The new Slovenian Banking Act (ZBan-1) became effective on January 1 2007. It introduces stricter and more complex mechanisms for capital adequacy, in line with the Basel II standards (EC Directive 2006/48/EC on the taking up and pursuit of the business of credit institutions and EC Directive 2006/49/EC on the capital adequacy of investment firms and credit institutions).
The implementation of Basel II standards into Slovenian law required extensive amendments to the rules regarding bank operations concerning risk management and supervision.
Minimum capital requirements
Under ZBan-1 the regulations that define the capital ratio and the minimum required ratio of 8% stayed the same. Modifications have occurred in the definition of risk-weighted assets. In accordance with Basel II standards, ZBan-1 seeks to improve the existing rules by aligning regulatory capital requirements more closely to the underlying risks that banks face. It sets less stringent criteria for capital adequacy for credit risk but introduces explicit treatment of operational risk, that is, the risk of losses resulting from inadequate or failed internal processes, people and systems or external events. Contrary to previous one-size-fits-all rules, the new framework gives three approaches to increasing risk sensitivity for both credit and operational risk, allowing banks to select the approach that they believe is most appropriate. The new provisions also take an internal ratings-based approach to credit risk, which differs from the previous approach in that banks' internal assessments of risk drivers serve as primary inputs to the capital calculation.
The new system lowers capital adequacy requirements for most banks, but it requires that bigger banking systems use more sophisticated models to value market risks. As the new rules apply to all financial institutions, regardless of their size, this will improve the operations of small and medium-sized banks, which will benefit from lower capital requirements for core banking business (for example, lending to small and medium-sized enterprises (SMEs) and mortgages). At the same time, the new risk-sensitive capital requirements rules will lower the cost of lending to SMEs and will lead to preferential treatment for certain types of venture capital.
As well as internal capital bank assessment, a supervisory review process has been introduced into the new banking act. Once the supervising authority, the Bank of Slovenia, has assessed each bank, a risk profile is drawn up and the minimum required amount of capital is set. These provisions also seek to bring supervisory practices among the EU member states broadly into line and to enhance cooperation between supervisors.
ZBan-1 further defines the principle of mutual recognition and home member state supervision. The supervisory organ should not grant, or should withdraw, an authorization if specific factors indicate that a bank has opted for a legal system of one member state to evade the stricter standards in force in another member state within whose territory it carries on the greater part of its activities. When acting as a host member state's competent authority, the Bank of Slovenia must also supervise the liquidity of the member state's branch. This supervision of market risk should be subject to close cooperation between competent authorities of the home and the host member states. The Bank of Slovenia also acts as a consolidated supervisor for groups of banks, which operate cross-border, when the group's parent institution is authorized in Slovenia.
A set of disclosure requirements was introduced in ZBan-1 to encourage market discipline. These provisions enable market participants to assess information about a bank's risk profile and level of capitalization. Disclosures must be published together with an annual report. The Bank of Slovenia is also obliged to disclose general information regarding supervision.
In accordance with the new Companies Act, which entered into force in May 2006, the new banking act introduces a more flexible one-tier model, where a board of directors manages the bank, as an alternative to the well-established two-tier model, where a management board and a supervisory board function separately.
Level playing field
ZBan-1 is a reflection of the EU's drive for convergence, which aims to promote a level playing field among credit institutions and investment firms across the EU to ultimately achieve an integrated financial market.
It is expected that improved risk-sensitivity in the new capital requirement rules will lead to a more effective allocation of capital, better consumer protection and financial stability, and in this way improve the competitiveness of the EU economy.
By Markus Bruckmüller and Mojca Erman