Banking and finance regulatory news, April 2021 # 2

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Reports on key recent regulatory developments focusing on banking and finance. See also our Financial institutions general regulatory news and other sector news in the Related Materials.

Contents:

  • COVID-19: BoE statement on regulatory treatment of Recovery Loan Scheme
  • PRA approach to new and growing banks: PS8/21
  • Obtaining deposits through deposit aggregators: Joint PRA and FCA Dear CEO letter
  • UK CRR: PRA CP7/21 on credit risk and economic downturns
  • CRR: Delegated Regulation on specialised lending exposures
  • CRR: EBA consults on draft RTS on emerging markets and advanced economies under market risk framework
  • Cross-border law enforcement access to bank account registries: European Commission roadmap
  • Systemically important banks: FSB final report on evaluation of too-big-to-fail reforms
  • Operational resilience and operational risk: BCBS principles
  • Climate-related risks: BCBS report

COVID-19: BoE statement on regulatory treatment of Recovery Loan Scheme

The Bank of England (BoE) has published a statement on the regulatory treatment of the UK Recovery Loan Scheme (RLS), which has been launched as part of the government's COVID-19 support for UK businesses. The statement sets out the Prudential Regulation Authority's (PRA's) observations on whether the guarantees provided by the Secretary of State for Business, Energy and Industrial Strategy under the RLS are eligible for recognition as unfunded credit risk mitigation (CRM) under the UK Capital Requirements Regulation (UK CRR).

The PRA stresses that its statement is not definitive and encourages firms to review relevant articles of the UK CRR and any relevant PRA rules and guidance (including expectations set out in the PRA's Supervisory Statement on credit risk mitigation, SS17/13). For example, the PRA expects firms to fully understand the duties and standards of care imposed on participating firms and have appropriate systems and controls to ensure they can comply with the terms of the RLS. The PRA also states that, where necessary, firms should seek independent advice to confirm that all the applicable requirements and expectations have been satisfied.

PRA approach to new and growing banks: PS8/21

Following its July 2020 consultation in CP9/20, the PRA has published a policy statement, PS8/21, on "Non-systemic UK banks: The PRA's approach to new and growing banks". PS8/21 contains feedback to responses to CP9/20 and contains the PRA's final policy, as follows:

  • a final supervisory statement, SS3/21: Non-systemic UK banks: The PRA's approach to new and growing banks;
  • an updated SS31/15: The Internal Capital Adequacy Assessment Process (ICAAP) and the Supervisory Review and Evaluation Process (SREP), containing a reference to SS3/21 in paragraph 5.25; and
  • an updated Statement of Policy (SoP): The PRA's methodologies for setting Pillar 2 capital, containing a reference to SS3/21 in paragraph 9.45.

The PRA made some changes to the draft policy as a result of the responses, details of which are set out in Chapter 2.

The PRA's final policy came into effect on 15 April 2021.

Obtaining deposits through deposit aggregators: Joint PRA and FCA Dear CEO letter

The Financial Conduct Authority (FCA) has published a joint Dear CEO letter sent by it and the PRA highlighting the risks associated with the increasing volumes of deposits that are placed with banks and building societies through deposit aggregators.

In the letter, the regulators explain that the core activity of a deposit aggregator may not be regulated, and they expect firms to carry out appropriate due diligence on deposit aggregators with whom they have relationships. The regulators continue to detail expectations on firms in their letter.

The regulators warn firms that in future they may wish to discuss this matter with them and want them to be prepared to explain any actions taken in response to their letter.

UK CRR: PRA CP7/21 on credit risk and economic downturns

The PRA has published a consultation paper, CP7/21, on credit risk and the identification of the nature, severity and duration of an economic downturn for the purposes of calibrating downturn loss given default (LGD) and exposure at default (EAD) under internal ratings based (IRB) models.

Articles 181(1)(b) and 182(1)(b) of the UK Capital Requirements Regulation (UK CRR) require firms to use LGD and conversion factor (CF) estimates that are appropriate for an economic downturn if those are more conservative than the respective long-run average. The European Banking Authority (EBA) has produced draft regulatory technical standards (RTS) required under Articles 181(3)(a) and Article 182(4)(a) of the EU CRR specifying the economic downturn conditions according to which firms must estimate the downturn LGDs and CFs. These technical standards did not apply in the EU before the end of the Brexit transition period and consequently were not onshored into UK law.

The PRA intends to introduce requirements for identifying an economic downturn intended to ensure that downturn estimates of LGD and EAD reflect consistent and sufficiently severe downturn scenarios, and that the selected downturn period is of sufficient duration to adequately capture the economic impact of a particular downturn event. Its proposals are based on the version of the EBA RTS published in an EBA opinion in August 2020.

The deadline for responses is 7 July 2021. The PRA intends for the new technical standards and the amendments to SS11/13 to come into force on 1 January 2022.

CRR: Delegated Regulation on specialised lending exposures

Commission Delegated Regulation (EU) 2021/598 in respect of RTS for assigning risk weights to specialised lending exposures under Article 153(9) of the EU CRR has been published in the Official Journal of the European Union (OJ). The Delegated Regulation specifies how institutions should take into account the factors of financial strength, political and legal environment, transaction and asset characteristics, strength of the sponsor and developer, and security package when assigning risk weights to specialised lending exposures in respect of which an institution is not able to estimate probabilities of default (PDs) or the institutions' PD estimates do not meet the requirements set out in Section 6 of Chapter 3 (IRB Approach) of Title II of Part Three of the CRR.

The Delegated Regulation will enter into force on 4 May 2021. It will apply from 14 April 2022.

CRR: EBA consults on draft RTS on emerging markets and advanced economies under market risk framework

The EBA has published a consultation paper on draft RTS on emerging markets and advanced economies under Article 325ap(3) of the EU CRR, as amended by CRR II which implemented the market risk reforms made by the Basel Committee on Banking Supervision (BCBS) following on from its Fundamental Review of the Trading Book (FRTB). These include the introduction of the sensitivities-based method under the alternative standardised approach for market risk (FRTB-SA). For firms to be able to calculate own funds requirements under the sensitivities-based method, Article 325ap(3) of the CRR mandates the EBA to specify the "advanced" economies that should attract lower risk weights for equity risk under the FRTB-SA.

The EBA is seeking views on whether its draft list of advanced economies is comprehensive. The consultation closes on 2 July 2021.

Cross-border law enforcement access to bank account registries: European Commission roadmap

The European Commission has published a roadmap on an initiative relating to cross-border investigations and law enforcement access to interconnected bank account registries. Among other things, this initiative will satisfy requirements under the Fourth Money Laundering Directive (MLD4) and Directive (EU) 2019/1153 on the use of financial and other information for the prevention, detection, investigation or prosecution of certain criminal offences.

Comments can be made on the roadmap until 28 April 2021.

Systemically important banks: FSB final report on evaluation of too-big-to-fail reforms

The Financial Stability Board (FSB) has published its final report on the evaluation of the effects of the too-big-to-fail reforms for systemically important banks, together with an addendum to the final report's technical appendix.

The FSB has also published an overview of responses to its earlier consultation, noting that respondents generally welcomed the evaluation, commenting on the importance of the post-crisis reforms and their relevance during the COVID-19 pandemic. The overview document summarises the comments raised and sets out the main changes made to the final report to address them.

The FSB's next evaluation will be on the effects of the G20 financial reforms on bond market liquidity. It will launch the evaluation in mid-2021 and complete it in 2022.

Operational resilience and operational risk: BCBS principles

The BCBS has published principles for operational resilience which aim to increase banks' capacity to withstand disruptions due to potentially severe adverse events.

The operational resilience principles focus on governance, operational risk management, business continuity planning and testing, mapping interconnections and interdependencies, third-party dependency management, incident management and resilient cyber security, and information and communication technology (ICT). They are largely derived and adapted from existing guidance on outsourcing, business continuity and risk management-related guidance issued by the BCBS or national supervisors over a number of years. They also build on the BCBS principles for the sound management of operational risk (PSMOR).

Alongside the operational resilience principles, the BCBS has published a revised version of the PSMOR. It has made a limited number of technical revisions to:

  • align the PSMOR with the recently finalised Basel III operational risk framework;
  • update the guidance where needed in the areas of change management and ICT; and
  • improve the overall clarity of the principles document.

Climate-related risks: BCBS report

The BCBS has published the following two reports on climate-related risks:

  • Climate-related risk drivers and their transmission channels: in this report, the BCBS considers how climate-related financial risks can arise and impact both banks and the banking system. It illustrates how physical and transition climate risk drivers affect banks' financial risks via micro- and macroeconomic transmission channels. It also explores various factors that may determine the likelihood or size of the impact from climate-related risk drivers. Among other things, the BCBS explains that the economic and financial market impacts of climate-related risks can vary according to geography, sector and economic and financial system development; and
  • Climate-related financial risks: measurement methodologies: in this report, the BCBS provides an overview of conceptual issues related to climate-related financial risk measurement. It also describes banks' and supervisors' current and emerging practices in this area. Among other things, the BCBS explains that climate-related financial risks entail unique features, which means that sufficiently granular data and forward-looking measurement methodologies are needed to address them. To date, measurement of climate-related financial risks has centred on mapping near-term transition risk drivers into bank exposures. Credit risk measurement has attracted the most effort, with a lesser focus on other risk categories. Initial scenario analyses and stress tests have, in many cases, focused on selected portfolios or exposures for transition risks, and selected hazards for physical risks.

Taking the reports together, the BCBS concludes that climate-related risk drivers can be captured in traditional financial risk categories. However, additional work is needed to connect climate-related risk drivers to banks' exposures, and to reliably estimate these risks. While a range of methodologies is currently in use or being developed, the BCBS recognises that challenges remain in the estimation process, including data gaps and uncertainty associated with the long-term nature and unpredictability of climate change. It notes that, as these challenges are addressed, the ability to estimate and effectively mitigate climate-related financial risks will improve.

Building on this work, the BCBS will investigate the extent to which climate-related financial risks can be addressed within the existing Basel Framework, identify potential gaps in the Framework and consider possible measures to address them. It will undertake further work in three broad strands: simultaneously spanning regulatory, supervisory and disclosure-related elements for the banking system.

[View source.]

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations. Attorney Advertising.

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