Germany’s two banking supervisory agencies have drafted a plan to ease the burden of regulation on Europe’s smaller banks and are now seeing if it will fly.
An informal discussion paper drafted by the Deutsche Bundesbank and Bafin — which share responsibility for supervising German banks — proposes freeing banks across the EU of the need to report capital ratios based on complex calculations of the riskiness of their assets, as well as liberating them from various other obligations.
The proposals are the first concrete result of a drive to simplify regulation that began earlier this year and are the clearest sign yet that the EU is — belatedly — ready to undo some of the stifling financial regulation it introduced over a decade ago.
Regulation is currently based on the global Basel III accords that were agreed by regulators in 2010, two years after reckless lending by U.S. and European banks caused the biggest financial crisis in nearly 80 years and a wrenching recession across most of the world.
Basel III drastically increased the amount of capital and liquidity that banks have to hold to protect themselves against a possible repeat. But the accords were aimed primarily at big international institutions whose operations were capable of destabilizing the global financial system; as the impact of the 2008-2009 disaster has faded, regulators have grudgingly come to accept that their response went too far.
The U.S., Switzerland and the U.K. have already implemented less intrusive regimes for smaller banks with simpler business models.
“With the proposal for an EU small banks regime, we have provided important impetus to the discussions on simplifying the regulatory framework,” Michael Theurer, the Bundesbank’s head of banking supervision, said in emailed comments, stressing that the proposal “does not represent a departure from the Basel framework.”
The framework would be open to banks with less than €10 billion in assets and with a mainly domestic focus (at least 75 per cent of their business should be in the European Economic Area). Banks using it would not be allowed to hold any cryptocurrency assets such as Bitcoin, and would be allowed to hold only minimal amounts of derivatives or assets for trading purposes. They would also have to prove that their vulnerability to changes in interest rates is acceptably low.
‘Paradigm shift’
Under the Capital Requirements Regulation, which applies Basel III in the EU, banks are generally required to report two capital ratios — one adjusted for risk, and one unadjusted. The latter, known as the leverage ratio, was originally intended as a backstop to prevent larger banks from gaming the system by understating the risks on their books under internal models allowed by the accords
The German proposals suggest that smaller banks would merely have to report a leverage ratio, albeit a “significantly higher” one than the present 3 percent. By comparison, U.S. community banks must keep their leverage ratios above 9 percent, which means they must hold at least $9 of capital for every $100 in assets. Theurer said the Bundesbank had deliberately refrained from suggesting a specific ratio at this time.
This idea “is more than a technical detail,” Daniel Quinten, a member of the board at Germany’s Federal Association of Cooperative Banks, said in a post on social media. “It would be a paradigm shift — and a chance for more proportionality, more efficiency and less bureaucracy in regulation.”
The proposals also simplify demands on liquidity coverage. They would exempt banks from the Basel III Net Stable Funding Ratio — a complex formula for guaranteeing liquidity over a one-year timeframe — and would replace it with a new requirement that would limit their lending to only 90 percent of their deposit base. Banks would also have to keep at least 10 percent of their assets in highly liquid form, such as cash, central bank reserves or short-term government debt. This, the discussion paper said, “would achieve similar potential outcomes with dramatically reduced complexity.”
The proposals — and the feedback they get — are to be incorporated in a report that a high-level European Central Bank task force will recommend to the European Commission at the end of the year.
Additional reporting by Carlo Boffa.
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