CRD 4 limits minimum capital requirement flexibility

Author: | Published: 20 Jul 2011
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EU member states will not be able to set their own minimum bank capital requirements, but can raise countercyclical buffers on individual banks where appropriate, according to the draft Capital Requirements Directive (CRD) 4, released on Wednesday.

In a press conference in Brussels on July 20, the EC's Internal Markets commissioner Michel Barnier said that although flexibility is important, regulatory arbitrage needs to be avoided.

"If we want supervisors to control groups across Europe, we need to do it with the same rules, not 27 different rules," said Barnier.

"Single rules don’t mean you don’t take account of specificities of countries or specific risks," he added.

Barnier also said that within this system there is enough flexibility for the supervisors to cater for risk by setting extra requirements for capital at a level deemed appropriate.

"With over 8,000 banks in Europe, including 4,000 cooperative banks, it’s impossible to have one rule for all," he added.

Allowing individual regulators to set individual buffers where appropriate, he said, lays down the letter and the spirit of the Basel accords while not affecting small-to-medium enterprises.

Basel 3-plus
Ratings agencies are also set to be weakened by the new rules. Barnier said the financial system is too dependent on ratings, so the new prudential rules rid references to ratings altogether.

"We are proposing to strengthen the requirements for banks to carry out their own risk analysis without resting in a mechanical fashion on the ratings agencies," he said,

Stronger corporate governance standards are also to be introduced for banks – something not required in Basel III. Barnier said banks will be required to diversify their board members in terms of gender and background.

In addition, supervisors will also have the power to impose fines to banks that don’t meet new reporting obligations.

CRD 4 implements Basel III into European law, making it the first of all G20 signatories to do so.

The 600-page Directive requires banks to hold 8% of their own funds, supplemented by 2.5% as a countercyclical buffer. Banks will also require a capital conservation buffer in place in order to distribute dividends.

Barnier said rules will also come into place regarding short-term liquidity ratios and counterparty risk in relation to derivatives.

Banks will need to raise €460 billion ($653 billion) of extra capital by 2019 to meet the new standards, said Barnier. "When these measures are in place, there will be a 70% drop in the risk of a crisis in the bank sector," he said.

He accepted that the increased capital requirements will cost the economy to a degree, but that these costs will be compensated by the greater stability, visibility and confidence that a stronger regulatory framework will bring.

Confident, not naïve
Barnier also used the press conference to call for the US to implement the Basel III accords.

"To make sure we have a level playing field to avoid regulatory arbitrage, we want to make sure all the G20 signatories – the US, China; everyone needs to respect the commitments," he said.

"I made the point recently to [US Treasury Secretary] Tim Geithner, that we’re looking to the Americans to implement Basel two-and-a-half, and they promised it would happen in 2011. It is 2011."

"I’m confident without being naïve," he added.