Dr. jur. Jörg WernerAn overview of banking regulation and supervision in Malta: from the early days to the present.
This is the first of six expert articles dedicated to the banking industry in Malta. We kick off with "Banking Regulation and Supervision in Malta." In today's article, our banking expert Darren Borg analyses how banks in Malta have been regulated in the past, the current state of play, and the direction regulation is taking. Mr. Borg begins with a brief look back at the introduction of the Banking Act.
By the end of this article, you will have a clear understanding of who supervises financial institutions in Malta, the MFSA's approach to regulation, and the key regulatory objectives that have shaped the banking sector.
The Role of the MFSA in the Banking Sector
The Banking Act was introduced into Maltese law in 1994. Its purpose was to ensure that all areas of the banking sector were properly regulated and to guarantee that European Union directives governing the sector were transposed into Maltese law.
Authority and Scope
Under Article 4B of the Banking Act, the Malta Financial Services Authority (MFSA) is empowered to act as the competent authority for the licensing, regulation, and supervision of credit institutions, electronic money institutions, and financial institutions in Malta.
The MFSA operates within the Single Supervisory Mechanism (SSM), which establishes the European Central Bank (ECB) as the central supervisor for credit institutions in the Eurozone. In practice, this means the ongoing supervision of banks classified as Significant Institutions is carried out by the European Central Bank (ECB), while banks and financial institutions classified as Less Significant Institutions (LSIs) are supervised directly by the MFSA.
Generally, the MFSA remains under the oversight of the European Central Bank to ensure the proper implementation of EU banking legislation. The MFSA is also responsible for conducting both off-site and on-site inspections of financial institutions in Malta.
MFSA Measures and Enforcement
Credit institutions are required to submit a report clearly highlighting their statutory obligations, which is then analysed by the competent authority. The MFSA conducts on-site inspections via scheduled visits to examine the activities of credit institutions firsthand.
If an institution acts in breach of the Banking Act provisions, the MFSA can intervene. Before taking strict measures, they may decide to grant the institution a specific timeframe to rectify its position. However, depending on the severity of the breach, the Authority may also decide to impose fines, suspend the licence, or revoke it entirely.
Regulatory Priorities Addressed in 2020
Based on statistical records from 2020, the MFSA continued its efforts to assess credit risk, with a particular focus on Non-Performing Loans (NPLs) and the evaluation of lending criteria. Due to shifts in the economic environment—and the fact that unrecognised credit risk can threaten balance sheet stability—the MFSA committed to reinforcing this approach moving forward.
Key Changes and Focus Areas
Business model and profitability risk were also major focal points. The MFSA analysed various business models of credit institutions, both thematically and as part of the Supervisory Review and Evaluation Process (SREP). This was identified as the first step in assessing the financial soundness of Maltese credit institutions, looking specifically at their sustainability and any risks they might pose to broader financial stability.
Capital and liquidity were strictly monitored. The MFSA paid particular attention to capital planning and stress testing, emphasising the need to build on this progress in subsequent years.
The MFSA also sought to improve the Internal Capital Adequacy Assessment Process (ICAAP) and Internal Liquidity Adequacy Assessment Process (ILAAP) documents submitted by banks, alongside their governance arrangements.
Governance Standards
The MFSA also worked to ensure robust governance, particularly among financial institutions. The Banking Supervision Unit developed an automated tool to assess and score the organisational structures of financial institutions. Where deficiencies were identified, remedial action was taken through ongoing monitoring and reviews.
Deep Dives
To ensure corporate viability and sustainability, business models were also evaluated by the Authority through "Deep Dives." Financial institutions' compliance with the Payment Services Directive II (PSD II) was assessed, and any deviations were addressed immediately.
IT and Cybersecurity Risks
Regarding IT risks, a series of reviews were carried out in collaboration between the Banking Supervision Unit and the supervisory function responsible for ICT Risk and Cybersecurity.
Supervisory Priorities for the Banking Sector (2021 and Beyond)
Following the efforts made in 2020 and aligning with cross-sectoral priorities, the MFSA continues to assess the governance of credit and financial institutions as a sector-specific priority.
The Authority plans to expand and apply a broader communication channel and training strategy to support the development of Boards of Directors, particularly Non-Executive Directors.
Regarding Less Significant Institutions (LSIs), the Authority assesses the number and remuneration of these directors, their quality, their understanding of the role, and their overall effectiveness.
Furthermore, discussions are held between the Banking Supervision team and licensed entities to assess how Boards are approaching succession planning. The MFSA continues to follow up on remedial actions taken under the Supervisory Review and Evaluation Process (SREP) to ensure that the compliance culture within banks and financial institutions is continuously improving. Where necessary, the Authority is prepared to take enforcement action.
The Impact of COVID-19 on Maltese Banks
COVID-19 created a shifted economic climate, bringing the viability of business models into sharper focus for both credit and financial institutions. Particular attention is paid to post-COVID viability and whether companies have correctly calculated compliance costs in their business plans. The impact of these factors remains a key area of assessment.
Credit Risk Analysis and Quantification
The analysis and quantification of credit risk, along with asset quality assessment, remains a priority. Credit institutions must be prepared for the balance sheet and operational challenges associated with higher credit risk. On-site inspections by Banking Supervision are expected to examine the quality of bank controls for detecting distressed loans, Board reporting on credit risk, and operational preparations leading to increased credit risk profiles. There is also a significant focus on capital and funding trajectories.
Conduct of Business Rules
The MFSA has planned the release of Conduct of Business Rules for the banking sector. The Conduct Supervision Team uses supervisory measures to analyse creditworthiness assessments carried out when granting loans, ensuring these checks meet the required standards.
Conclusion
All of this demonstrates that the MFSA's priorities are to intensify existing efforts and support its supervisory and regulatory capacities. This is manifest in the development of new functions across financial crime, conduct supervision, ICT, and cybersecurity, as well as the strengthening of the banking supervision function itself.
The MFSA continues to expand and intensify its oversight, firmly establishing risk and compliance functions within banks. This is particularly relevant for smaller institutions that have historically combined various functions—such as risk compliance, legal responsibilities, and the MLRO role—under one person. The MFSA emphasises the critical importance of banks investing in dedicated risk and compliance infrastructure and additional resources to ensure they align with regulatory expectations.
