PRA Amends Pillar 2 Capital Framework for Banks
PRA published the policy statement PS2/20 that contains the final amendments to the Pillar 2 framework and provides feedback to responses to the consultation paper CP5/19 on updates related to Pillar 2 capital framework. PS2/20 is relevant to the PRA-authorized banks, building societies, and PRA-designated investment firms. It is not relevant to credit unions and insurance and reinsurance firms. The changes in PS2/20 take effect from January 23, 2020.
PS2/20 contains the updates to the following Statement of Policy (SoP) and supervisory statements:
- SoP on the methodologies for setting Pillar 2 capital (Appendix 1)
- SS31/15 on Internal Capital Adequacy Assessment Process (ICAAP) and the Supervisory Review and Evaluation Process or SREP (Appendix 2)
- SS6/14 on implementing provisions of the fourth Capital Requirements Directive (CRD IV) on capital buffers (Appendix 3)
As part of the feedback to CP5/19, respondents sought further clarification on setting the PRA buffer for the hurdle rate in stress, buffer interactions, and usability. Following consideration of the respondents’ comments, PRA has made minor changes to the proposals and has updated the SoP to clarify the following:
- PRA will use the leverage exposure measure as the single scaling base for the operational risk and interest rate risk in the banking book (IRRBB) Pillar 2A components of the hurdle rate in stress because PRA considers it to be a more robust and representative scaling base. This has been clarified in Table E—"Pillar 2A scaling bases"
- In setting PRA buffer, factors in addition to a firm’s hurdle rate(s) will be considered. These include, but are not limited to:, the firm’s leverage ratio; tier 1 and total capital ratios; risks associated with double leverage; and the extent to which potentially significant risks are not captured fully as part of the stress test. This is set out in paragraph 9.44
- The purpose of PRA buffer and its interaction with the combined buffers has been set out in paragraphs 9.1 and 9.28-9.31
- PRA takes the approach of using risk-weighted assets at the start of the stress and that this may be adjusted to reflect changes to the balance sheet as set out in paragraph 9.32
- The example illustrating the process of calculating the PRA buffer is a stylized example and does not represent an exhaustive scenario as set out in paragraph 9.32.
In addition to the changes above, PRA has decided to add a reference in SS31/15, paragraph 2.41, to its existing policy on managing climate-related financial risks. PRA has made no changes to the draft policy for SS6/14. In the event that UK leaves EU with no implementation period in place, PRA has assessed that the policy would not need to be amended under the EU (Withdrawal) Act 2018 (EUWA).
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Effective Date: January 23, 2020
Keywords: Europe, UK, Banking, Basel III, Pillar 2, Capital Framework, Credit Risk, CRD IV, CP5/19, SS31/15, SS4/14, PS2/20, ICAAP, SREP, IRRBB, PRA
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