The Role of Qualitative Measures in Supervision

Last week, the Financial Stability Institute (FSI) published a report entitled "Act Early or Pay Later: The Role of Qualitative Measures in Effective Supervisory Frameworks," which examines the role of qualitative measures and supervisory judgment in achieving effective supervision.

Authored by the European Central Bank's Monica Balan and the FSI's Fernando Restoy (Chair) and Raihan Zamil (Senior Advisor), the report points to the "banking turmoil" of spring 2023 as clear evidence that "no amount of quantitative requirements can compensate for banks' qualitative weaknesses." This highlights the importance of supervisors identifying and addressing such qualitative weaknesses effectively and in a timely manner, the authors argue.

However, supervisors face many challenges in doing so, as they must overcome various institutional, legal, and supervisory constraints. Some of these are outside the control of supervisors, such as supervisory independence, mandates, powers, and resources. However, several of the barriers are within their purview. According to the report, those include:

• The adequacy of tools and methodologies that support supervisory planning, risk assessments, and related supervisory actions;
• The approaches supervisors use to communicate findings to banks; and
• Escalation procedures and monitoring.

"Ultimately, the effectiveness of these approaches hinges on the governance and culture of the supervisory authority and the resourcing and expertise of frontline supervisory staff, including their capacity to exercise judgment," the authors write.

The paper lays out a number of actions supervisory agencies can take to improve their ability to take effective and timely qualitative actions. These include defining their risk appetite, integrating qualitative matters into ratings and assessments, and developing early indicators, among others.

"Above all, supervisory judgment is the 'glue' that binds the entire supervisory process," the authors argue. "All authorities face the age-old tension between rules and discretion in supervision, and they need to find the right mix between fostering judgment and providing sufficient guidance to support supervisory decisions that align with their risk appetite framework and jurisdiction-specific needs."

For more from Fernando Restoy, don't miss his contribution to our 2025 Compendium, coming this summer. ▸ Learn More