Basel III – A Global (IMF) Perspective
Vanessa Le Leslé
Role of Deposit Insurance in Bank Resolution
Framework – Lessons from the Financial Crisis
November 13-16, 2011
JODHPUR, INDIA
The views expressed in this presentation are my own and do not necessarily reflect those of the International Monetary Fund
Contents
1. Basel III – A brief overview of the state of play
Where do we stand?
a) Objectives
b) Overview of select regulations
c) State of progress
What remains to be done?
a) Focus on one example – Revisiting Risk-Weighted Assets
2.
IMF contribution to the surveillance of the global financial sector
Overview of ways the IMF can contribute to global surveillance of the financial
sector
Surveillance through Financial Sector Assessment Programs (FSAP)
a) FSAPs – How do they work?
b) FSAPs – Key takeaways
2
The Big Picture
The G 20 Reform Agenda
Global
Economy
Framework
The G20 Financial
Regulation Reform Agenda
Establishment of
FSB
International
Cooperation
Scope of Regulation
Assessment of
Regulatory regimes
Prudential
Regulation
Compensation
Non-cooperative
Jurisdictions
Accounting
Standards
Credit Rating
Agencies
Fair and Substantial
Contribution
Structural reforms
Financial
Regulation
IFI Reform
Supporting
the
Vulnerable
Fossil Fuel
Subsidies
Global
Financial
Safety Nets
Resolution
framework
3
1a. An Overview of Basel III
Basel Headquarters, Switzerland
4
What Basel III aims to do
What the problem was
How Basel III aims to fix it
Some banks were allowed to meet capital adequacy ratios with very little
loss absorbing common equity/retained earnings.
Common equity and Tier I portion increased; hybrid Tier I and Tier III
dropped
Differences in capital definition and inadequate disclosure did not allow
for comparison across institutions and countries.
Capital definition and permissible deductions better harmonized
Major on and off balance sheet risks were not captured.
Risk capture of trading book exposures and capital for counter-party risks
enhanced.
Banks took on excessive leverage not captured by the risk-weighted ratio.
Supplementary leverage ratio introduced
Risk-sensitive capital requirements amplified procyclicality.
Default statistics to be adjusted and made more ‘through the cycle’
Some banks continued to pay out dividends as usual even with depleted
capital levels.
Banks to hold capital conservation buffers which must be rebuilt before
loosening constraints on distribution
Latent weaknesses in asset quality and other risks may increase in the
upturn and be amplified as losses in the downturn.
Countercyclical capital buffers to be built up in good times and drawn
down in bad times.
Short-sighted accounting standards led to low provisioning in good times
and belated loss recognition in bad times
More forward-looking provisions in the upturn
Interconnectedness of large financial firms caused their credit quality to
deteriorate in tandem.
Banks to hold more capital for their exposures to large (above $100
billion in assets) regulated financial firms and to other unregulated
leveraged entities
Funding liquidity evaporated suddenly in stressed periods
Banks to hold high quality unencumbered liquid assets to meet the net
outflow of liquidity over a 30 day period of a common stress scenario
….and exacerbated asset-liability mismatches run by banks dependent on
wholesale funding models
Banks to match their sources of available liquidity with that required by
their asset profile over a one year time horizon
5
The crisis has prompted a broad regulatory overhaul, both
domestic and international – Snapshot of select reforms
Regulations
Key features
Capital Standards
Higher quantity and quality capital (more robust definition of capital, including deductions)
Capital Conservation Buffer in addition to minimum capital requirements
Enhanced loss-absorption clauses for non-equity capital
Enhanced market risk (including securitizations) and counterparty credit risk
Review consistency of RWAs
Addressing systemic risk
and reducing procyclicality
Capital Surcharge for Global SIFIs
Countercyclical Capital Buffer to protect banking system against excessive credit growth
Introduction of a Leverage Ratio
Liquidity Standards
Liquidity Coverage Ratio (liquid assets to survive an acute 30 days liquidity stress scenario)
Net Stable Funding Ratio (greater resilience of funding through better matching of assets and liabilities)
Regulation of money market funds
Dealing with non-banks
Expansion of the regulatory perimeter (applying bank-like rules to some non-banks)
Tightening of derivatives regulations (Standardized trades move to CCP / increased transparency and
disclosure)
Tougher regulation of Credit Rating Agencies and greater oversight
Accounting changes
Tightening standards for off-balance sheet items
Convergence of IASB and US GAAP
Fair Value measurement and Hedge Accounting
Structural changes and
limitation of activities
Resolution and Recovery Plans (Living Wills)
Volcker rule in the US; limitations on derivatives dealing by banks
Vickers Commission (ICB) in the UK
Compensation &
Taxes
Align better risks, compensation and governance (bonus claw-back and non-cash; capital conservation…)
Bank levy
Resolution regime
National rules (e.g. US, UK, Germany, …) and regional rules (e.g. European framework for bank resolution)
Address cross-border banks
Progress
Phase-in of capital requirements and capital buffers
Countercyclical Buffer
(if applicable;
CET1/possibly AT1)
2,5%
1,875%
1,25%
1,25%
1,875%
2%
2%
2%
1,5%
1,5%
1,5%
Additional Tier 1
4,5%
4,5%
Common Equity Tier 1
2018
2019
0,625%
0,625%
1,25%
2%
2%
1,5%
1,5%
4,5%
4,5%
4,5%
2015
2016
2017
8%
Capital
Conservation Buffer
(CET1 only)
2,5%
Tier 2
4%
2020
7
Future capital structure – what it could look like
Total Capital Up to 19% or 20%, with
Additional domestic buffers
0 ≦ X ≧ 3.0%?
Total Capital , with buffers
11.5% - 13.0%
0-2.5%
SIFI Buffer
2.5%
Capital
Conservation
Buffer
2.0%
1.5%
Min.
CET1
4.5%
Non-Core
Tier 1 Capital
High Trigger
CoCos
2.0%+
20%
0≦ X ≧3%?
1.5%+
Primary Loss
Absorbing
Capital
7≦ X ≧ 10%?
12.0%
10%
8.0%
Tier 2 Capital
Total
Tier 1:
6.0%
CounterCyclical Buffer
Tier 2 Capital
Additional Tier 1
Capital
1-3.5%
Total Capital 8.0%
Domestic
Surcharge
Pillar 1
Requirement
Pillar 1
Requirement
+ Standard
Buffers
Core Tier 1
Capital
Core Tier 1
Capital
Common
Equity Capital
Minimum Capital
Requirement
Basel III Standard
Buffers
National Buffers
Potential Capital Structure
including all Buffers
A country example:
United Kingdom
8
Liquidity risk: the new metrics
Liquidity Coverage Ratio and Net Stable Funding Ratio
Two complementary metrics with different time horizons
Stock of High Quality Liquid Assets
Available Amount of Stable Funding
> 100%
Net Cash Outflows over a 30-day time period under
stress
LCR: short-term - to ensure that a
bank maintains an adequate level of
unencumbered, high quality assets
that can be converted into cash to
meet its liquidity needs for a 30-day
time horizon under an acute liquidity
stress scenario.
> 100%
Required Amount of Stable Funding
NSFR: medium to long-term - a full
balance-sheet metric that compares,
under more prolonged but less acute
stress than in the LCR, an estimate of
reliable funding sources to an
estimate of required stable funding
over the 1 year horizon.
9
Leverage Ratio – The backstop to supplement risk-based capital
Capital to total on and off balance sheet
assets
Simple, transparent, non-risk based
measure
Numerator
Assets
On
balance
sheet
Capital
• Proposal is Tier 1
• But monitoring phase will track impact of
total capital and common equity
Tier 1
Denominator
Other Tier 1
• Key issue is off- balance sheet items
• Proposal for conversion factors (CCF)
• 100% CCF for committed lines; 10% for
unconditionally cancellable commitments
Tier 2
Calibration
Off
balance
sheet
• 3% proposal
• To be tested during parallel run period of
2013-2016
10
Progress of Work and Work in Progress – Some unfinished business
Micro-prudential:
Idiosyncratic risk
Macro-prudential:
Procyclicality
Macro-prudential:
Systemic banks
More and better quality of capital
revised definition and composition
Forward-looking provisioning
“Gone-concern” loss absorbency
of non-CE capital at point of nonviability
Risk-weighted assets review
Reduce procyclicality of Basel II
risk weights
Leverage ratio as backstop
SIB Capital surcharge
Capital conservation buffer
Liquid assets buffer (LCR)
Going-concern” contingent capital
Limit on maturity mismatches
(NSFR)
Countercyclical buffer
National Discretion
1b. What remains to be done?
A stylized example
Revisiting Risk-Weighted Assets
12
Revisiting RWAs – Why does it matter?
What are the key concerns with regard to the banks’ risk-weighted assets (RWAs)?
 The opacity and complexity of internal models used by banks to compute RWAs have led
to questions about consistency and comparability of risk-weighted capital ratios across
banks and jurisdictions
 This also raises concerns about the adequacy of capital held by banks, even where the
reported ratios look good and led to complaints of manipulation and an unlevel playing
field
 Addressing these concerns is important, given the critical focus of markets and the
authorities globally on reported capital ratios
Key Takeaways:
 There are some important differences across jurisdictions in the calculation of RWAs that
need to be kept in mind when making cross country comparisons
 These differences are driven by a range of factors including the regulatory framework;
the accounting standards, business model and location in the business cycle
 The Basel Committee plans to assess the RWA practices across its membership to reduce
inconsistencies in (i) RWA measurement by banks and (ii) in supervisory practices
 In addition, this should be supplemented by (i) More intrusive supervision (ii) Better
bank risk management and (iii) Improved disclosure
13
The Transatlantic debate
The ranking of 44 Systemically Important Banks (SIB) based on Core Tier 1 Ratios (capital over risk-weighted assets
(RWA)) shows no clear geographical pattern. However, the ranking based on Leverage Ratio (capital over un-weighted
assets) seems to suggest that the US and Asian banks are better capitalized than European banks. In other words, the
RWA/TA ratios of European banks tend to be lower than those of US and Asian banks. Are these differences justified?
Ranking of banks by Core Tier 1 Ratio (percent)
0
A
NA
A
EU
NA
EU
A
A
NA
A
EU
EU
A
NA
A
EU
EU
A
EU
EU
EU
NA
EU
NA
NA
NA
EU
EU
EU
NA
EU
EU
EU
EU
NA
A
A
EU
NA
A
A
A
A
NA
EU
5
10
15
Global Average 10.3%
Ranking of banks by Leverage Ratio (TCE/Tangible Assets) (percent)
20
0
A
NA
A
A
A
NA
A
A
NA
NA
A
NA
A
NA
EU
NA
A
NA
EU
EU
A
A
EU
NA
A
EU
EU
A
NA
EU
EU
NA
EU
EU
NA
A
EU
EU
EU
EU
EU
EU
EU
EU
EU
2
4
6
8
10
US and Asian banks
Global Average 4.9%
European banks
Source: Bloomberg; Company data – Legend: North America (red) / Asia (yellow) / Europe (blue)
14
What explains the RWA/TA differences across banks?
country-specific factors and bank-specific factors
•Regulatory
•Accounting
•Legal
• Institutional (e.g.
Existence of GSEs)
•Default and recovery
rates by geographies
and asset classes
•Asset mix
•Geographic mix
(domestic / cross
border)
Operating
Framework
Bank’s
Business
Model
Economic
Environment
Bank’s
Operational
Framework
•Lending practices
• Asset classification,
valuations and
provisioning practices
15
Supervision – macro prudential surveillance in the BCP
BCBS is revising the 2006 Core Principles and the assessment methodology
•
Review and update each Core Principle, taking into consideration the lessons learnt from the
crisis, the post-crisis banking and regulatory landscape, as well as consequent impact on banking
supervisory approach and practices
•
Supervisory implications of international regulatory standards (such as Basel III) and various
supervisory guidance issued by the BCBS and other standard setting bodies which have been
introduced or enhanced since the last review of the Core Principles.
•
Recommendations of the Senior Supervisors Group’s report on “Risk Management Lessons from
the Global Banking Crisis of 2008”, the Financial Stability Board’s report on “Intensity and
Effectiveness of SIFI Supervision” and relevant reports by other international bodies.
•
Review experiences gained from the International Monetary Fund’s and World Bank’s
assessments of countries’ compliance with the Core Principles
16
2. Contribution of the IMF to the Surveillance of the Global
Financial Sector
IMF Headquarters, United States of America
17
How can the Fund help? Assist Member Countries
Advice on implementation of new rules
Surveillance
- FSAP, articles IV, country surveillance
• Basel I versus Basel II countries
- Stress-testing and impact of regulations on
banking system
• Advanced versus Emerging countries
- Advice on timeline and phase-in
- Qualitative assessment of impact of Basel
III and other regulatory changes
- Advice on possibility of front-running or
topping up Basel III rules
- BCP assessments (still 2006 methodology)
International
Comparisons
Design of regulations
- Participation in international
for a (BCBS, FSB, IOSCO…)
- Bilateral discussions with
national authorities
- Disseminate experience
Work with
Member
Countries
- Consistent approach
- Home/host authority
debate
- IMF spillover reports
18
Surveillance through FSAP: A risk-based approach
•
•
•
•
•
Assess financial sector stability and, where relevant, development needs, by the IMF and World
Bank, respectively
Joint IMF/World Bank program in LICs and EMs; Fund-only in advanced economies
Stability and developmental assessments may be done together or in separate modules
May optionally include formal assessments of compliance with financial sector standards (ROSCs)
Since 2010, stability assessments a mandatory part of IMF surveillance every 5 years for 25
countries with systemically important financial sectors
25 jurisdictions
with systemically
important financial
sectors
• Regular (every 5 years)
• Mandatory
Other G-20 / FSB
countries
• Regular (every 5 years)
• Voluntary commitment
All other member
countries
• Less frequent (every 6-7
years)
• Voluntary commitment
19
Overview of perimeter of application of FSAPs
25 jurisdictions which have a systemically important
financial sector
Country
Rank
Country
Key components of a FSAP
Rank
UK
1
India
14
Germany
2
Ireland
15
United States
3
Hong Kong SAR
16
France
4
Brazil
17
Japan
5
Russia
18
Italy
6
Korea
19
Netherlands
7
Austria
20
Spain
8
Luxembourg
21
Canada
9
Sweden
22
Switzerland
10
Singapore
23
China
11
Turkey
24
Belgium
12
Mexico
25
Australia
13
Stability
Module
Development
Module
Risk assessment
(including stress
tests)
Financial sector
infrastructure
Financial safety
nets
Public policy in
the financial
sector
Financial stability
policy framework
Efficiency,
consumer
protection,
market integrity
Financial sector
development and
economic growth
20
The FSAP and financial sector standards: what’s covered?
FSB “Key Standards for Sound Financial Systems”
Financial Regulation
and Supervision
Banking (BCP)
Insurance (IAIS)
Securities (IOSCO)
Macroeconomic Policy
and Data Transparency
Monetary and financial
policy transparency (IMF)
Fiscal policy transparency
(IMF)
Data dissemination (IMF)
Institutional and Market
Infrastructure
Payments, clearing & settlement
(CPSS/IOSCO)
Crisis resolution & deposit
insurance (BCBS/IADI)
Market integrity (FATF)
Corporate governance (OECD)
Accounting & auditing (IASB/IAASB)
Insolvency & Creditor Rights (World
Bank/UN)
21
FSAP - Common findings across sectors
•
Progress in implementation over time though compliance weakened in some areas
in recent assessments
•
Independence and sufficiency of resources continue to one of the be greatest
challenge
•
Legislative frameworks still have gaps but the bigger challenge is monitoring,
implementation and enforcement
•
Risk management oversight needs improvement
•
Consolidated supervision practices still weak / evolving
•
Standards becoming more complex and assessments more challenging over time
22
FSAP - Main deficiencies across sectors
Banking Supervision
Insurance Supervision
Securities Regulation
Consolidated Supervision
Corporate Governance
Operational Independence
and Accountability
Country and Market Risk
Supervisory Authority
Regulatory oversight of
SROs
Risk Management Process
Group-wide Supervision
Supervisory Powers,
Resources and Capacity
Operational Independence, Risk-assessment and
Accountability and
Management
Resources
Effective use of inspection,
enforcement and
compliance
The need to strengthen supervisory independence, authority, resources and capacity
emerges as common themes across jurisdictions.
23
Questions ?
24