Basel III changes set to create big winners and losers

Capital hit for G-Sibs ranges from 28% drop to 43% jump, QIS reveals

Image of chess

The Basel Committee on Banking Supervision’s long-awaited additions to the Basel III package will have a muted impact on the banking industry’s aggregate capital requirements, but individual firms could see wildly different outcomes.

A quantitative impact study conducted by the Basel Committee suggests minimum required Tier 1 capital for global systemically important banks (G-Sibs) will decline by 1.4% on average as a result of the changes unveiled earlier today (December 7) by international regulators. However, the dispersion around the mean is significant, ranging from an increase of 43.4% for one bank to a drop of 27.8% for another.

“Even if you ignore the outliers and just look at the banks in the middle, the seventy-fifth percentile to the twenty-fifth is a 26% spread [from 17.3% to –9.1%] to cover half the sample. That is not as tight a distribution as I would have expected,” says a senior European banker. “What we have is a methodology that, in its aggregate output, is giving us RWAs [risk-weighted assets] that are on average about the same as they were before, but for different banks there is really quite a large variance.”

While all banks are expected to meet the minimum Common Equity Tier 1 capital requirement of 4.5% under the revised framework, the quantitative impact study finds that one G-Sib would see its total capital ratio fall below the 8% minimum if the changes were implemented today. G-Sibs will need to raise a combined €27.6 billion ($32.4 billion) of fresh CET1 capital to maintain their ratios above the target level of 7%, which includes a capital conservation buffer of 2.5%.

The total capital shortfall – including additional Tier 1 and Tier 2 capital and leverage ratio requirements – under the new rules is estimated to be around €90 billion.

Tougher in Europe

As expected, European banks bear the brunt of the changes, with the European Banking Authority anticipating a 15.2% rise in the minimum required Tier 1 capital for the region’s largest lenders once the revised capital framework is phased in.

“The bulk of the impact is in Europe,” says a regulatory capital expert at a European trade group. “In terms of the CET1 shortfall for the risk-based requirement, about 60% of the total global shortfall is due to European Union G-Sibs.”

The revised Basel III framework introduces an output floor that caps the minimum ratio of RWAs calculated using internal models at 72.5% of the standardised approach. The package also makes significant tweaks to the standardised and advanced approaches to modelling credit risk and scraps the use of internal models for operational risk. G-Sibs will also face a leverage ratio surcharge, which is set at 50% of a firm’s risk-weighted higher-loss absorbency requirements.

European banks are hardest hit by the curbs on the use of internal models, but the aggregate capital impact of the revisions is largely offset by a reduction in RWAs for firms that rely on standardised approaches. “Banks using more standardised approaches have even seen some decreases in capital requirements,” says the regulatory capital expert. “You can see when you look at the distribution of impacts there are some G-Sibs that have had significant decreases.”

This is especially true for operational risk capital requirements, which are expected to see an aggregate drop of over 30%. However, the quantitative impact study reveals that for one G-Sib, op risk capital requirements will rise by 222% under the standardised measurement approach (SMA), while another can expect a reduction of 66.1%.

The restrictions on modelling credit RWAs are expected to produce mixed results. “The tweaks to credit risk are complex,” says the senior European banker. “There are so many changes in different areas.”

I am sure [the new accord] has been fine-tuned to give the right output, as opposed to anyone thinking these numbers reflect some sort of bottom-up risk approach

Senior European banker

The loss of the advanced internal ratings-based approach for modelling exposures to corporates with revenues of over €500 million is likely to have the most punitive impact on big banks. While the threshold was raised from a proposed €200 million, a significant number of corporates will be excluded from the advanced internal ratings-based approach. “It is a big range of corporates that will be caught, and it will impact different institutions very differently, depending on the mix of their portfolios,” says a credit specialist at a consulting firm. “You will see some banks with a disproportionate impact, and some banks with very little. It is not likely to be uniform.”

On the other hand, banks are likely to see a net reduction in RWAs on mortgages. “Some of the standardised approach calibrations have been dialled down. The whole loan risk-weight for mortgages is the one people are most familiar with. Applying standardised risk weights to a mortgage book will give a far lower outcome,” says the senior European banker.

However, he questions the motives behind the last minute changes to the advanced internal ratings-based threshold and standardised risk weights. “There are these kinds of recalibrations throughout the whole thing. I am sure it has been fine-tuned to give the right output, as opposed to anyone thinking these numbers reflect some sort of bottom-up risk approach.”

The Basel Committee is counting on the 30% aggregate drop in op risk capital requirements, which largely accrues to US G-Sibs, to offset a large portion of the increases elsewhere. However, some question whether these savings will be realised. “The analysis that the Basel Committee did in terms of the change in the ratios incorporates a huge offset – a reduction in op risk RWAs – but we don’t know if that will matter or not. It all depends on how the US implements the SMA for US banks,” says a policy expert at a US financial industry association. “The SMA, if implemented as Basel is suggesting in the US, would reduce RWAs for US banks, but we don’t really know how much the US agencies will take that in.”

Market participants say further analysis of the Basel III revisions is necessary to fully understand the impact of the changes on specific institutions and markets. “All of this makes the case for further analysis to understand the impacts at the level of different products and businesses,” says the regulatory capital expert. “There needs to be consideration of how this impacts capital markets products – looking at repos, derivatives and a bank’s ability to make markets and hold assets. And looking at the corporate lending side, trade finance, project finance, commodity finance, all of those things. That is what we need to see now.”

  • LinkedIn  
  • Save this article
  • Print this page  

Only users who have a paid subscription or are part of a corporate subscription are able to print or copy content.

To access these options, along with all other subscription benefits, please contact [email protected] or view our subscription options here:

You are currently unable to copy this content. Please contact [email protected] to find out more.

You need to sign in to use this feature. If you don’t have a account, please register for a trial.

Sign in
You are currently on corporate access.

To use this feature you will need an individual account. If you have one already please sign in.

Sign in.

Alternatively you can request an individual account here: