Regulatory package implementing Basel III

The European Parliament accepted the combined directive and regulation proposal, CRD IV/CRR (Capital Requirements Directive IV / Capital Requirements Regulation) on 17 April 2013. The Council had already given its consent on 27 March 2013. The regulatory framework, which among other things transposes Basel III into European law, is thus expected to be applied from 1 January 2014.

The aim of the CRD IV package is to bring about a quantitative and especially qualitative enhancement in the institutions’ capital adequacy and for the first time will provide for liquidity requirements harmonised throughout the EU. Moreover, a Single Rule Book will be created under CRD IV and CRR. This harmonises European banking supervisory legislation, ensures a uniform legislative framework within the European Single Market and prevents regulatory arbitrage. The Member States nevertheless will have certain freedoms in the area of macroprudential or systemic risks so as to reflect national specificities, for example the relationship of the aggregate economy to the trend in lending. The CRD IV package applies to all deposit-taking credit institutions in the EU as well as to investment firms, but in some cases not in its entirety.

Requirements to be met by the institutions

The CRR is directly applicable and for the most part is addressed to the institutions directly. It contains the quantitative requirements and disclosure obligations pursuant to Basel III that hitherto were set out in the existing CRD and its annexes as transposition of Basel II. For example, CRR governs the own funds definition, minimum own funds requirements as well as the liquidity requirements. The Regulation for the first time prescribes a procedure for calculating and reporting a leverage ratio on the basis of which the competent supervisory authorities can examine and assess an institution. From 2015, the institutions will also have to publish the leverage ratio. A harmonised EU-wide concept for the leverage ratio is to be determined by early 2018. Currently it is not foreseeable whether it will apply as a binding risk-dependent criterion alongside of the (then already applicable) risk-based minimum own funds requirements (Pillar I) or instead will be adopted as part of an institution’s Supervisory Review and Evaluation Process (SREP) (Pillar II).

The Regulation forms an essential part of the Single Rule Book: since it applies directly, it is ensured that largely uniform rules will apply in the Member States in future. Apart from narrowly defined exceptions, there are no longer any options for national supervisory authorities. The few options remaining in the Regulation are limited in term.

Qualitative provisions

The Directive, CRD IV, which still has to be implemented by the individual Member States, covers provisions addressed to the national supervisory authorities or requiring action on their part. Besides provisions on cooperation in supervisory matters, these notably include the qualitative provisions of Pillar II on the Internal Capital Adequacy Assessment Process (ICAAP) and the SREP.

Also covered are provisions on the authorisation procedure, shareholder control as well as supervisory measures and sanctions. These have been harmonised under CRD IV. So far, the regime of measures and sanctions has varied considerably within the EU. In future, a uniform minimum set of tools will be available to the national supervisory authorities throughout the EU. The catalogue of fines has also been harmonised.

Corporate governance and management bonuses

Governance rules have also been revised under CRD IV. The financial crisis revealed shortcomings in institutions’ internal risk control. The core element of the new provisions is a more rigorous supervision of risks by directors as well as management or supervisory boards. Greater importance is also being attached to the corporate risk control function and sustainability of the business strategy. In addition, there will be more stringent requirements to be met in terms of the make-up and qualification of institutions’ executive bodies as well as management or supervisory boards.

The Directive also provides for a cap on bank managers’ variable remuneration. Bonuses are not to exceed the fixed components of their remuneration – unless a bank’s general meeting gives its consent to that by way of qualified majority, in which case variable remuneration may be no more than two times the amount of the fixed remuneration. The EBA will develop qualitative and quantitative criteria for identifying the risk takers who are to be subject to this provision.

Technical standards

CRD IV and CRR will be supplemented by more than 100 technical regulatory standards, technical implementation standards and guidelines. The European Commission thus has the mandate to issue binding regulatory and implementing technical standards to be drafted by the European Banking Authority (EBA). The latter may also issue guidelines that are of particular importance for implementing the Directive but are not binding. The aim is to achieve uniform application of CRD IV and CRR in all Member States.

National implementation

The Regulation, CRR, is directly applicable, i.e. it does not have to be implemented. However, existing national legislation has to be adjusted for all competing provisions or for those provisions contrary to the Regulation. In Germany this notably concerns the German Banking Act (Kreditwesengesetz – KWG) as well as the German Solvency Regulation (Solvabilitätsverordnung – SolvV) and the Regulation Governing Large Exposures and Loans of 1.5 Million Euros or More (Groß- und Millionenkreditverordnung – GroMiKV).

CRD IV, by contrast, has to be transposed into national law by an act of legislation. It will also have an impact on the KWG and the SolvV as well as the German Remuneration Regulation for Institutions (Instituts-Vergütungsverordnung – InstitutsVergV). The Group Financial Statements Transitions Regulation (Konzernabschlussüberleitungs-Verordnung – KonÜV) and the Regulation Governing Surcharges (Zuschlagsverordnung – ZuschlV) will be repealed.

In August 2012 the German government submitted a draft bill (CRD IV Implementing Act (CRD-IV-Umsetzungsgesetz – CRD-IV-UmsG)) for amendments to the KWG required by CRR and the transposition of CRD IV. This bill is also intended to modernise national reporting rules: in future, the new reporting regulations will for the most part be established in the Financial Information Regulation (Finanzinformationen-Verordnung – FinaV) which will replace the Monthly Returns Regulation (Monatsausweisverordnung – MonAwV). The draft bill is currently being revised on the basis of the final texts of CRD IV and CRR. When exactly the Act enters into force will depend on the first-time application of the Directive and the Regulation.

At the end of 2012 the German Ministry of Finance moreover consulted on the drafts of the amending regulations required for the SolvV, the GroMiKV, the MonAwV and the FinaV as well as the draft for the new Solvency Regulation for Residential Building Societies with Savings Deposit (Solvabilitätsverordnung für Wohnungsbaugesellschaften mit Spareinlage – WumS-SolvV).

Delayed start

Originally, the provisions of CRD IV and CRR were to be applied already from 1 January 2013. The European Commission had published its proposal in July 2011. However, the Council, the Commission and the European Parliament were not able to conclude the trilogue negotiations on the final version of the regulatory package in 2012. The new application date now being targeted is 1 January 2014. For that, the regulatory framework has to be published in the Official Journal of the European Union by 30 June 2013. In the event this happens only after that date, the launch would be postponed to 1 July 2014. One of the requirements for publication of CRD IV and CRR is for the final papers to be prepared and for these to be accepted by the European Parliament and the Council.

BaFin Chief Executive Director Raimund Röseler: “Preventing future crises”

Mr Röseler, do Basel III and the European CRD IV package really provide for greater stability in the banking world?

Raimund Röseler

© frank-beer.com / BaFin

Yes, I am absolutely certain of that. The financial crisis clearly revealed banks’ key weaknesses. Capital adequacy in particular was insufficient in some cases both in terms of quantity and quality. There were also very fundamental shortcomings in the areas of liquidity and corporate governance. It is precisely these vitally important areas that Basel III and the CRD IV package address with a view to improving the supervisory tool kit. Institutions now have to remedy their weaknesses.

Let me be quite clear: better regulation alone is not sufficient to achieve a more resilient banking system. It is at least equally important to adjust our supervisory practice. In future, banking supervision will have to analyse and assess business models as well as risk management systems and controls in much greater detail. These qualitative aspects are becoming increasingly important for banking supervision. We are on the right path here, but certainly not yet where we want to be.

What in your view are the biggest achievements of Basel III and CRD IV?

They address the weaknesses I just mentioned. As a banking supervisor I can only welcome the requirement for institutions to hold more own funds in future. It is just as important that the own funds can do what they are supposed to do, should the need arise, which is to cushion the impact of losses. The framework rules therefore focus much more on Core Tier 1 capital.

But I want to emphasise one thing: managing risks responsibly is incumbent above all on the institutions and their controlling bodies. That’s why corporate governance requirements are so important. Supervisory boards in particular will have to do a better job than in the past when it comes to performing their controlling function. We will be watching closely to see whether that actually happens.

However, the CRD IV package not only implements Basel III but goes beyond it. Why?

Basel III was developed with the large, internationally operating institutions in mind. The CRD IV package, by contrast, applies to all credit institutions within the EU. This is a very heterogeneous group, an aspect that is reflected by the European regulatory framework. To give you an example: it is very helpful for the rather diverse German banking market that the definition of Core Tier 1 capital components is neutral and can be applied to any legal form.

Moreover, the CRD IV package, and above all the Single Rulebook harmonise banking supervision within the EU. This is a precondition for achieving our objective: the creation of a level playing field in Europe. Having uniform standards throughout Europe will contribute to preventing future crises. In the past, some countries encouraged disproportionately large banking markets – and at the same time engaged in a regulatory race to the bottom. A rather dubious enterprise. And this despite the fact that the European directives were meant to provide for uniformity. That is why now the CRR, a directly applicable Regulation, has been created.

And what assessment in your view can be given with regard to the new supervisory provisions?

If the primary aim of the CRD IV package is to harmonise banking supervision throughout the EU, it is only logical that this should also cover the supervisory authorities’ powers to issue measures and sanctions. After all, banking supervision doesn’t just take place in fair weather conditions. Especially at times when the institutions – and sometimes even entire economies – are on the brink, we have to be capable of taking extremely difficult decisions of far-reaching importance within a very short time. And that of course not only at the national level but also in consultation with all relevant European players. For that to work, we have to be in agreement throughout the EU on what tools we need and how we will use them.

Yes, but increasingly there are complaints being heard from the banking industry with regard to the new regulatory framework: it is said to be too complex and also affects the wrong ones, i.e. those banks that did not contribute to the financial crisis.

The CRD IV package is indeed extremely comprehensive in its scope. Less would certainly be more in many areas of the package. I also see potential for adjustments here in the future. And yet: banking supervision is and continues to be a highly complex subject.

It is also true that the new requirements are not only applicable to the banks that contributed to the financial crisis. But there are good reasons to apply the provisions to all institutions. The aim of course is preventing future crises – and they will certainly be different from the last one. There is no doubt that this will place a burden on the institutions. But that is the price we have to pay for a more stable banking sector. And when I think just how much the last crisis cost the taxpayer, that price is not too high.

CRD IV is now taking effect one year later than planned. Is that a problem?

I would certainly have liked to see it adopted on schedule. And yet I prefer a solution that is adopted somewhat later but is more balanced, to a hastily adopted one that we would then have to painstakingly amend afterwards. On the German side we have used the additional time to do our homework. The implementing act is ready which will allow for a swift and relatively smooth introduction.

More details on CRD IV

CRD IV/CRR is a fundamental and comprehensive regulatory framework. Over the next few months, separate contributions on our website will therefore shed light on its key aspects.