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    ECB Sets Out Results of Supervisory Review and Priorities for 2021

    January 28, 2021

    ECB published outcome of the 2020 Supervisory Review and Evaluation Process (SREP) and announced the supervisory priorities for 2021. The results suggest that coordinated policy measures, including extraordinary supervisory measures, provided considerable protection to households, businesses, and banking sector, helping to avert excessive procyclicality from the pandemic-induced shock. However, significant uncertainties remain in the short to medium term, with the main findings identified during the 2020 SREP being in the areas of credit risk, capital adequacy, business model sustainability, and internal governance. In turn, the supervisory priorities for 2021 draw on this assessment of the key risks and vulnerabilities in the banking sector, with the four key priority areas for 2021 being credit risk management, capital strength, business model sustainability, and internal governance.

    The SREP results for 2020 reflect an early decision by ECB to take a pragmatic approach toward conducting its annual core activities on account of the COVID-19 pandemic. The pragmatic approach to the SREP focused on banks’ ability to address the challenges and risks to capital and liquidity arising from the ongoing pandemic. The main findings identified during the2020 SREP concerned credit risk, capital adequacy, business model sustainability, and internal governance. These findings were addressed through qualitative recommendations:

    • The phasing-out of several COVID-related support measures in 2021 may increase the risk of cliff effects. To encourage appropriately prudent approaches, supervisors have communicated a considerably higher number of recommendations to banks.
    • Some banks were slow to address pandemic-related governance challenges. Supervisors found, in some cases, that there was a lack of adequate involvement by the management body, with insufficient follow-up and oversight of business functions, particularly in relation to reporting adequacy. Furthermore, there were also issues regarding credit risk management within the internal control functions and sustained structural weaknesses in the area of risk data aggregation and reporting.
    • Supervisors expressed concerns about the reliability of business plans for some banks and addressed these through qualitative recommendations to improve profitability. Banks have responded to such challenges by pursuing broader strategic overhauls or restructuring plans as well as domestic consolidation operations. Supervisors have been encouraging banks to pursue these strategic overhauls and improve efficiency and are closely monitoring the implementation of strategic actions of banks.
    • Supervisors expressed concerns about the reliability of capital planning frameworks of banks. Banks with with a small margin between their capital ratio and minimum requirements were subject to recommendations to enhance their capital planning. As part of the ECB’s relief measures, banks may fully use capital buffers, including Pillar 2 guidance, until at least the end of 2022. Overall, nine banks are making use of these measures, with common equity tier 1 levels based on the third quarter of 2020 being below the common equity tier 1 requirements and guidance prior to the COVID-19 measures.

    In addition to the four key priority areas, ECB will carry out supervisory activities to address other medium and longer-term structural risks to European banks, beyond the impact of the COVID-19 pandemic in 2021. Supervisors will focus on the alignment of banks with expectations set out in the ECB guide on climate-related and environmental risks, prudential risks emanating from money laundering, cyber and digitalization risks, and banks' preparedness for the final stages of the implementation of Basel III. Depending on how the crisis develops, the supervisory activities may be adjusted and tailored according to the specific risk profiles of banks. Some of the supervisory priorities of the ECB Banking Supervision,, for 2021, are as follows:

    • Supervisors will focus on the adequacy of banks’ credit risk measurement and management, to foster timely identification, efficient monitoring, and the mitigation of procyclicality.
    • The EBA-coordinated EU-wide stress test will be an important element in gauging capital resilience of banks, in addition to the continued supervisory review of capital planning by banks.
    • Strategic plans and the underlying measures taken by banks to overcome existing structural deficiencies will continue to be challenged.
    • Supervisory focus will remain on the adequacy of banks’ crisis risk management frameworks, risk data aggregation, IT and cyber risks, and anti-money laundering risks.

     

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    Keywords: Europe, EU, Banking, SREP, Basel, SSM, Regulatory Capital, Credit Risk, Pillar 2, ESG, COVID-19, CRD5, Governance, Climate Change Risk, Stress Testing, ECB

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