (RA-2). On 20 March 2019, the HKMA issued the Resolution Planning – LAC Requirements (LAC-1) code of practice.

On 27 August 2021, the Financial Institutions (Resolution) (Contractual Recognition of Suspension of Termination Rights – Banking Sector) Rules came into effect. These Rules require Hong Kong-incorporated AIs (and certain group companies or Hong Kong-incorporated holding companies) to include terms in certain non-Hong Kong law governed contracts to ensure those non-Hong Kong law contracts will be subject to the HKMA's power to require stays on termination rights. The Rules also contain record-keeping requirements. On 22 December 2021, the HKMA issued the code of practice Resolution Planning – Contractual Recognition of Suspension of Termination Rights (ST-1), which provides guidance on how to comply with those rules.

On 5 November 2021, the HKMA issued the code of practice Resolution Planning – Operational Continuity in Resolution (OCIR-1). The code of practice sets out the HKMA's expectations on how an AI should put in place arrangements now to secure continuity (were the AI subject to resolution) of services essential to critical financial functions.

v Over-the-counter derivatives

Mandatory reporting of over-the-counter (OTC) derivatives came into effect on 10 July 2015 (although licensed banks were previously reporting OTC derivatives under simplified interim reporting requirements introduced in 2013). The scope of mandatory reporting was expanded on 1 July 2017 and currently covers certain interest rate swaps, non-deliverable forwards, FX derivatives, equity derivatives, credit derivatives and commodity derivatives.

Mandatory clearing (and related record-keeping requirements) of OTC derivatives commenced on 1 September 2016. This first phase of mandatory clearing focused on certain standardised interest rate swaps denominated in US dollars, euros, sterling, Japanese yen or Hong Kong dollars and entered into between 'major dealers' (i.e., AIs, approved money brokers and licensed corporations) or between a major dealer and a 'financial services provider' specified on a list prepared by the SFC and approved by the HKMA. An AI that exceeds the relevant average three-month clearing threshold (currently US$20 billion, which is determined in respect of all outstanding OTC derivatives (other than certain deliverable FX forwards and deliverable FX swaps)) will, if its counterparty is a major dealer that also exceeds the clearing threshold, or if its counterparty is a designated financial services provider, be subject to mandatory clearing and related record-keeping obligations in respect of the relevant interest rate swaps. However, in respect of an AI incorporated outside Hong Kong, the obligations only apply to transactions that are recorded in the Hong Kong books of that AI.

On 11 September 2020, the HKMA revised the Supervisory Policy Manual module (CR-G-14) on margin and other risk mitigation standards for non-centrally cleared OTC derivatives. The margin provisions apply to an AI in respect of certain non-centrally cleared derivatives it enters into with a 'covered entity' (although in respect of an AI incorporated outside Hong Kong, the obligations only apply to the transactions that are recorded in the Hong Kong books of that AI). A covered entity means:

  1. a financial counterparty, meaning (broadly) a licensed or regulated entity that has, or whose group has, an average aggregate notional amount of non-centrally cleared derivatives for the relevant annual testing period (AANA) exceeding HK$15 billion; or
  2. a significant non-financial counterparty, meaning a non-financial counterparty that has, or whose group has, an AANA exceeding HK$60 billion.

The requirement to exchange variation margin started from 1 March 2017. The requirement to exchange initial margin has been phased in from that date, with a current AANA threshold for both the AI and its covered entity counterparty of HK$6 trillion, reducing to HK$375 billion with effect from 1 September 2021 and then HK$60 billion with effect from 1 September 2022. This delay follows the deferrals announced by the Basel Committee and IOSCO.

vi Bank culture

On 2 March 2017, the HKMA issued a circular seeking to promote sound corporate culture for banks. The circular concentrates on governance (emphasising the importance of senior management setting an appropriate tone from the top and leading by example), incentive systems (to avoid incentivising short-term business performance at the expense of the interests of customers and the safety and soundness of a bank) and assessment and feedback mechanisms (to monitor adherence to banks' cultures and behavioural standards, and to set out escalation steps, including whistle-blowing mechanisms). Necessary enhancement measures were required to be implemented by 2 March 2018.

On 19 December 2018, the HKMA announced further measures to gauge the progress of bank culture reform in Hong Kong, stating that it will implement a number of supervisory measures. These include:

  1. AI self-assessments being extended to cover the banking culture;
  2. the HKMA, via site visits and off-site reviews, assessing and benchmarking AIs' practices; and
  3. the HKMA meeting with senior management and board members of AIs to gather insights and any lessons they have learnt.

The HKMA launched the first phase of AI self-assessment on culture in early 2019, requiring 30 AIs (including major retail banks in Hong Kong and selected foreign bank branches with substantive operations in Hong Kong) to submit their self-assessment outcomes within six months. The HKMA published its initial observations from the AI self-assessment exercise on 14 January 2020. Going forward, the HKMA plans to further progress its culture supervisory measures, including:

  1. sharing more observations from its review of AI self-assessments;
  2. commencing focused deep-dive reviews into certain key areas of banking culture, such as incentive systems of front offices in specific business streams of retail banks; and
  3. continuing its culture dialogues with AIs.

On 22 May 2020, the HKMA issued the Report on Review of Self-assessments on Bank Culture, which covered a range of practices, including governance, incentive systems and assessment and feedback mechanisms. Common themes identified in the Report include:

  1. further work is needed to ensure incentive systems are designed to promote sound culture and prevent incidents of misconduct;
  2. stronger links are required to connect Hong Kong operations with the culture efforts of their headquarters or upstream entities as well as their downstream operations, as appropriate;
  3. deeper analysis is expected to benchmark AIs against the findings from the reviews of major overseas misconduct incidents;
  4. more focus is needed to facilitate the undertaking by relevant staff of the continuous professional development under the Enhanced Competency Framework issued by the HKMA or by other professional bodies to complement the effort of promoting sound culture;
  5. more effort is needed to tackle the key challenge of culture assessment to identify the gaps between current progress and desired culture;
  6. more work is needed in promoting an environment that provides 'psychological safety' to encourage staff to speak up without fear of adverse consequences; and
  7. sustained effort is required in driving cultural changes and AIs should be mindful of 'culture fatigue'.

As part of the ongoing supervisory work to promote sound culture in the banking sector, the HKMA commenced, in March 2021, a focused review on the incentive systems of front offices in the sale and distribution of banking, investment and insurance products of 20 retail banks. On 23 November 2021, HKMA Published the Interim Report on Incentive Systems of Front Offices in Retail Banks, which provides an interim update on the focused review and shares the initial observations based on data gathered from the activities undertaken. The HKMA is advancing to the next phase of the focused review and expects to explore and identify further themes and practices in its initiative to promote sound bank culture.