The European Banking Authority (EBA) published its final report on the draft regulatory technical standards specifying the types of factors and conditions to be considered to assess appropriateness of risk-weights and of minimum loss given default (LGD) values for exposures secured by immovable property. The key elements for the assessment of risk-weights are the loss experience and the loss expectation related to the exposures secured by immovable property within the respective member state. The final standards cover specifications for institutions applying the standardized approach as well as for institutions applying the internal ratings-based approach, as referred to in the revised Capital Requirements Regulation (CRR 2).
For institutions applying the standardized approach, these final draft regulatory technical standards specify the types of factors to be considered during the appropriateness assessment of risk-weights on the basis of the loss experience of exposures secured by immovable property and forward-looking immovable property market developments. These standards delineate the types of factors to be taken into account in the determination of the loss expectation. For institutions applying the internal ratings-based approach to retail exposures secured by residential or commercial immovable property, these draft standards provide three conditions to be considered when assessing the appropriateness of minimum LGD values. The standards emphasize the systemic risk approach of such an appropriateness assessment due to the
- Existing approval, validation, and close monitoring of rating systems under the internal ratings-based approach by competent authorities
- Requirements for institutions to use LGD estimates that are appropriate for an economic downturn if these are more conservative than the long-run average LGD, which is further specified in regulatory technical standards and EBA guidelines
For both assessments, proper coordination and cooperation between the competent and the designated authority are key to strengthening the identification of risks and to avoiding overlaps, double-counting of risk, and duplicative actions by authorities. These regulatory standards will support relevant authorities across the member states in European Union in carrying out their periodical assessments by striking the right balance between ensuring coherence and harmonization of their assessments and preserving the necessary flexibility. In their assessments, relevant authorities should consider whether minimum LGD values cover the sources of systemic risks beyond economic downturn considerations and idiosyncratic risks. The types of factors or the conditions that relevant authorities shall consider during such assessments must rely on the latest data available to them.
These draft regulatory technical standards, along with an ESRB recommendation, are meant to provide a framework for the relevant authority when setting higher risk-weights than those set out in Article 125(1) or 126(1) of the CRR2 and when setting higher minimum LGD values than those referred to in Article 164(4) of the CRR2. The aforementioned recommendation refers to a recommendation that ESRB may, in close cooperation with EBA, issue to provide guidance to the relevant authorities on factors that could adversely affect the current or future financial stability of the activating member state and on indicative benchmarks that the relevant authority has to take into account when determining higher risk-weights or minimum LGD values. When considering any changes to risk-weights or minimum LGD values, the relevant authority should also be aware of the direct linkages to other parts of the regulation, including the impact of such changes on the calculation of large exposure values, liquidity and capital ratios, reporting requirements, and other macro-prudential measures.
Keywords: Europe, EU, Banking, LGD, Loss Given Default, Regulatory Technical Standards, CRR, Credit Risk, Standardized Approach, IRB Approach, RWA, Regulatory Capital, Basel, EBA
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