26th June 2014, Brussels: The European Banking Authority (EBA) has just released a consultation paper pertaining to the sequential approach of the Internal Ratings-Based (IRB) approach to capital requirements for credit risk. This paper also covers the limited permanent use under the Standardised Approach (SA) (Articles 148 (6), 150 (3) and 152 (5) of the EU Regulation 575/2013 under the Capital Requirements Regulation (on prudential requirements for credit institutions and investment firms).
Following its release, the EBA is inviting proposals, particularly relevant questions and/or points the body should take into consideration up till the 26.09.2014, following which it will subsequently submit the draft Regulatory Technical Standards (RTS) to the commission by the 31.12.2014. The Authority, following analysis of potential pegged costs as well as associated advantages, has also requested the option of the Banking Stakeholder Group (BSG) as per Article 37 of Regulation (EU) 1093/20102.
Supplementing EU Regulation 575/2013, this consultation paper assumes that specific exposure categories may be treated under the Standardised Approach permanently, depending on a predetermined subset of criteria (materiality of size and risk of the exempted exposures). This permanence will also prevail in situations where technical or operational difficulties are encountered during the deployment of the IRB approach. As a general rule of thumb, the paper advises that “competent authorities should ensure that the higher the potential for underestimating the risks stemming from its design, the quicker this potential should be reduced.”
The adoption of this regulation is sectioned into the following facets:
Article 1 defines the General principles related to all the relevant ‘exposure values’ and their associated ‘risk-weighted exposure amount’. Specifically, a) equity exposures as referred to in Articles 133 (1) and 147 (6) of Regulation (EU) No 575/2013 and b) all exposures for which the institutions have received permission to apply the Standardised Approach on the basis of Article 150 (1) (d) to (f), (i) and (j) of Regulation (EU) No 575/2013.
Article 2 defines the conditions of application of points (a) and (b) of Article 150(1) as per Regulation (EU) No 575/2013, related to conditions such as the aggregate threshold of 8% of all exposures as well as the aggregate risk-weighted exposure amount assigned to the class similarly does not exceed 8%; as well as the consideration to counterparties being materially significant (>= 10% total exposure of the institutions eligible capital). Article (2) also takes into consideration accessibility and availability of information, cost of developing the said ratings system as well as the institution’s operational capability to determine suitability for such rating-system implementation.
Article 3 treats the relevant conditions of point (c) of Article 150 (1) insofar as to application the SA being limited to classes or exposure types whose magnitude as well as risk profile is considered immaterial.
Article 4 deals with the specific conditions according to which competent authorities shall determine the various characteristics as well as scheduling of the successive IRB rollout. Contained within Article 148 (3) of the regulation, this consultation paper advises that (competent authorities) “shall ensure that the higher the potential for underestimating the risks, the quicker this potential shall be reduced” as well as sets forth a series of conditions that need to be adhered to insofar as permission being granted to apply the IRB approach. These include total exposure value and total risk-weighted exposures >= 50% of the set relevant exposures. Following the inclusions of the IRB Approach for a particular exposure class, Article (4) also states a set of considerations the EBA will take into account for an institutions’ rollout timing. These incorporate the availability of time series data, the institutions capability, acumen and preceding experience in developing the rating system as well whether there are occurrences of tied affiliates to the institution who are not subject to Regulation (EU) No 575/2013 or to the corresponding respective country’s legislature.
Article 5 decrees that the regulation shall come into force on the twentieth (20th) day following “its publication in the Official Journal of the European Union”
