Article: 12-02-08 External audit quality & banking supervision, Basel Committee

Copy of paper can be obtained here.

The Basel Committee on Banking Supervision released today External audit quality and banking supervision. This paper describes the importance of audit quality in banks, particularly due to an increased reliance on sound audits and because high-quality audits can enhance market confidence during times of severe market stress.

The paper also highlights that bank audits are highly specialised, which can be complicated by escalating complexity of banking products and the related accounting and auditing rules for those instruments. Most of the world’s banking assets are audited, and banking supervisors are increasingly reliant on high-quality audits to complement supervisory processes.

As noted in the paper, the Basel Committee intends to build upon its ongoing efforts to address audit quality through continued support of groups with direct influence over external audit firms and promotion of enhanced sound audit guidance, practices and standards. It also calls for enhanced transparency over the structure and financial positions of global network audit firms.

Nout Wellink, Chairman of the Basel Committee and President of the Netherlands Bank, noted that “the Basel Committee has a long track record of promoting high-quality audits in banks and will continue to focus on this area. As bank products and the accounting for these instruments have increased in complexity, external auditors play an increasingly critical role in supporting bank supervision, market transparency and, ultimately, market confidence.”

Sylvie Mathérat, chair of the Basel Committee’s Accounting Task Force and Director (Financial Stability) at the Bank of France, remarked that “strong audit quality is an essential prerequisite for users of financial information. For bank supervisors, this is particularly true for audits of fair value estimates, loan-loss provisions, consolidation, de-recognition and other areas significant to banking. The Basel Committee’s ongoing efforts to promote audit quality are especially important during these times of severe market stress.”

Executive Summary of Paper

External audit quality and banking supervision
December 2008

In recent years, there has been a change in banking supervisors’ reliance on audited information and in the nature of the major external audit firms. The need for bank supervisors to be confident of audit quality has been reinforced by a variety of factors and events. These include concerns about the risk of audit failures, the global expansion of the major audit firms, and increased complexity of both accounting standards and financial instruments. In addition, the challenges associated with fair value estimation processes, which have been amplified by the current market crisis, have similarly underscored the importance of high quality audits. This paper describes the Basel Committee on Banking Supervision’s understanding of these circumstances and steps it intends to take regarding key findings.

The current market turmoil and demand for increased transparency suggests that reliable, clear financial information supported by quality audits are key elements in enhancing market confidence. Thus, continued involvement by the Committee to promote audit quality is warranted.

This paper summarises four key areas of the Committee’s focus, including:

* Bankers’ and supervisors’ reliance on external auditors’ expertise and judgments has increased
* High-quality audits, which enhance market confidence, particularly in times of severe market stress
* An increasing reliance on high-quality bank audits to complement supervisory processes
* The globalisation of major external audit firms has contributed to the complexity of their structures and a lack of transparency regarding their governance

The Basel Committee intends to build upon its ongoing efforts to address audit quality through continued support of groups with direct influence over external audit firms and promotion of enhanced sound audit guidance, practices and standards. It also calls for enhanced transparency over the structure and financial positions of global network audit firms.