BIS published a bulletin, or brief report, that analyzes the extent to which bank capital buffers can support lending, taking into account the possible COVID-19-induced losses. This three-step analysis first documents the amount of current common equity tier 1 (CET1) capital above the minimum regulatory requirements and assesses the amount that banks could be willing to use under exceptional circumstances (potential buffer). It then estimates how much of these potential buffers would be eroded in an adverse or a severely adverse macro-financial scenario. Finally, it approximates by how much banks could expand lending, depending on how much of the usable buffers they allocate to loans.
Banks globally entered the COVID-19 crisis with roughly USD 5 trillion of capital above their Pillar 1 regulatory requirements. Yet the amount of capital that banks would be able and willing to use for lending is likely to be substantially lower. The authors assume that banks and supervisory agencies would not be willing to see CET1 ratio of banks fall below 10%, while systemically important banks (SIBs) would also maintain their SIB buffers on top of that. The capital ratio would thus need to remain at least 3 percentage points above the Pillar 1 requirements. The authors refer to the amount of CET1 capital in excess of this benchmark as the banks’ potential buffers, roughly USD 2.7 trillion in total at end-2019—before crisis-related losses occurred.
The amount of additional lending will depend on how hard banks’ capital is hit by the crisis, on their willingness to use the buffers and on other policy support. The authors take into account two stress scenarios. The first scenario, referred to as the adverse scenario, assumes losses on existing loans comparable to those resulting from the savings and loan crisis in the United States. The second one, the severely adverse scenario, considers losses roughly equivalent to those observed for the great financial crisis. In the adverse stress scenario, banks’ usable buffers would decline to USD 800 billion, which could support USD 5 trillion of additional loans (6% of total loans outstanding). Yet in a severely adverse scenario the corresponding figures would be only USD 270 billion and USD 1 trillion (1.3% of total loans).
Overall, the analysis shows that—despite the build-up of capital over the past years—usable buffers alone might not be enough to bolster lending should the crisis deepen to a scale comparable to that of the great financial crisis. In such a scenario, policy faces a difficult trade-off. Policymakers need to strike a balance. On the one hand, they need to preserve the banking sector’s lending capacity throughout the crisis. Policy can support the release of buffers and contain the increase of risk-weights—for instance, through credit guarantees. On the other hand, safeguards are needed to prevent capital ratios from falling to levels that could undermine the sector’s resilience—for instance, through capital backstops. Moreover, policy needs to strengthen the incentives for the sector to return to a sustainable path in the medium term, which includes accelerating consolidation and balance sheet repair.
Keywords: International, Banking, COVID-19, Capital Buffers, CET1, Regulatory Capital, Pillar 1, Basel, BIS
Previous ArticleBCBS Updates Supporting Information for G-SIB Assessment
EBA published a report analyzing the impact of the unwind mechanism of the liquidity coverage ratio (LCR) for a sample of European banks over a three-year period, from the end of 2016 to the first quarter of 2020.
In response to questions from a member of the European Parliament, the ECB President Christine Lagarde issued a letter clarifying the possibility of amending the AnaCredit Regulation and making targeted longer-term refinancing operations (TLTROs) dependent on the climate-related impact of bank loans.
IASB started the post-implementation review of the classification and measurement requirements in IFRS 9 on financial instruments and added the review as a project to its work plan.
FSB published a report that examines progress in implementing policy measures to enhance the resolvability of systemically important financial institutions.
EBA published a report on the benchmarking of national loan enforcement frameworks across 27 EU member states, in response to the call for advice from EC.
FSB published a letter from its Chair Randal K. Quarles, along with two reports exploring various aspects of the market turmoil resulting from the COVID-19 event.
RBNZ launched a consultation on the details for implementing the final Capital Review decisions announced in December 2019.
The Trustees of the IFRS Foundation, which are responsible for the governance and oversight of IASB, have announced the appointment of Dr. Andreas Barckow as the IASB Chair, effective July 2021.
HKMA issued a letter to consult the banking industry on a full set of proposed draft amendments to the Banking (Capital) Rules for implementing the Basel standard on capital requirements for banks’ equity investments in funds in Hong Kong.
ESRB published an opinion assessing the decision of Swedish Financial Supervisory Authority (FSA) to extend the application period of a stricter measure for residential mortgage lending, in accordance with Article 458 of the Capital Requirements Regulation (CRR).