Implementing Regulatory Guidance on IRRBB Behavioural Models: Challenges and Opportunities

Enrique Benito

The capital adequacy regulatory framework considers interest rate risk in the banking book (IRRBB) under Pillar 2, requiring banks to develop their own methodologies and processes for the identification, measurement, monitoring and control of IRRBB, including behavioural models. The methodologies, internal processes and assumptions used are considered within the supervisory review and evaluation process (SREP) carried out by supervisors. As a result, regulatory bodies have set out expectations regarding the methodologies and processes that banks need to develop in relation to IRRBB. The original interest rate risk (IRR) principles published by the Basel Committee on Banking Supervision (BCBS) in 2004 were updated and subjected to extensive consultation in 2015, when two options were presented for the regulatory treatment of IRRBB: (i) a novel standardised Pillar 1 approach; and (ii) an updated Pillar 2 approach with several enhancements to reflect changes in markets and supervisory practices experienced since 2004. The heterogeneous nature of IRRBB, as well as the complexities involved in formulating an accurate and risk-sensitive standardised measure, meant that incorporating

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