Leverage ratio Pillar 2 requirement
A bank’s leverage ratio is calculated by dividing its Tier 1 capital by its total leverage ratio exposure measure, which includes its assets and off-balance-sheet items, irrespective of how risky they are. As the leverage ratio is therefore not risk-based, the 3% leverage ratio requirement – which became binding for all banks on 28 June 2021 – serves as a simple backstop to risk-weighted capital requirements.
If ECB Banking Supervision determines that a supervised bank has a particularly high risk of excessive leverage, that bank may be subject to a Pillar 2 requirement with regard to the leverage ratio, in addition to the 3% requirement. This is intended to capture contingent leverage risk originating from a bank extensively using derivatives, securities financing transactions and off-balance-sheet items, as well as engaging in regulatory arbitrage and providing step-in support.
Like the Pillar 2 requirement, the leverage ratio Pillar 2 requirement is legally binding, meaning that if banks fail to comply with it they could be subject to supervisory measures, including sanctions. In addition to complying with the leverage ratio Pillar 2 requirement, banks are expected to follow the leverage ratio Pillar 2 guidance issued by the ECB.
The ECB has been assessing the risk of excessive leverage among supervised banks since 2022. To date, it has not imposed a leverage ratio Pillar 2 requirement on any bank under its direct supervision, but some banks have been subject to qualitative measures.