THERE IS NO BASEL IV SOLUTION, LEVERAGE ON INITIATED FINANCE AND RISK OPTIMISATIONS 2 1
Introduction
Since the reform of the Basel III supplements in 2017, it has been one of the most important topics among banks and financial institutions. In order to prevent a wide range of stakeholders from losing confidence in banks’ reported capital ratio, the post-crisis regulation contributes to restoring the credibility of the calculation by enhancing the comparability of bank’s capital ratios, limiting the use of internal model approaches and complementing a sound capital floor on risk-weighted assets (RWA) ratio.
In short, the revised Basel III, renamed Basel IV, requires the banks to be more standardized, especially for banks using Advance Internal ratings-based approach (A-IRB). To a large extent, banks using A-IRB approaches have more freedom to use their own models to estimate risk parameters, such as PD (probability of default), EAD (exposure at default) and LGD (loss given default). However, Basel IV will no longer allow low default portfolios, such as Mortgages, Trade Commodity Finance (TCF) to use only internal models.
This is due to the reason that the Basel Committee on Banking Supervision (BCBS) regards it challenging for banks to obtain reliable parameter estimations for low default portfolios. Instead, BCBS introduced input floors to PD, LGD and the Credit Conversion Factors (CCF) that are used to determine EAD for off-balance sheet items and the output floor on capital requirements to force A-IRB banks to better understand the behaviour of their portfolios and allocate capital appropriately according to the standardized approach.
Second reason is to increase the comparability between the models of different banks. A-IRB models have become sometimes too advanced in relation to their purpose and data availability. For some banks this is a good reason to start normalizing models, reduce the number of models and to lower implementation costs.
The implementation date of Basel IV regulation is postponed with one year till January 2023 and will phase-in until 2028 due to the COVID –19 outbreak.
3 Impact of COVID 19
The outbreak of the COVID –19 pandemic and the subsequent global lockdown put the banking system, particularly its capital positions, under severe pressure. Repayments of loans are Loans need to or will be written-off. The market movements are also hurting safety buffers. But because of the regulatory capital buffers banks remain resilient so far. With the pressure on capital there comes a huge demand for ad hoc regulatory and management reporting. Besides COVID there was already impact from huge backlogs in DoD, BCBS 239 and Modelling.
In order to allow banks to concentrate their resources on mitigating the effects of COVID –19 and maintaining financial stability, the Basel Committee on Banking Supervision (BCBS) has announced that the implementation of Basel IV will be postponed for one year to 1 January 2023 [1].
The revised implementation guidelines following a deferral are summarized below:
An overview of the Basel IV1) framework. Because of COVID 19, go Live date has shifted to January 1 2023
COVID19 Today Deferral New regulations and adjustments 2017 2018 2019 2020 2021 2022 2023 to existing regulations
BCBS 239 / ANACREDIT NPL and Backstop Basel IV: TLAC/MREL - Total Loss Absorbing Capacity Basel IV – Banking Book - Securitisation framework NSFR - Net Stable Funding Ratio (incl disclosures) Basel IV: Capital Requirements - Leverage Ratio Basel IV: Trading Book - Fundamental review of the trading book (FRTB) Basel IV – Banking Book - Credit RWA Basel IV: Banking Book - Credit Risk – Standardized Approach (SA) Basel IV: Banking Book – OpRisk – Standardised Measurement Approach Basel IV: Banking Book - Credit Risk – Internal Ratings Based Approach Basel IV: Banking Book - Interest Rate Risk of the Banking Book (IRRBB) Basel IV: Banking Book SA for Measuring Counterparty Credit Risk Basel IV: Capital Requirements- Capital Floors Basel IV: Trading Book - Minimum Capital Requirements for CVA Risk
Final Requirements Extended eective date (Proposed) Eective date
Other BCBS standards, guidelines, consultation papers or working papers
• BCBS 279, 424 – SA Counterparty Risk • BCBC 374, 424 – Securitisation
• BCBS 283 – Large Exposures • BCBS 387 –TLAC
• BCBS 309, 356 – Pillar 3 Disclosure • BCBS 349, 398 – Step-in Risk
• BCBS 367 – Problem assets • BCBS 425 – The treatment of sovereign exposures
• BCBS 368 – IRRBB 1) Initial application depends, among others, on system relevance of the bankand the respective BCBS
1For more details: https://www.bis.org/press/p171207.htm
4 The introduction of the SA models and the comparison with the IRB calculations seems to have the biggest impact. New data needs to be sourced and calculations need to be merged with IRB calculations. Additional data is requested that was not Basel IV main features asked before like external client ratings and original collateral value. And, a new client segmentation needs to be made for So, what is the Basel IV implementation about? Let’s the SA models. Therefore, in terms of data logistics there is have a quick recap: a challenge.
• Introduction of Standardised Models (SA) As many banks are updating their financial and risk landscape, they are taking the opportunity to develop the Basel IV features • Some portfolios need to move to foundation on the target platforms. But not all target platforms will be ready in time, so there will be a hybrid implementation that • Input Floors increases IT implementation efforts.
• Output floors Similarly, the output floor, known as one of the biggest challenges under Basel IV, is also raising the heavy workload • Focus on tail end risk and costs in banks. Banks have to allocate resources to revise methodologies and finalize the Basel IV framework, especially • Business Impact indicator for Operational risk for those banks with large low default portfolios. The setting of lower bounds is designed to reduce the variability in RWAs and thus increase the comparability in capital ratios among banks. Mandatory RWA is at least 72.5% of RWA using the standardized approach.
In the picture below you will find an overview of the Basel IV framework.
Basel IV added minimum requirements (in- and output floors, SA models) to increase comparability of the internal models!
Development Key Topics
� Basel IV is building on the e ol ed three pillar Basel frame ork by limiting olatility and variance in Oct First consultations for banks’ capital calculations ith the aim of making outcomes more comparable across banks globally 2014 ne standard approaches � Reforms concentrate on the calculation of RWAs the denominator internal models should not fall belo 72 5 of the calculation using the Basel IV standardi ed models This lo er limit is kno n as an Dec Release of the "output floor“ hich is measured against the aggregated sum of risks