A traditional debate that ensues when banks are expanding internationally revolves around whether it is preferable to run branch offices or set up subsidiaries. Subsidiaries are associated with decentralized models where banks adapt to the local environment, both from a business and regulatory point of view. The model that uses branches characterizes banks with a more centralized structure, where decisions are made by the parent company.
In general, centralized models are used by financial institutions with a significant investment banking business, where wholesale funding predominates and there are considerable intra-group exposures (where the parent directly finances an important part of the local activity). Decentralized models tend to occur in banks with a heavier emphasis on retail business, financed by deposits, with small intra-group transactions, where the local activity is financed by local resources.
After the global financial crisis, the Financial Stability Board (FSB) established a new framework for the resolution of financial entities that defines two types of strategy: the 'Single Point of Entry' (SPE) approach, applicable to groups with a centralized model; and the 'Multiple Point of Entry' (MPE), characteristic of groups with a decentralized model.
Due to its subsidiary-based management model, BBVA Group is one of the few large European banks that follows the MPE resolution strategy: the parent company sets liquidity and risk policies, but the subsidiaries are self-sufficient and responsible for managing their liquidity (taking deposits or accessing the market with their own rating) without fund transfers or financing occurring between either the parent company and the subsidiaries or between different subsidiaries.
BBVA Group adopted this model of setting up self-sufficient subsidiaries after the Argentine crisis of the late 1990s-early 2000s, in order to create a natural firewall between the bank's different operations. In fact, the strength of this model was successfully put to the test during the last financial crisis, which mainly affected Spain and where there was no contagion to other units.
Although the MPE model may be less attractive financially (lower economies of scale in the uptake of liquidity), their advantages significantly outweigh this drawback, mainly because:
- It curtails the risk of contagion: Given the absence of cross-funding, if any of the Group's subsidiaries had solvency, liquidity, or any other type of operational problem, the rest of the subsidiaries would not be affected, and in the extreme case, the resolution authority could liquidate (or place into resolution) said entity without affecting the rest of the Group. The risk to the parent company is limited to the value of the investment in the subsidiary.
- It improves the risk assessment: A decentralized model provides subsidiaries with the market discipline and incentives to reach sustainable growth over the medium to long term, thus avoiding the underestimation of risks that can occur when there are cross-subsidies within a group.
- Liquidity buffers are created in each of the subsidiaries’ respective balance sheets.
- It helps to develop local capital markets.
It is therefore, a safe model that demonstrated great resilience during the crisis and continues to foster overall Group viability, regardless of the performance of an individual subsidiary. This approach doesn't just benefit those corporations that use it, but also helps ensure financial stability.