Basel III Leverage Ratio Framework: Basel Committee Publishes Consultative Document Proposing Changes to Exposure Measure and Disclosure Requirements

Sullivan & Cromwell LLP - June 27, 2013

On June 26, 2013, the Basel Committee on Banking Supervision (the “Basel Committee”) published for comment a consultative document (the “Proposal”) which proposes significant revisions to the leverage ratio as presented in the original Basel III framework initially adopted in December 2010 and revised in June 2011 (the “Original Basel III Framework”). In particular, the Basel Committee is proposing modifications to the denominator of the leverage ratio (defined in the Proposal as the “Exposure Measure”) that for many banks will increase its amount. Changes to the Exposure Measure include:

  • specification of a broad scope of consolidation for the inclusion of exposures;
  • clarification of the general treatment of derivatives and related collateral;
  • enhanced treatment of “written credit derivatives”, which is the Proposal’s term for a credit derivative (that is, a credit default swap or total return swap) viewed from the perspective of the seller as opposed to the buyer of credit protection; and
  • enhanced treatment of Securities Financing Transactions (“SFTs”).

The Original Basel III Framework provided a transition period for the leverage ratio commencing on January 1, 2011, and specified that the Basel Committee would use the transition period to assess both whether the initial 3% calibration “is appropriate over a full credit cycle and for different types of business models” and whether “a wider definition of exposures and an offsetting adjustment in the calibration” would better achieve the objectives of the leverage ratio. The Proposal appears to expand significantly the Exposure Measure  ?  particularly the provisions dealing with credit derivatives and SFTs  ?  without any suggestion that any change in the 3% calibration would be “offsetting”. To the contrary, the Proposal states that the Basel Committee “will continue to test a minimum requirement of 3% for the leverage ratio” during the period ending January 1, 2017, leaving unanswered the question of whether any recalibration would be an increase or a decrease. In addition, the Proposal also indicates that the Basel Committee “will also continue to collect data during the transition period to track the impact of using total regulatory capital or Common Equity Tier 1 as the [numerator of the leverage ratio]”.

Consistent with the Original Basel III Framework, banks must publicly disclose their Basel III leverage ratio starting January 1, 2015. The Proposal substantially expands on the Original Basel III Framework’s leverage disclosure provisions by outlining particular public disclosure requirements, including completion of a summary comparison table, a common disclosure template, and a reconciliation requirement, as well as other disclosures.

Comments on the Proposal are due by September 20, 2013.