On Wednesday 23 November, the European Commission unveiled a legislative package aiming to consolidate the European prudential rules for banks and to stimulate lending to the economy, a package which is considered to be the most ambitious of the current mandate of the European institution in this sector of activity.
Generally speaking, European banks are "much better capitalised and ready to withstand economic shocks. Yet for all this progress, there remain areas where our regulatory framework needs to be strengthened and adjusted: to reduce risk and support (…) lending to companies and households", commented the Commissioner for Financial Services, Valdis Dombrovskis.
The presentation of this legislative package, combined with the future legal framework to avoid company insolvency (see EUROPE 11673), is a response to the request by the Ecofin Council for measures to reduce financial risks to be tabled before more progress is made on the solidarity measures in the framework of the finalisation of the banking union in the Eurozone (see EUROPE 11575).
The Commissioner pointed out that it was the Council itself that called for risk-reduction measures to be presented before the end of the year, but did not go as far as to predict a swift unblocking of the 'EDIS' dossier introducing a European deposit insurance scheme.
Transposing international standards into Community law
One plank of the legislative package consists of transposing into European legislation the standards already established within the Basel Committee or the FSB committee of the G20. At the Commission, sources stress that the process remains faithful to the approach pursued at international level, whilst recognising that the transposition exercise respects the specifics of the European industry.
Dombrovskis said that the intention was to introduce a leverage ratio of 3%. Basically, banks will not be able to take on debt with leveraging effect beyond levels exceeding their own funds by a factor of 33 or more. Adjustments have been provided for the public development banks. The legislative package does not tackle issues currently being negotiated by the Basel Committee (see other article). Nonetheless, an international agreement on the leveraging ratio that went further with the major systemic banks should ultimately be embedded in Community law.
A binding NSFR ('net stable funding ratio') will also be brought in, aiming to ensure that European banks have sufficient one-year liquidity (deposits, bonds, inter-bank loans) to finance long-term lending. A Commission expert said on Monday that during the crisis, there was a bold transformation of liquidity: banks were borrowing in the short term to lend in the long term. This ratio, which will be applicable two years after the regulation in question enters into force, comes on top of the LCR ('liquidity coverage ratio'), which is designed to ensure that banks have sufficient short-term liquidity. Adjustments to take account of specific European characteristics will be brought in, in line with the recommendations of the European Banking Authority.
The legislative package brings into the EU the TLAC standard agreed at G20 level, which aims to ensure that as of January 2019, the 30 banks of systemic importance – including 13 institutions in Europe – issue sufficient debt (16% of weighted assets) to be able to absorb any subsequent losses. This standard will be incorporated into the own-funds requirements, which can be mobilised in the event of banking resolution ('MREL'), which are already applicable to all European banks. This means that a supervisor will ensure that the TLAC standard is being complied with by the 13 major European banks and may, on a case-by-case basis, if the risk profile of a bank so requires, impose additional 'MREL' requirements on it.
Additionally, new rules have also been brought in on how banks must calculate market risks ('trading book') and the own funds required to carry out their trading activities if these exceed €300 million. For a period of three years, these additional capital requirements will apply subject to a haircut of 30%. France is among the member states in favour of postponing the introduction of these provisions.
'BRRD' Directive: New category of creditors
The TLAC standard requires major banks of systemic importance to issue subordinate debt instruments to be mobilised in the event of bank resolution before other receivables (e.g. bank deposits). To facilitate the integration of this standard into EU law, the legislative package makes changes to the 'BRRD' directive by introducing a harmonised approach to the way receivables which may be called upon to contribute in the event of resolution are ordered.
"We are setting up a new class of creditors and are making clear where subordinated claims stand in the hierarchy of creditors when a bank becomes insolvent. The idea is to allow an easier bail-in and to prevent deviation on equal treatment", Dombrovskis said. The aim is also to reinforce legal security in the event of the resolution of a cross-border group, to avoid competition distortions between investors depending on the country in which they are established and to allow investors to set better prices on the receivables concerned.
These provisions will apply from mid-July 2017, depending on how quickly the Council and the European Parliament approve it. Debt issued before mid-July 2017 will comply with the national rules adopted before the end of 2016. A Commission source said that none of the member states have brought in provisions of this kind in their internal laws and only France is reflecting on the possibility of doing so.
It is worth noting that the changes to the 'BRRD' directive will also bring in a moratorium preventing investors from selling the receivables they own in a bank in difficulties for a short period of time preceding a resolution. This moratorium will make it easier to value the assets of a bank going into a resolution process, according to the Commission.
Again to facilitate a possible resolution process, the Commission suggests that major banks from third countries with assets in excess of €30 billion in at least two countries of the EU set up an intermediate entity (e.g. a holding company) established in the EU. "The aim is not to restrict access to the market, but to simplify a possible resolution process. This could look like a retaliatory measure, but it is only a question of the timetable", a source within the European institutions stress.
In the last few years, the United States has brought in a similar measure aimed at European banks established on its territory. The European provision under consideration must be negotiated at the Council by a qualified majority of the Twenty-Eight, bearing in mind the fact that it will ultimately also apply to the United Kingdom, once it has left the European Union.
Stimulating the financing of the economy
Another important plank of the legislative package unveiled on Wednesday brings together measures aiming to stimulate lending, as banks are behind 75% of the financing of the European economy.
Banks will benefit from a reduction in the capital requirements when they lend to SMEs. Whilst a favourable calibration (reduction in capital of 23.81%) is already in place for loans of less than €1.5 million, the Commission is proposing a reduction of 15% in capital requirements for the proportion of the loan above €1.5 million.
In the case of loans to set infrastructure in place, the own funds to be held by banks will also be reduced, in line with the concessions already granted to the insurance sector.
On Wednesday, the Commission published its analysis of the cumulative impact of the financial legislation adopted since the crisis of 2008. Among the comments from the banking sector is a request to make the banking credentials rules more proportionate, by reducing certain requirements for smaller banks.
Small banks will have to report less frequently on their regulatory own funds. The European Banking Authority will have a mandate to define a methodology to calculate the reporting costs and make its recommendations on how to bring these costs down for smaller financial institutions. As regards remuneration for the top management, small banks will be exempted from the obligation to defer the payment of bonuses. (Original version in French by Mathieu Bion)