Three years on from CRD IV/CRR being finalised, the EU’s banking sector now faces a revised Capital Requirements Directive and Capital Requirements Regulation (CRD V and CRR II), and a host of other legislative amendments, in a 500+ page package published today. These revisions to CRD V/CRR II and amendments to the Bank Recovery and Resolution Directive (BRRD) are likely to stretch significant regulatory change into the next decade.

A fractious debate

The proposals come at a time when the international debate appears increasingly fractious ahead of next week’s critical Basel Committee on Banking Supervision (BCBS) meeting. European dissatisfaction with developments around bank capital have been much in evidence in recent months, and there now appears to be a growing willingness within the EU to diverge from global standards in its legislation. Combined with the apparently last-minute addition of a requirement for some non-EU banks to house all their European operations under a single intermediate EU parent company, today’s proposals challenge the increasingly fragile state of international regulatory coordination.

The picture for banks arising from this is a complex one and it will be difficult for them to assess how they are affected and what their strategic response should be.

Long negotiations ahead

The proposals and the legislative process that they initiate will frame developments in European banking regulation for the coming two to three years.  They implement the key outstanding elements of the ‘Basel III’ agenda – in particular, the Net Stable Funding Ratio (NSFR) and Leverage Ratio –  as well as a key component of the Financial Stability Board’s (FSB) work to end ‘too big to fail’ with the new Total Loss Absorbing Capacity (TLAC) requirement for Global Systemically Important Banks (G-SIBs).

Past experience teaches us that the EU’s legislative negotiating process can be long and drawn out, and the implementation of these rules in the EU is likely to miss some of the international deadlines set out by the BCBS as a result.  Moreover, the new proposals do not address a number of the elements of the yet-to-be-finalised BCBS framework, often referred to as ‘Basel IV’ (i.e. updates to the credit risk and operational risk frameworks and the use of standardised floors); for that additional legislation will need to be proposed by the Commission in future.

Divergence from international standards

The CRD V/CRR II package runs to over 500 pages and contains a wide range of regulatory initiatives. You can find our detailed summary of the proposal's contents here.

Most of this content is driven by the need to adopt various international regulatory standards into EU law.  But the Commission has shown a growing willingness to depart from the BCBS and FSB rules to accommodate what it describes as ‘EU specifities’.

Some of the most substantial divergences proposed include:

  • A phasing-in of the BCBS market risk framework over a three-year period, including granting the Commission the discretion to assess whether the phase-in period should be extended – the BCBS’s January 2019 implementation deadline will clearly not be met;
  • A multi-year reduction in stable funding requirements for interbank funding and derivatives transactions under the NSFR, also with the potential to extend this further;
  • An extension of the EU’s Small and Medium-Sized Enterprises (SME) supporting factor to bank exposures to SMEs above EUR 1.5 million (the BCBS in 2014 described the existence of the SME supporting factor as a ‘material deviation’ which should be phased out; the Commission has instead opted to retain and extend the degree of support provided for SME lending); and
  • A concession on the leverage ratio allowing banks to deduct initial margin received from clients for centrally-cleared derivatives from their leverage exposure measure.  This, notably, has been a key ask of many UK policy makers.

The risk of global regulatory fragmentation extends beyond the prudential framework, however: the Commission’s last-minute decision to propose that non-EU banks establish single intermediate parent companies for their European operations is a marked shift from the days when the EU vigorously criticised US authorities for implementing a similar rule. This will be a significant challenge for some non-EU banks operating in the EU, and while it is possible that negotiations between EU and US authorities might avert this policy outcome, the direction of travel in regulatory cooperation in recent months is less than promising.

This step-change in the EU's approach to international regulatory coordination is largely being driven by the challenging political and economic environment that EU policymakers face today.  The legislative proposals have been designed by the Commission to give effect to its intent to not significantly increase the aggregate amount of capital in the banking system as it finalises the Basel framework.

What’s next for these proposals?

A long, complex legislative procedure will now get underway in Brussels as the Council of the EU and the European Parliament broker an agreement on the final shape of the rules.  This process typically takes about two years before a final law is agreed and ratified. At that point, secondary rulemaking by the European Banking Authority (EBA) and national regulators must also occur.  As a result, the implementation of these rules by banks is still several years away, and substantial uncertainty will linger for some time as to how and when the requirements will be applied.

For large internationally-active banks subject to different regulatory regimes in the countries and regions they operate in, this delay could be problematic given pressure from investors and rating agencies to meet requirements by the dates set by the BCBS.  If banks move to ensure early compliance, they face the risk that elements of the EU requirements could change as the rulemaking process unfolds.

For UK banks, Brexit adds an additional layer of complexity when considering how to respond to the proposals.  Assuming the UK government proceeds with its plan to trigger Article 50 next year, the UK would (in principle) be involved in most of the EU’s negotiating process for CRD V/CRR II, but would then likely exit the EU just before or after the rules came into force.  Whether UK banks will have to apply EU banking regulation in its entirety after the UK leaves is an open question.  It is also important to consider how different the dynamic of the negotiating process in Europe may be in the knowledge that the UK will be leaving the EU around the time the requirements are finalised.

What should banks do now?

The CRD V/CRR II package will be among the most important regulatory developments for banks operating in the EU in the coming years and will demand in-depth analysis.  In particular, banks should assess the likely impact of these new rules on their product-by-product capital and liquidity requirements, risk management and risk measurement capabilities.

This will be difficult to do, especially given that CRD V/CRR II is likely to be followed by yet another round of EU legislation in the coming years implementing the remaining elements of the so called ‘Basel IV’ framework . The EU’s declining appetite to ‘copy out’ all aspects of the BCBS agenda, and the potential for greater international regulatory fragmentation arising from a new administration in the United States make such an assessment all the more challenging.


David Strachan - EMEA Lead, Deloitte Centre for Regulatory Strategy

David is Head of Deloitte’s EMEA Centre for Regulatory Strategy. He focuses on the impact of regulatory changes - both individual and in aggregate - on the strategies and business/operating models of financial services firms. David joined Deloitte after 12 years at the FSA, where in his last role, Director of Financial Stability, he worked on the division of the FSA into the PRA and the FCA.

Email | LinkedIn

Scott Martin_110x110

Scott Martin - Manager, Centre for Regulatory Strategy, Deloitte

Scott is a Manager in the Centre for Regulatory Strategy advising on UK and EU banking regulation, with a particular focus on prudential rules and structural reform. Before joining Deloitte in 2015, he spent four years as an EU financial regulation consultant in Brussels after graduating from the London School of Economics. He previously spent a number of years working as a political advisor to Canada’s Minister of Finance and Minister of Foreign Affairs.

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