BIS Assesses Potential of Capital Buffers to Support Lending in Crisis
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
Skilled market researcher; growth strategist; successful go-to-market campaign developer
Works with financial institutions, regulatory experts, business analysts, product managers, and software engineers to drive regulatory solutions across the globe.
Applies proficiency and knowledge to regulatory capital and reporting analysis and coordinates business and product strategies in the banking technology area
Previous ArticleBCBS Updates Supporting Information for G-SIB Assessment
ECB Finds Banks Unprepared for Pillar 3 Climate Risk Disclosures
The European Central Bank (ECB) published results of the 2022 supervisory assessment of climate-related and environmental risk disclosures among significant institutions (103) and a selected number of less significant institutions (28).
NCUA Assesses Credit Union Exposure to Climate-Related Physical Risks
The National Credit Union Administration (NCUA) released a Research Note that examines the exposure of credit unions to climate-related physical risks. In a related development
EBA Issues Multiple Regulatory and Reporting Updates for Banks
The European Banking Authority (EBA) is seeking comments, until July 31, 2023, on the draft Guidelines on the proposed common approach to the resubmission of historical data under the EBA reporting framework.
EC Adopts Regulation on Own Funds, Issues Other Updates
The European Commission adopted Delegated Regulations on own funds and eligible liabilities, on requirements for the internal methodology under the internal default risk model
CDP Platform to Report Plastic-Related Impact, Issues Other Updates
The Carbon Disclosure Project (CDP) announced that its global environmental disclosure platform has enabled reporting on plastic-related impact for nearly 7,000 companies worldwide
IASB to Enhance Reporting of Climate Risks, Proposes IFRS 9 Amendments
The International Accounting Standards Board (IASB) updated its work plan to enhance the reporting of climate-related risks in the financial statements,
BIS Addresses Data Gaps and Macro-Prudential Policy for Climate Risks
The Financial Stability Institute (FSI) of the Bank for International Settlements (BIS) published a brief paper that examines challenges associated with the use of macro-prudential policies to address climate-related financial risks.
FCA Sets Out Business Plan, Launches TechSprint on Greenwashing
The Financial Conduct Authority (FCA) published its business plan for 2023-24. The plan sets out details of the work planned for the next 12 months to achieve better outcomes for consumers and markets
UK Committee Sets Out Recommendations for Next Phase of Open Banking
The Joint Regulatory Oversight Committee (JROC), comprising the Financial Conduct Authority (FCA) and the Payment Systems Regulator (PSR) as co-chairs and the HM Treasury and the Competition and Markets Authority (CMA) as members
ECB Publishes Multiple Regulatory Updates for Banking Institutions
The European Central Bank (ECB) published the results of the 2022 climate risk stress test of the Eurosystem balance sheet,