The Financial Stability Institute (FSI) of BIS published an executive summary on the scope of application of the Basel framework. Executive summaries by FSI provide brief synopses of the new and revised global financial regulatory standards. They mainly cover topics related to banking and insurance regulation and supervision. The Basel framework is designed to be applied to internationally active banks on a fully consolidated basis. In practice, this includes applying the framework to any holding company that is the parent entity within a banking group to ensure that it captures the risks of the banking group as a whole. As such, the framework applies on a consolidated basis to all internationally active banks at every tier within a banking group.
The executive summary mentions the entities that are subject to regulatory consolidation and risk-based capital. All banking and other relevant financial activities conducted within a group that contains an internationally active bank should be captured through consolidation. This includes majority-owned or controlled banking entities, securities entities, and other financial entities (excluding insurance entities). There are a few exceptions to this general principle; for majority-owned securities and other financial subsidiaries that are not consolidated for capital purposes, all equity and other regulatory capital investments in the group will be deducted and the assets and liabilities, as well as third-party capital investments in the subsidiary, will be removed from the balance sheet of a bank. For less than wholly owned banking, securities, and other financial entities that are fully consolidated, the minority interests (capital held by third parties) that arise can only be recognized in consolidated capital if they meet the applicable definition of capital under Basel III. Any minority interest in excess of the subsidiaries’ minimum regulatory capital requirements is not recognized.
The leverage, liquidity, and large exposure rules follow the same scope of application as that applied in the risk-based capital framework. Pillars 2 and 3 are key components of the Basel framework and generally follow the same scope of application as Pillar 1 requirements. With respect to Pillar 2, and as part of the consolidated risk assessment of a banking group, supervisors should also consider various risks that may not necessarily be subject to regulatory consolidation. One such risk, “step-in risk,” is the risk that a bank decides to provide financial support to an unconsolidated entity that is facing stress in the absence of, or in excess of, any contractual obligations to provide such support. If the supervisory assessment reveals that significant residual step-in risks have not been appropriately estimated or mitigated, a supervisor may use the measures that it determines to be appropriate based on the nature and extent of step-in risks identified. Some of these measures may include additional liquidity requirements; expansion of the stress testing framework to include entities that are not part of the scope of regulatory consolidation; and inclusion, within the scope of regulatory consolidation, of entities where significant residual step-in risk is present.
Related Link: Executive Summary
Keywords: International, Banking, Basel Framework, Pillar 1, Pillar 2, Pillar 3, Scope of Application, Basel III, FSI, BIS
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