04 March 2015

BIS: Andreas Dombret: Regulatory reform in Europe - mission accomplished?

Speech by Dr Andreas Dombret, Member of the Executive Board of the Deutsche Bundesbank, at the Institute of International Bankers (IIB) Annual Conference, Washington DC, 2 March 2015.

"One of the main lessons from the financial crisis was that the rules of the banking system were insufficient. We saw excessive risk-taking, insufficient loss absorbing capacities and banks that were "too big to fail" - just to name some of the problems that led to the crisis. 

Over the last seven years since the collapse of Lehman Brothers, significant progress has been made on the regulatory agenda. The most important regulatory measure was the Basel III framework, which introduced stricter capital requirements and new liquidity rules. In Europe, we have done a lot of work to implement these requirements - first and foremost with the CRD IV and CRR. These rules safeguard harmonised implementation of the Basel III framework throughout all member states. 

On a side note, the latest Basel III monitoring exercise is due to be published tomorrow. I am certain it will confirm the impression that most large internationally active banks already meet the fully implemented capital requirements. I am also quite optimistic that, on average, all internationally active German banks will fulfil the Basel III requirements with regard to the CET1 ratio. We should furthermore see that German banks have significantly improved their leverage ratios. In international comparison, there is still room for further improvements, however. But still, banks' loss absorbing capacity is far better than it was prior to the financial crisis. 

When Basel III is fully implemented in 2019, regulatory capital requirements will be significantly higher and tougher than under Basel II, and I am sure that the financial system will be more stable than before. But are higher capital and liquidity requirements enough?

Certainly not. And therefore, besides the Basel III regime, many other regulatory projects have been tackled in response to the financial crisis. Let me mention three of the most current ones: regulation to solve the "too-big-to-fail" problem, regulation of sovereign exposures and efforts in regulating the shadow banking system. 

We all know that one problem of the crisis was that banks were perceived as being "too-big-to-fail". The consequence was the perception that whenever a "too-big-to-fail" bank runs into trouble, the government might be compelled to bail it out in order to prevent a financial crisis. This means that these banks were implicitly insured - contrary to all market-based economic principles. 

So, the decisive point is that banks must be able to fail without dragging the entire financial system down with them. What we need, therefore, are effective resolution mechanisms for banks. And the regulators are working on that problem. 

At the global level, the G20 have just agreed to a proposal that global systemically important banks will have to fulfil in future regarding their capital structure. In particular, these banks will need to ensure a minimum amount of total loss-absorbing capacity, TLAC for short, which may be as high as 20% including the minimum capital requirements and the G-SIB buffer. This will make global banks more resilient, and it will allow for their orderly resolution. 

Work on TLAC is making good progress. Last November, the FSB published a consultative document on TLAC. At the moment, impact assessment studies are being conducted in order to gauge the effect of TLAC on global systemically important banks. I am quite optimistic that we can finalise the requirements by the end of 2015. 

It goes without saying that the final rule must not be less stringent than what the G20 leaders agreed upon in Brisbane. We need a binding international minimum standard of at least 
16-20% of risk-weighted assets. 

At the same time, the Financial Stability Board (FSB) is working on requirements for cross-border resolution. When this framework, consisting of TLAC and cross-border resolution mechanisms, is in place, the problem of "too-big-to-fail" will be tackled effectively.

[...]

The crisis has also shown that banking supervision failed to keep pace with the increasingly international developments in the banking sector. Instead, it remained confined within national borders. In Europe, the response to this observation has been a leap in integration. 

This leap in integration is mainly characterised by the establishment of the European banking union, which will comprise of a single supervisory mechanism, a single resolution mechanism and harmonised deposit insurance. 

The single supervisory mechanism, the first pillar so far, went to work on 4 November 2014. On that date, the ECB assumed responsibility for supervising the 120 largest banks in the euro area - with the accession of Lithuania, the number of supervised banks has risen to 123. These 123 banks account for more than 85% of the aggregate balance sheet of the euro area's banking sector, making the ECB one of the biggest banking supervisors in the world."

Full speech

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