Regulatory Technical Standards to implement the single banking rule book (capital requirements - CRD IV package)

13 March 2014
by eub2 -- last modified 13 March 2014

The European Commission has adopted a package of Regulatory Technical Standards (RTS) needed to implement important provisions of the Capital Requirements Regulation and Directive (CRR/CRD). The nine RTS define the ways in which competent authorities and market participants must, inter alia, handle disclosures linked to securitisation instruments, measure potential losses from derivative positions and counterparty failure, as well as specifying the types of instruments that can be used for paying bonuses.

1. What is the CRDIV package on capital requirements?

The "CRD IV package" transposes - via a Regulation and a Directive - the new global standards on bank capital (the Basel III agreement) into EU law. It applies from 1 January 2014. This legislative framework tackles vulnerabilities shown by banking institutions during the financial crisis, namely the insufficient level of capital both in quantity and quality.

CRR/CRD sets stronger prudential requirements for banks, requiring them to keep sufficient capital reserves and liquidity. This new framework will make EU banks more solid and will strengthen their capacity to adequately manage the risks linked to their activities, and absorb any losses they may incur in doing business.

2. What is the European Banking Authority?

The European Banking Authority (EBA) is an independent EU Authority which works to ensure effective and consistent prudential regulation and supervision across the European banking sector. Its overall objectives are to maintain financial stability in the EU and to safeguard the integrity, efficiency and orderly functioning of the banking sector.

The main task of the EBA is to contribute to the creation of the European Single Rulebook in banking i.e. to provide a single set of harmonised prudential rules for financial institutions throughout the EU. The Authority also plays an important role in promoting convergence of supervisory practices and is mandated to assess risks and vulnerabilities in the EU banking sector.

The EBA was established on 1 January 2011.

3. Why are Regulatory Technical Standards needed?

Regulatory Technical Standards are needed to provide detailed provisions on the ways in which competent authorities and market participants must apply the rules contained in CRR/CRD on a number of technical issues.

Over a hundred mandates for regulatory and implementing technical standards are provided for in CRR and CRD. To date, the Commission has adopted thirteen Regulatory Technical Standards (RTS) and one Implementing Technical Standard (ITS), some of them covering several mandates. Stakeholders are informed about the upcoming RTS and ITS well in advance through the publication on the EBA website of EBA consultation papers and of the draft standards submitted by EBA to the Commission.

4. What RTS are included in today's package?

The nine RTS adopted by the Commission are:

1) Commission Delegated Regulation determining proxy spread and limited smaller portfolios for credit valuation adjustment risk

Credit valuation adjustment (CVA) risks are the haircuts that banks are required to apply to reflect the deterioration in the creditworthiness of partners to transactions (counterparties). To calculate CVA risk capital requirements, institutions need to know the credit spread of the counterparty. Where no credit spread can be directly established for the counterparty in question, the Regulation sets out how the credit spread of another entity can be used as a proxy instead. It also defines the notion of a "limited number of small portfolios": when these circumstances apply, a bank may be able to use a simplified procedure for measuring CVA risk.

2) Commission Delegated Regulation specifying the requirements for investor, sponsor, original lenders and originator institutions relating to exposures to transferred credit risk

The CRR contains a series of provisions which require that banks investing in securitised instruments shall ensure that the originator, sponsor or original lender retains a material net economic interest in the instrument ("skin in the game"). These provisions also impose obligations on the institutions that originate or sponsor these instruments. This Delegated Regulation specifies the ways in which sponsors, original lenders and originators shall meet their retention and disclosure obligations under the CRR. It also details due diligence obligations for investor institutions in relation to the securitisations they invest in.

3) Commission Delegated Regulation specifying the classes of instruments that adequately reflect the credit quality of an institution as a going concern and are appropriate to be used for the purposes of variable remuneration

This Regulation specifies the classes of instrument (other than shares and share-linked instruments) that banks can use when awarding variable remuneration ("bonuses") to relevant staff. The conditions specified are to ensure that the instruments adequately reflect the credit quality of the institution and are appropriate for use in variable remuneration.

Together with the RTS on the criteria for the identification of material risk takers adopted last week (IP/14/210) this RTS will complement and clarify the legal provisions on remuneration contained in CRD IV, thus reinforcing regulatory harmonisation in the banking sector in the EU.

4) Commission Delegated Regulation assessing the materiality of extensions and changes of the Internal Ratings Based Approach and the Advanced Measurement Approach

Under the CRR, changes or extensions to internal models for calculating capital requirements require specific prior permission from the supervisor when they are material, whereas non-material changes only need to be notified. This Regulation sets out how institutions should assess whether changes or extensions are so material that they require prior permission. It also sets conditions for notifications, making a distinction between changes that have to be notified ex ante or ex post.

5) Commission Delegated Regulation specifying the information that competent authorities of home and host Member States supply to one another

This Regulation strengthens the cooperation between competent authorities of home and host Member States by specifying the information to be exchanged between home and host supervisors regarding credit institutions and investment firms operating through branches or who exercise the freedom to provide services in one or more Member States other than that in which their head offices are established. Competent authorities will inform each other for example about situations of non-compliance with national or Union law as well as about supervisory measures and sanctions imposed on institutions.

6) Commission Delegated Regulation for the definition of "market"

CRR requires credit institutions and investment firms to hold 'own funds' against the market risk of the equity instruments they hold. For market risk calculation purposes, the institution must add together equity instruments trading within the same "market". The Commission Delegated Regulation defines the term "market" by using a jurisdiction-based criterion, except for the eurozone in relation to which all participating Member States are defined as a "market".

7) Commission Delegated Regulation defining non-delta risk of options in the standardised market risk approach

Under the CRR, credit institutions and investment firms must use the delta of options and warrants to calculate the "own funds" they must hold for market risk. This Regulation provides for three alternative approaches for institutions to calculate the "non-delta risks" of those financial instruments (vega and gamma risks). The approaches reflect varying levels of complexity to calculate non-delta risks so that they can be used by different types of institution.

8) Commission Delegated Regulation further defining material exposures and thresholds for internal approaches to specific risk in the trading book

This Regulation defines the material exposures to specific risk and large numbers of material positions in debt instruments of different issuers. This will enable competent authorities to encourage institutions to develop internal specific risk assessment. It will also allow competent authorities to encourage increased use of internal models for calculating own funds requirements for specific risk of debt instruments in the trading book.

9) Commission Delegated Regulation determining what constitutes the close correspondence between the value of an institution's covered bonds and the value of the institution's assets.

This Regulation lays down common rules for banks with regard to the conditions under which a close correspondence between the value of the covered bonds issued by institutions and the value of the underlying assets is deemed to exist. Under these conditions gains and losses on fair-valued liabilities stemming from own credit risk changes can be reflected in the capital reserves ("own funds") held by the bank.

6. What happens next?

The European Parliament and the Council have one month to exercise their right of objection, with the possibility to extend this period for a further two months at their initiative. Following the expiry of this objection period, the RTS will be published in the Official Journal of the European Union and will enter into force on the twentieth day following the date of their publication. Their provisions will be directly applicable (i.e. legally binding in all Member States without implementation into national law) from the date of entry into force.

Further information