Risk Management Manual of Examination Policies - FDIC

INTERNATIONAL BANKING Section 11.1
account in the risk assessment of all exposures (including
off-balance sheet) to all public- and private-sector foreigndomiciled
counterparties. The risk associated with even
the strongest counterparties in a country will increase if, for
example, political or macroeconomic conditions cause the
exchange rate to depreciate and the cost of servicing
external debt to rise.
The March 2002 Statement recognizes that country risk is
not necessarily limited to an institution’s exposures to
foreign-domiciled counterparties. In some situations, the
performance of domestic counterparties may also be
adversely affected by conditions in foreign countries.
Where appropriate, and to the extent practicable, country
risk factors should be taken into account when assessing
the creditworthiness of domestic counterparties.
Country risk is not limited solely to credit transactions.
Investments in foreign subsidiaries, electronic banking
agreements, and EDP servicing and other outsourcing
arrangements with foreign providers all carry with them the
risk that policies or conditions in a foreign country may
have adverse consequences for an institution.
Country Risk Management Process
Although the details and complexity of the country risk
management process will vary from one institution to the
next, such management must be commensurate with the
volume and complexity of the institution’s international
activities. Supervisory expectations will also take into
consideration the institution’s size and technological
capabilities. As more fully described in the March 2002
Statement, a sound country risk management process
includes the following nine components:
• Effective oversight by the board of directors;
• Adequate risk management policies and procedures;
• An accurate system for reporting country exposures;
• An effective process for analyzing country risk;
• A country risk rating system;
• Established country exposure limits;
• Regular monitoring of country conditions;
• Periodic stress testing of foreign exposures; and
• Adequate internal controls and audit function.
The March 2002 Statement notes that to effectively control
the risk associated with international activities, institutions
must have a risk management process that focuses on the
broadly defined concept of country risk. A country risk
program that is limited to an assessment of transfer risk and
especially one that solely relies on transfer risk
designations assigned by the ICERC is not acceptable.
Transfer risk and the ICERC program are discussed in
subsequent subsections.
Risk Management – Exit Strategies
With regard to regular monitoring of country conditions,
external shocks and adverse market conditions during the
1990s, culminating with the Argentine sovereign default in
2001, have underscored the importance to further develop
this risk management area. The effectiveness of a bank’s
monitoring of country conditions and ensuing action plans
during episodes of increasing country risk are of
paramount importance in ultimately mitigating credit risk
and losses.
Inherent to satisfying this objective is the development of
board-approved policy guidelines regarding exit strategies
(action plans) with defined trigger points to effect the
reduction of exposure in a given country portfolio when
conditions warrant. The substance of an exit strategy
should be commensurate with the degree of sophistication
and exposure of a given institution. Items for
consideration in the exit plan may include how a bank will
reduce exposure to the following:
• Aggregate (total country exposures)
• Asset class (Loans, Placements, corporate EuroMTN,
bonds, CP)
• Issuer (sovereign versus private sector for either a
bank or corporate issuer),
• Product risk (Trade transaction versus Working
Capital, Pre-export finance, or off-balance sheet item
LCs/derivative), and by
• Tenor (generally, consensus should be towards
reducing tenor or duration during periods of increasing
country risk).
Management can also incorporate risk reduction strategies
stemming from contagion risk or the likelihood of
economic problems in one country, region or emerging
market impacting another.
Trigger points to affect an exit strategy, either gradual or
complete elimination of country exposure, will vary with
the size and complexity of a given institution. Both
quantitative and qualitative data should be used to define,
substantiate, and initiate action to reduce risk. Regardless
of the forms used, some measures should be formally
incorporated into policy that will serve to alert
management that risk has escalated beyond an acceptable
threshold and that action is now necessary.
With regard to the type of data collected to initiate action,
market intelligence garnered from the bank’s internal
DSC Risk Management Manual of Examination Policies 11.1-3 International Banking (12-04)
Federal Deposit Insurance Corporation