FAQs on ECB supervisory measures in reaction to the coronavirus
To be updated depending on developments. Last updated 18 June 2021.
You announced flexibility when implementing the ECB Guidance on non-performing loans (NPLs). Are you considering forbearance for NPLs? Are you looking at other ways to mitigate the deterioration of asset quality, for example with regard to IFRS9?
The ECB Guidance on NPLs already embeds flexibility and case-by-case assessments by Joint Supervisory Teams (JSTs).
In exercising flexibility, the right balance should be achieved between helping banks absorb the impact of the current downturn, on the one hand, and maintaining the correct risk identification practices and risk management incentives, on the other, as well as ensuring that only sustainable solutions for viable distressed debtors are deployed.
It remains crucial, in times of distress, to continue identifying and reporting asset quality deterioration and the build-up of NPLs in accordance with the existing rules, so as to maintain a clear and accurate picture of risks in the banking sector. At the same time flexibility should be deployed to help banks absorb the impact of credit risk developments and mitigate the procyclicality of that impact.
Against the backdrop of these guiding principles, and to complement the case-by-case flexibility embedded in the ECB Guidance on NPLs and in the Addendum, the ECB has taken the additional actions described below.
In relation to all exposures that benefit from government guarantees issued by Member States in the context of public interventions relating to the coronavirus (COVID-19) pandemic, the ECB, within its own remit, and within the context of the ECB Guidance on NPLs and the Addendum, has extended flexibility on the automatic classification of obligors as unlikely to pay when institutions call on the coronavirus-related public guarantees, as allowed under the Guidelines on the application of the definition of default issued by the European Banking Authority.
The preferential treatment foreseen for NPLs guaranteed or insured by Official Export Credit Agencies is extended to non-performing exposures that benefit from guarantees granted by national governments or other public entities. This ensures alignment with the treatment provided in Regulation (EU) 2020/873 (the CRR “quick fix”). Concretely, this means that banks would face a 0% minimum coverage expectation for the first seven years of the NPE vintage count.
The ECB also extends flexibility to the NPL classification of exposures covered by qualifying legislative and non-legislative moratoria, following the EBA guidelines on legislative and non-legislative moratoria on loan repayments applied in the light of the coronavirus crisis, as amended. More precisely, the ECB complies with the abovementioned EBA guidelines. Paragraph 17(bis) of these guidelines require significant banks to notify the ECB of how they assess creditors’ creditworthiness in the context of moratoria; the ECB expects banks to do this when responding to the letter of 4 December 2020 on “Identification and measurement of credit risk in the context of the coronavirus (COVID-19) pandemic”.
Accounting standards, and their implementation, do not fall within the remit of ECB Banking Supervision, which can take very limited action in this regard. In a letter to banks under its supervision dated 1 April 2020, the ECB provided guidance to mitigate volatility in banks’ regulatory capital and financial statements stemming from IFRS 9 accounting practices, including on the use of forecasts to avoid excessively procyclical assumptions in expected credit loss (ECL) estimations. Given that the IFRS 9 provisions must be based on macroeconomic forecasts and that, particularly in these times of pronounced uncertainty, IFRS 9 model outcomes may be excessively variable and procyclical, the ECB:
- Encourages those banks under its supervision that have not already done so to fully implement the transitional IFRS 9 arrangements foreseen in Article 473(a) of the CRR. The ECB stands ready to process in a timely fashion all applications received in this context.
- Expects banks to consider whether a top-down collective approach can be applied to estimate a portion of the portfolio for which credit risk has increased significantly. This is especially important in times where information at loan level is not yet available to banks.
- Expects that, within the framework provided by international accounting standards, banks give a greater weight to long-term macroeconomic forecasts evidenced by historical information when estimating long-term expected credit losses for the purposes of IFRS 9 provisioning policies. This appears particularly important where banks face uncertainty in generating reasonable and supportable forecasts. In producing such forecasts banks should take into account the relief measures granted by public authorities – such as payment moratoriums.
- Expects that banks consider ECB publications on macroeconomic projections in applying IFRS 9 provisioning policies.
Adopting transitional IFRS 9 implementation measures should allow all banks to filter out from their prudential capital a large part of the additional IFRS 9 volatility from 2020 until the end of the planned transitional period. The measures proposed under (2), (3) and (4) should also help mitigate procyclicality in banks’ published financial statements.
The ECB welcomes the extension of IFRS 9 transitional arrangements introduced by Regulation (EU) 2020/873 (the CRR “quick fix”). This legislation extends the IFRS 9 transitional arrangements by two years, and institutions are allowed to fully add back to their Common Equity Tier 1 capital any increase in expected credit loss provisions that they recognise in 2020 and 2021 for their financial assets that are not credit-impaired, as compared to end-2019. In addition, a temporary prudential filter that neutralises the impact of the volatility in central government debt markets on institutions’ regulatory capital during the coronavirus pandemic has been introduced.
Will you also revise your expectations for the stock of NPLs?
In the context of the financial turmoil triggered by the coronavirus outbreak, banks should be supported as they provide solutions to viable distressed customers. The stock of NPLs accumulated prior to the outbreak is not the focus of our current mitigation measures. However, the ECB is fully aware that current market conditions may make the agreed reduction targets difficult to attain and somewhat unrealistic. In this vein, the JSTs will be fully flexible when discussing the implementation of NPL strategies on a case-by-case basis.
Regarding the submission of updated NPL strategies, the ECB announced on 28 July 2020 its decision to postpone the deadline for submission by another six months, to end-March 2021, to provide banks with additional time to better estimate the impact of the coronavirus pandemic on asset quality, which should enable more accurate planning.
Banks are nonetheless still expected to continue with the active management of their NPLs and any foreclosed assets.
Did you provide guidance regarding the operational management of asset quality deterioration during this time?
In order to be able to provide support to viable distressed borrowers, banks need to ensure that they have effective risk management practices and sufficient operational capacity in place. Therefore, in a letter dated 28 July 2020 to all banks under its direct supervision, the ECB provided a number of high level supervisory expectations along with more specific operational elements, which banks are expected to follow. As a follow-up to this letter, JSTs have been engaging with banks to discuss their risk management practices in the light of these expectations, focusing on any gaps identified.
How does the letter “Identification and measurement of credit risk in the context of the coronavirus (COVID-19) pandemic”, published on 4 December 2020, relate to previous communications from the ECB?
The purpose of the letter to banks of 4 December 2020 is to provide banks with additional guidance on credit risk identification and measurement in the context of the COVID-19 pandemic. Indeed, as the pandemic has progressed, the ECB’s supervisory activities have identified heterogeneous practices across significant banks with regard to the implementation of the letter of 1 April 2020. The letter published on 4 December 2020 therefore serves to further clarify what the ECB considers to be sound risk management policies and procedures. Further background is available in this blog post.
The letter published on 28 July 2020 complements the above communication and sets supervisory expectations with respect to operational preparedness to deal with distressed debtors.
You announced in March 2020 that JSTs would discuss with individual banks a more flexible approach to supervisory processes, timelines and deadlines. Do you foresee any further postponements?
To alleviate the supervisory burden for banks during stressed times, the ECB clarified on 20 March 2020 that it had decided to do the following.
- Postpone, by six months, the existing deadline for remedial actions imposed in the context of on-site inspections, TRIM investigations and internal model investigations.
- Postpone, by six months, the verification of compliance with qualitative SREP measures.
- Postpone, by six months, the issuance of TRIM decisions, on-site follow up letters and internal model decisions not yet communicated to institutions, unless the bank explicitly asks for a decision because it is seen as beneficial to the bank.
- Permit banks with stable recovery plans to submit only the core elements (indicators, options, overall recovery capacity) of their 2020 plans, focusing on the current coronavirus stress and ensuring that the plans can be implemented effectively and in a timely manner if needed. Banks were also permitted, where applicable, to address only the key deficiencies identified in the 2019 plans.
In addition to the above, in 2020 the ECB did not undertake comprehensive information gathering relating to the LCR for the products and services referred to under Article 23 of the LCR Delegated Regulation for which the likelihood and potential volume of liquidity outflows are material. However, banks are reminded that they are still required to properly estimate outflow rates for these products and services based on their own methodologies, unless otherwise determined by the ECB in the past, and that such estimates should reflect the assumption of combined idiosyncratic and market-wide stress as referred to in Article 5 of the LCR Delegated Regulation. In that regard, these estimates should also reflect experiences made during the current stress period.
Taking into account the economic and financial developments so far and the gradual return to normality at most banks, the ECB does not foresee any further postponements of the deadlines for remedial actions imposed in ECB decisions and operational acts including in relation to on-site inspections, TRIM investigations and internal model investigations. Similarly, it resumed the supervisory processes for adopting new decisions on TRIM, on-site follow up letters and internal model decisions from October 2020.
The measures taken regarding recovery plans do not apply to deadlines, meaning that banks still had to submit their 2020 recovery plans by the existing deadlines.
In March 2020, you postponed the verification of compliance with qualitative SREP measures by six months. Was there any further postponement?
No. Instead, the ECB decided to resume the process of verifying compliance with qualitative SREP measures. Considering the pragmatic approach to the SREP mentioned in the Supervision Blog published in May 2020 and taking into account the requirements currently applicable to the banks, the ECB decided as a general rule to not issue SREP decisions for the 2020 SREP cycle. Nevertheless, based on the assessment conducted in 2020, unless justified by exceptional circumstances affecting individual banks, observations and concerns were conveyed to banks as qualitative recommendations upon conclusion of the SREP.
The ECB will continue to monitor the evolution of the situation and take a flexible approach when considering any need to revise its stance.
Banks have been allowed to operate below the P2G level and to frontload the rules on the composition of P2R originally scheduled to come into force in 2021 with CRD V. Concretely, how much capital relief has this provided?
The ECB announced in the press release of 20 March 2020 that a release of the full Pillar 2 Guidance (P2G) buffer would make around €90 billion of Common Equity Tier 1 (CET1) capital available to banks under direct ECB supervision. With the immediate implementation of the latest Capital Requirements Directive (CRD V) rules on the composition of Pillar 2 Requirements (P2R), which are less stringent than the composition currently requested by the ECB, around €30 billion of additional CET1 capital have been added to the relief. The two measures combined have provided banks with aggregate relief of roughly €120 billion of CET1 capital. Overall, this has provided significant room for banks to absorb losses on outstanding exposures without triggering any supervisory action.
As announced in the press release of 20 March, the ECB estimates that the capital released by the two measures could enable banks to potentially finance up to €1.8 trillion of loans to households, small businesses and corporate customers in need of extra liquidity, taking into account that the average risk of lending to households, small businesses and corporates would most likely increase from current levels as a result of the shock. Thus, even in the most adverse scenarios, the lending capacity released by the measures remains very substantial.
These estimates do not take into account the beneficial effects of the public guarantees provided by various Member States in favour of household and/or corporate borrowers. As public guarantees substantially reduce the regulatory capital cost of lending and the amount of provisions that banks need to take against expected losses, such public measures increase the lending potential of banks.
Since March 2020 banks have issued more Additional Tier 1 and Tier 2 instruments, thereby increasing the CET1 capital relief stemming from the change in P2R composition from €30 billion of CET1 capital initially to €42 billion of CET1 capital as at 30 September 2020. On that date, the capital relief reached approximately €200 billion of CET1 capital, taking into account the aforementioned €42 billion, P2G relief of about €90 billion, macroprudential buffers relief of about €20 billion, €28 billion of dividends withheld in 2020 and €25 billion of provisions added back to CET1 capital under the IFRS 9 transitional arrangements.
How does allowing banks to operate below the P2G help the economy in the current situation?
P2G is a supervisory expectation about the bank’s ability to maintain an adequate level of capital to be able to withstand stressed conditions. It should be built up in normal times in order to make banks’ capital positions stronger in the event of a crisis. Allowing banks to operate below the level of capital defined by the P2G makes additional resources available to banks that should be used to provide more financial support to household and corporate borrowers and/or to withstand additional losses on existing exposures to those borrowers.
You said banks can fully use their capital buffers, including the capital conservation buffer (CCB). Does this mean you expect banks’ capital losses to reach levels that will deplete the CCB buffer? What are the implications if that happens?
The ECB’s indication that banks can also use the CCB buffer is not linked to a specific expectation regarding capital losses. The ECB reminds banks under its supervision that, in these difficult times, all capital buffers including the CCB may be used to withstand potential stress, in line with the initial intentions of the international standard setter on the usability of the buffers [Newsletter on buffer usability, 31 October 2019]. Having said that, as indicated in the notes to the press release of 12 March 2020, in the case of banks’ capital falling below the combined buffer requirement (CCB, CCyB and systemic buffers), banks can make distributions only within the limits of the maximum distributable amount (MDA) as defined by EU law.
The ECB does not have any discretion to waive the application of automatic restrictions to distributions that are set out in the EU law. However, the ECB decision to frontload the CRD V rules on the composition of P2R reduces the MDA trigger level for banks with enough AT1/T2 capital.
This said, the ECB will continue to take a flexible approach to approving capital conservation plans that banks are legally required to submit if they breach the combined buffer requirement.
You allowed banks to go below the liquidity coverage ratio (LCR) requirement. What does this imply?
Banks have made important efforts in recent years to achieve good levels of liquidity buffers (evidenced by the LCRs being well above the 100% minimum). The ECB clarified in the press release of 12 March 2020 that these buffers can be used to a substantial extent. This is indeed one of the foundations of the LCR, fully recognised by the international standards setter and reflected in EU regulation. It is key that banks make use of their liquidity buffers under stress, even if that means that their LCR falls substantially below the general 100% minimum level. This is important to ensure liquidity in the system and to avoid contagion effects that might trigger liquidity problems in other institutions, and, ultimately, the real economy.
By emphasising that banks can make use of their liquidity buffers to cover net liquidity outflows, the ECB effectively confirmed – ex ante – that the current environment corresponds to a situation in which the applicable regulation explicitly allows banks to use their liquidity buffers.
The ECB will continue to take a flexible approach when approving LCR restoration plans which banks are legally required to submit when breaching the LCR requirement.
You allowed banks to temporarily operate below P2G and the LCR requirement. When are banks expected to replenish them?
The ECB announced in the press release of 12 March 2020 that banks are allowed to operate below P2G and LCR requirements until further notice.
By drawing down their capital buffers, banks can retain their ability to continue lending to households and businesses through the current period of stress. Other things remaining equal, maintaining support for the real economy will also reduce the level of credit losses affecting the banking system, thereby helping to mitigate the downward pressure on banks’ solvency ratios.
The ECB will cautiously take into account the evolution of economic conditions and the credit cycle before requesting that banks replenish their Pillar 2 Guidance. This will not happen too early in the capital cycle. The timeline for P2G replenishment will depend on the economic outlook, taking into consideration factors such as banks’ capital trajectories, asset quality, equity markets, etc.
In any case, in order to facilitate banks lending to the economy, the ECB will not expect banks to operate above the level of their P2G any sooner than the end of 2022.
In relation to the LCR, the point in time at which the ECB would expect banks which have previously used their liquidity buffers to once again comply with the general 100% minimum level will depend on both bank-specific (e.g. access to funding markets) as well as market-specific factors (e.g. demand for liquidity from households, corporates and other market participants). In any case, the ECB will not expect this any sooner than the end of 2021.
The 2021 EBA Stress Test is expected to inform the setting of P2G levels. Do you foresee any impact on the P2G levels?
Indeed, the 2021 EBA Stress Test will inform the setting of P2G levels going forward, and therefore P2G levels are expected to be revised. However, the ECB does not intend the updated P2G levels to be fully met by banks before the date when banks are expected to again meet their P2G (see previous question). The ECB in particular intends to give banks sufficient time to replenish their capital in cases of increased P2G levels.
You said banks can continue to operate below P2G levels until at least the end of 2022. What does this imply for banks who may pay out dividends?
The ECB considers that the level of economic uncertainty due to the coronavirus pandemic remains elevated and that, consequently, credit institutions need to maintain a sufficiently large amount of capital to absorb potential losses that would also contribute to supporting the real economy by providing credit to households, small businesses and corporates.
As a guiding principle, banks whose capital levels are sustainable from a forward-looking perspective may be allowed to pay out an appropriate level of dividends using conservative and prudent assumptions, taking into account the mandatory restrictions on distributions provided for in the Capital Requirements Directive.
In any case, in line with Recommendation ECB/2020/62, the ECB asked banks that intend to decide on or pay out dividends to contact their JST by 15 January 2021 to discuss whether the level of intended distribution is prudent. The same applies for share buy-backs aimed at remunerating shareholders.
What are the implications of the ECB stance on the buffer/P2G use for less significant institutions?
The ECB expects the national competent authorities to apply the same treatment to the less significant institutions as the ECB is applying to the significant institutions.
You asked banks to refrain from paying out dividends until 1 January 2021 and you are now recommending extreme prudence until 30 September 2021. How exactly should banks apply this to the dividends for the 2019, 2020 and 2021 financial years?
Dividends for the 2019 financial year
Following up on ECB Recommendation ECB/2020/19, as replaced by ECB Recommendation ECB/2020/35, the Board of Directors/Supervisory Board of a bank decided either to keep the initial proposal for the distribution of dividends but to delay the payment or to propose a change to the dividend policy whereby no dividend was distributed for the 2019 financial year.
If the first option was chosen, the amount of dividends initially proposed was deducted from CET1 for the 2019 financial year. We expect that the General Assembly of Shareholders or the relevant body in charge will take a formal decision confirming the final profit or loss and the dividend distribution for financial year 2019 after discussing the prudent level of intended distribution in the supervisory dialogue with their JSTs under Recommendation ECB/2020/62.
If the second option was chosen, the amount of dividends initially foreseen was already reintegrated into the profit for 2019 and fully included in the retained earnings for this financial year. In this case, under Recommendation ECB/2020/62, the prudent level of intended distribution discussed in the supervisory dialogue between banks and their JST can be paid out of banks’ reserves or of 2020 profit.
Dividends for the 2020 financial year
Under the ECB Decision 2015/656, banks can apply for the recognition of year-end profits as of Q4 2020 before the management body has formally proposed or decided on the amount of dividends, by deducting the highest of the three pay-out ratios from the year-end profit: (i) pay-out ratio defined in the dividend policy; (ii) pay-out ratio of the previous year; (iii) average of the pay-out ratios of the last three years. If the amount of dividends for 2020 has already been formally proposed or decided by the management body following the supervisory dialogue between the bank and its JST on the prudent level of intended distribution under Recommendation ECB/2020/62, this amount is to be deducted from the year-end profits.
Year-end profits for 2020 will only be recognised as retained earnings under Article 26(1) of the CRR after the General Assembly of Shareholders or the relevant body in charge has confirmed the final profit or loss and the dividend distribution, without a need for a prior ECB permission; if there are modifications in relation to the initial recognition of year-end profits, the Q4 2020 regulatory reports are to be restated.
Dividends for the 2021 financial year
Banks are expected not to distribute interim dividends out of 2021 profit until 30 September 2021.
Is the distribution of dividends in the form of shares in line with the recommendation?
Dividend distributions solely in the form of shares are in line with the current recommendation provided they do not reduce the quantity or quality of own funds. This means that banks may distribute dividends in the form of shares beyond the prudent level of intended distribution discussed in the supervisory dialogue between banks and their JST under Recommendation ECB/2020/62. Such dividend distributions should nevertheless be designed in such a way that they do not mechanically increase dividends to be paid out in subsequent years.
At what level of consolidation does the recommendation on dividend distributions apply?
The ECB recommendation on dividend distributions applies at the consolidated level for significant supervised groups and at the individual level for credit institutions that are not part of a significant supervised group. For most significant supervised groups, this means that the parent undertaking in that significant supervised group is recommended to refrain from paying or to limit dividends. For other significant supervised groups, such as those with supervised entities being affiliated to a central body, the legal entities that are recommended to refrain from paying or to limit dividends depend on the specific structure of the significant supervised group.
With a view to supporting the smooth functioning of the Internal Market and, in particular, the free flow of capital within significant supervised groups, the recommendation to refrain from paying or to limit dividends does not generally apply to payments of dividends among entities within a significant supervised group. However, the ECB may recommend any credit institution to refrain from paying or to limit dividends on a case-by-case basis taking into account the individual circumstances of the credit institution in question.
Credit institutions that have a parent institution, parent financial holding company or parent mixed financial holding company that is established in a Member State that is not a participating Member State of the Single Supervisory Mechanism (SSM) are recommended to contact their joint supervisory team to determine whether it would be appropriate to pay out dividends or make irrevocable commitments to pay out dividends to their non-SSM parent undertaking.
Why does the ECB consider that it would not be prudent for banks to consider making a distribution of more than 15% of their accumulated profit for the financial years 2019 and 2020 or of more than 20 basis points in terms of their Common Equity Tier 1 ratio?
Banks’ management bodies are still responsible for ensuring that planned distributions are prudent. Banks are expected to compare their internal capital generation capacity with the foreseeable future impact of the economic fallout on the quality of their exposures and capital. In doing so, banks are expected to take into account that credit impairments come with a temporal lag and that current levels of profitability and asset quality are supported by temporary public measures.
As a safeguard, the ECB expects dividends and share buy-backs to remain below 15% of the cumulated profit for 2019-20 and not higher than 20 basis points of the Common Equity Tier 1 (CET1) ratio as of the fourth quarter of 2020, whichever is lower. Indeed, such levels are aimed at protecting banks’ loss absorption capacity and their ability to continue lending to the economy by limiting distributions compared to levels observed before the COVID-19 crisis. The thresholds reflect the ECB’s supervisory risk appetite in the light of its concerns that the full impact of the pandemic on banks’ balance sheets remains uncertain, noting that credit impairments come with a temporal lag and that banks are still benefiting from public support measures.
How do you define the profits to which the 15% threshold is applied?
For banks that have not already distributed dividends or conducted share buy-backs to remunerate shareholders with regard to financial year 2019, the basis for the definition is the cumulated profit attributable to owners of the parent for the financial years 2019 and 2020 based on the prudential scope of consolidation.
For banks that have already distributed dividends or conducted share buy-backs to remunerate shareholders with regard to financial year 2019, the basis for the definition is the profit attributable to owners of the parent for the 2020 financial year based on the prudential scope of consolidation.
Further adjustments are then applied:
- Impacts on P&L which do not affect the capital position are reintegrated into profit: goodwill and intangible assets impairment, impairment of deferred tax assets that rely on future profitability and do not arise from temporary differences net of associated tax liabilities, reclassifications from other comprehensive income into profit.
- The JSTs will consider any items of an exceptional or technical nature whose inclusion or exclusion has a material impact on a bank’s P&L (e.g. badwill).
- Distributions related to AT1 instruments charged against equity are to be deducted from profits.
What is the supervisory dialogue process like?
Banks that intend to decide on or pay out dividends or perform share buy-backs aimed at remunerating shareholders should contact their JST, as part of their supervisory dialogue, to discuss whether the level of intended distribution is prudent. Banks were expected to notify their JST before 15 January 2021 and they should refrain from announcing their dividend and share buy-back plans to the market until they have received feedback from their JST. JSTs may formally communicate potential concerns on dividend plans in an operational act.
Which are the criteria for the supervisory assessment informing the dialogue between banks and JSTs on the prudent level of intended distribution?
Banks that intend to pay dividends or buy back shares to remunerate shareholders need to be profitable and have robust capital trajectories. Banks with robust capital trajectories are able to demonstrate that any uncertainty around adverse asset quality developments can be covered in the coming years by sufficient capital generation capacity. In assessing banks’ dividend plans, supervisors take into account the resilience of banks’ internal capital generation capacity, the quality of their capital planning framework (including the management of cliff effects from transitional arrangements and the reliability of the underlying macroeconomic assumptions of capital trajectories), and the quality of their credit risk management processes.
Why is the ECB reiterating its expectations for banks to reduce variable remuneration payments?
Following the letter sent on 28 July, the ECB sent a new letter to banks on 15 December 2020 to convey and reiterate its supervisory expectations on variable remuneration, in the light of the persistent level of economic uncertainty triggered by the coronavirus pandemic. This measure follows the same objectives as the other related ECB supervisory measures (e.g. the recommendation on dividend distributions) implemented in response to the coronavirus pandemic: enabling institutions to continue to support the economy to the fullest extent possible while maintaining their capital levels and capacity to withstand the impact of expected financial distress. The ECB also invited banks to reflect on the reputational impact of the payment of variable remuneration in the current crisis context, in particular in relation to cases involving large individual amounts.
You have asked banks to adopt extreme moderation with regard to variable remuneration payments until 30 September 2021. What are the precise supervisory expectations and how should banks apply them?
In principle, extreme moderation means limiting variable remuneration to the fullest extent possible, for example when setting the bonus pool for the 2020 performance year. In this context, it is considered prudent that banks avoid entering into new commitments (e.g. new awards) and maintain a prudent approach with regard to variable remuneration awarded (including payments of amounts deferred from previous years, where possible). In any case, to the extent that banks are not able to limit the amount of variable remuneration compared to previous financial years, they should consider whether a larger part of the variable remuneration could be deferred for a longer period of time, and consider the payment of bonuses in instruments at a higher ratio, especially for identified staff (so-called material risk takers).
Banks should also not adopt measures that compensate staff for the reduction or loss of variable remuneration (i.e. an increase of fixed remuneration), as this would amount to a circumvention of the relevant regulatory provisions and the ECB’s supervisory expectations, and would hamper the overall objectives pursued via the aforementioned measures.
The implementation is to be guided by the principle of proportionality (e.g. the use of exemptions). The supervisory expectations should not expose banks to litigation or legal risk. They are therefore not intended to apply to cases where a bank is subject to a legal obligation to pay the variable remuneration. The ECB will pay due regard to the principle of proportionality as situations vary considerably, depending on factors such as the remuneration practice, business model and size of institutions. In particular, it will take into account their ability to contribute to the mitigation of systemic risks to financial stability that arise from the coronavirus crisis and to the economic recovery.
In relation to the level of application, the letter applies both to significant supervised groups and to individual institutions that are not part of a significant supervised group.
The ECB will continuously monitor the situation and determine in due course whether to update and/or amend these supervisory expectations, taking into account the economic environment, the stability of the financial system and the level of certainty around capital planning.
You granted leverage ratio relief to banks i.e. you allowed banks to temporarily exclude central bank exposures from their leverage ratio. What exactly is the leverage ratio and why is it a backstop? What is the leverage ratio relief doing?
The leverage ratio shows the relationship between a bank’s Tier 1 capital and its total exposure measure. The total exposure measure includes the bank’s assets and off-balance-sheet items, irrespective of how risky these are. Because the leverage ratio doesn’t depend on risks, the leverage ratio requirement serves as a simple, non-risk-based backstop to risk-weighted capital requirements. The 3% leverage ratio requirement becomes binding for banks on 28 June 2021.
The leverage ratio relief the ECB announced in the press release of 18 June 2021 means banks can exclude certain central banks exposures from their total exposure measure i.e. from the denominator of the leverage ratio.
Only the central bank exposures newly accumulated since the beginning of the pandemic effectively benefit from this leverage ratio relief. The level of resilience provided by the leverage ratio before the pandemic is therefore maintained. This is done via an upward recalibration of the 3% leverage ratio requirement: a bank which decides to exclude central bank exposures from its total exposure measure needs to recalibrate its 3% leverage ratio requirement, meaning its leverage ratio requirement won’t be 3% anymore but a bit higher.
Banks can choose whether they want to use this relief measure, i.e. banks do not necessarily have to exclude the central bank exposures and recalibrate their leverage ratio.
How does the upward recalibration of the 3% leverage ratio requirement work in practice?
The recalibration ensures that only the increase in banks' central bank exposures since end-2019 would in practice lead to leverage ratio relief. In the example below, the bank would recalibrate its 3% leverage ratio requirement to 3.15%. This way, only the central bank exposures newly accumulated since the beginning of the pandemic (16 euros in the example below) effectively benefit from the leverage ratio relief.
Why did you choose 31 December 2019 as a reference date for the recalibration of the 3% leverage ratio requirement?
The reference date chosen for this recalibration is 31 December 2019, as it is the last end of quarter before the pandemic, based on the start date of the supervisory and monetary policy measures implemented in March 2020.
What other measures can we expect?
Taking into account the economic and financial developments so far, and the gradual return to normality at most banks, the ECB currently does not foresee the need for measures beyond those described above. The ECB will continue to closely monitor the evolving coronavirus pandemic and its implications for the banking sector, in close contact with other authorities and the banks we supervise.
BCBS Statement: https://www.bis.org/publ/bcbs_nl22.htm
[BCBS statement extract]
While each of these buffers seeks to mitigate specific risks, they share similar design features and are all underpinned by the following objectives:
- absorbing losses in times of stress by having an additional overlay of capital that is above minimum requirements and that can be drawn down; and
- helping to maintain the provision of key financial services to the real economy in a downturn by reducing incentives for banks to deleverage abruptly and excessively.
The Committee continues to be of the view that banks and market participants should view the capital buffers set out in the Basel III framework as usable in order to absorb losses and maintain lending to the real economy. In practice, the Basel capital buffers are usable in the following manner:
- banks operating in the buffer range would not be deemed to be in breach of their minimum regulatory capital requirements as a result of using their buffers;
- banks that draw down on their buffers will be subject to the automatic distribution restriction mechanism set out in the Basel III framework; and
- supervisors have the discretion to impose time limits on banks operating within the buffer range, but should ensure that the capital plans of banks seek to rebuild buffers over an appropriate timeframe.