Revisions to Basel III Standarised Credit Risk
Volume 5, Number 1
March 28, 2016
World Council Comments on Proposed Revisions to Basel III Standardised Credit Risk Approach
World Council of Credit Unions filed a comment letter earlier this month in response to the Basel Committee on Banking Supervision’s second consultative document, Revisions to the Standardised Approach for Credit Risk under the Basel III Capital Accord. The Committee had originally proposed revising its risk-based capital weighting rules in a December 2014 proposal which World Council opposed in our March 2015 comment letter as overly prescriptive and incompatible with mortgage underwriting practices in many jurisdictions. The Committee withdrew that original proposal in December 2015 and replaced it with this second consultative document. Although the second proposal is generally less concerning that the original, our March 2016 comments nonetheless urged the Committee to revise several aspects of it related to the risk-based capital treatment of mortgage loans, central credit union capital, and undrawn portions of open-end lines of credit.
Regarding mortgages, World Council urged the Committee to give credit union supervisors national discretion to recognize credit enhancements, such as third-party mortgage guarantees like lenders’ mortgage insurance/private mortgage insurance or similar governmental loan guarantees, in the loan-to-value risk-weightings for mortgage loans. Many credit unions are portfolio mortgage lenders and credit unions in jurisdictions like Australia and Canada typically have more than half of their assets invested in mortgages. In the United States, roughly 40% of credit union loans by value are first-lien mortgages and nearly 10% are second-lien mortgages.
Regarding natural-person credit unions’ holdings of central credit union capital instruments, we expressed concern about the Committee’s proposed 250% risk-weight for credit unions’ holdings of another banking institution’s equity capital as well as the proposed 150% risk-weight for holdings of non-equity capital instruments issued by other banking institutions. We urged the Committee to establish a threshold, such as 10% of assets or the value of the credit union’s total regulatory capital, below which holdings of capital in central credit unions would be subject to less punitive risk-weights.
Our comments also urged the Committee not to finalize the proposed 10 to 20 percent credit conversion factor for off-balance-sheet items involving undrawn portions of unconditionally cancelable open-end lines of credit, such as credit cards. We argued that this aspect of the proposal, if finalized, would be likely to reduce consumers’ access to credit and increase the costs of such credit for consumers where it remains available. We further argued that that the Committee should retain a 0 percent credit conversion factor for these items.
World Council Comments on Basel Proposal on “Total Loss Absorbing Capacity”
World Council also recently filed a comment letter with the Basel Committee on Banking Supervision in response to the Committee’s proposal on Total Loss Absorbing Capacity Holdings. Total Loss Absorbing Capacity (TLAC) instruments are a form of gone-concern capital that can absorb institutional losses in a liquidation or purchase and assumption transaction. The Financial Stability Board has already issued a related set of TLAC rules that do not apply to credit unions; World Council successfully urged the Board to exempt credit unions from its TLAC rules in a comment letter we filed with the Board last year.
Our comments to the Basel Committee strongly supported the Committee’s proposal to limit the application of its TLAC Holding rules to “internationally active banks” and we urged the Committee to finalize this language.
If finalized as proposed, this statement should exempt virtually all credit unions from the Basel Committee’s TLAC standard because few, if any, credit unions operate on a “cross-border basis” as the term is defined by the Basel Committee (i.e. operating on a “cross-border basis” generally means a bank or credit union has branch offices outside of the credit union’s home country that make loans and/or take deposits, but does not include credit union branches stationed on overseas military bases).
World Council Comments on the GPFI Financial Inclusion
World Council also recently filed comments in response to the Global Partnership for Financial Inclusion’s consultative document Global Standard-Setting Bodies and Financial Inclusion: The Evolving Landscape. Our comments supported the Partnership’s efforts to reduce regulatory burdens and the unintended consequences of regulation on credit unions imposed by international standards issued by the Basel Committee on Banking Supervision, the Financial Action Task Force, the Financial Stability Board, and other international standard setting bodies.
Specifically, World Council strongly supported the Partnership’s statements on the “concept of proportionality.” The concept of proportionality is intended to ensure that regulatory burdens are proportional to the size and complexity of the financial institution being regulated. This standard is also the policy reason why credit unions are not usually required by international standards to be subject to all of the regulations applicable to large, internationally active banks. We believe that the Partnership’s guidance, when finalized, will help credit union advocates around the world argue in favor of reducing unnecessary compliance burdens.
European Network Responds to the European Commission’s Call for Evidence on Financial Services
The European Network of Credit Unions (ENCU) recently submitted a comment letter to the European Commission in response to its Call for Evidence on the EU Regulatory Framework for Financial Services. Our comments urged the Commission to take action to reduce regulatory burdens on European credit unions in a number of areas. Notably, the ENCU’s comments urged the Commission to streamline the process required for European Union (EU) Member States to get the regulatory waivers necessary to create a national regulatory framework for deposit-taking credit unions, which the Netherlands is currently attempting to achieve.
The ENCU also urged the Commission to amend Europe’s Basel III liquidity rules to ensure that credit unions receive reasonable yields on investments in bank term deposits. In addition, our comments urged the Commission to engage in “a holistic review of all EU reporting and disclosure requirements and their regulatory burdens from a cost-benefit perspective” in order to reduce or eliminate unnecessary or outmoded regulatory requirements applicable to credit unions.
PRA Reform of the Legacy Credit Unions Sourcebook
The Prudential Regulation Authority has issued the final version of its new rulebook for credit unions in the United Kingdom (UK). These new rules, which came into effect on February 3, 2016, incorporate a number of recommendations made by World Council in our September 30th comment letter to the Authority. These changes should reduce regulatory burdens on credit unions in Great Britain and Northern Ireland significantly compared to the Authority’s original proposal issued in June 2015.
World Council’s recommended changes incorporated into the final version of the Authority’s regulation include reducing the leverage ratio required to be considered adequately-capitalized from a proposed 10% (the Authority reduced this requirement to 8% in the final rule) and removing a blanket prohibition on credit unions accepting shares or deposits that exceed the standard maximum amount guaranteed by the UK’s Financial Services Compensation Scheme of GBP 75,000 per member per credit union.
In addition, the Authority at our urging removed from the regulation roughly 11 ratios that were derived from World Council’s PEARLS Monitoring System. The Authority had proposed to establish these ratios as threshold requirements that a credit union would need to meet in order to engage in activities like mortgage lending or payments services, even though most of the proposed ratios bore no relation to legitimate safety and soundness concerns inherent to those business activities. World Council strongly opposed making these ratios a regulatory requirement because the PEARLS Monitoring System is a series of more than 40 interrelated target ratios intended to help credit union managers achieve sound business management. These ratios were never intended to serve as legal minimum requirements in the manner proposed by the Authority, nor are these ratios suitable to be cherry-picked by regulators rather than used as a holistic system. The final version of the rulebook relegated these ratios to a non-binding guidance document.
Michael S. Edwards
VP & General Counsel
World Council of Credit Unions (WOCCU)
601 Pennsylvania Ave., NW, Washington, DC 20004-2601 USA
Office: +1-202-508-6755 | Mobile: +1-215-668-5240 | Fax: +1-202-638-3410
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