EBA published an opinion on the treatment of credit insurance in the prudential framework. This opinion is in response to the extensive feedback received by EBA during the public consultations on draft guidelines on credit risk mitigation for institutions applying the internal ratings-based (IRB) approach with own estimates of Loss Given Default (LGD). In its opinion, EBA concludes that no specific regulatory LGD should be set for credit insurance claims and calls for implementation of the final Basel III framework as agreed by BCBS. EBA submitted this opinion to EC to inform the current work on the proposal for revisions of the Capital Requirements Regulation (CRR) in relation to the implementation of the final Basel III framework.
The main concerns raised in the feedback received relate to the LGD applied to exposures to the insurance companies under the IRB approach without the use of own estimates of LGD, especially in the context of the changes introduced in the final Basel III framework published by the BCBS in December 2017. These reforms disallow the use of own estimates of LGD for exposures to financial institutions, including insurance companies. As a result, the regulatory values of LGD have to be also used where the effects of credit insurance used as credit risk mitigation is recognized through substitution of risk parameters. This was commented as overly punitive, given the higher seniority of claims from policy insurance over other claims toward insurance undertakings.
The analysis presented in the opinion leads to the conclusion that there should not be a specific value of regulatory LGD for credit insurance claims. While higher seniority typically applies to claims from insurance policies due to the specific structure of the balance sheets of the insurance undertakings, most of the claims in the unwinding proceedings would benefit from such priority. Thus, in case of failure of an insurance company, the insurance policy holders may still suffer from significant losses, especially in the conditions of economic downturn. There is no evidence that these losses would be significantly lower than the currently applicable regulatory LGD values. The opinion also points out that the final Basel III framework has been calibrated at the overall level and as such should be implemented in EU in line with the international agreement. EBA also stressed that specifying any preferential treatment for the claims on credit insurance policies would not be compliant with the final Basel III framework.
Keywords: Europe, EU, Banking, Insurance, Credit Risk, IRB Approach, CRR, LGD, Basel III, Opinion, BCBS, EBA
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