The Changing Uses of Contingent Capital under the Basel III Framework

Massimo Libertucci

This article was first published as a chapter in Basel III and Beyond, by Risk Books.

B.1 Introduction

The Basel III framework places great emphasis on both the quantity and quality of the regulatory capital endowment of banks. The post-crisis experience illustrated that market participants focused primarily on common equity in periods of systemic distress. Nevertheless, it may be the case that different capital instruments can still play a role. Among these instruments, contingent capital – that is, a security that converts into equity when a predefined event occurs¹¹ Because of this feature, contingent convertible (“Coco”) is widely used as a synonym for contingent capital. – has gathered increasing attention. This annex provides an evaluation of the debate among regulators, academics and market participants surrounding the possible implementation of contingent capital under the Basel III framework.

Several variants of contingent capital have been proposed over the years. The post-crisis debate has focused on forms of debt that – more or less automatically – transform to common equity after a given signal is issued – for example, in the form of a given level of a predefined