Bank Capital Requirements: Basel Committee Releases Second Consultative Document on Revisions to the Standardized Approach for Credit Risk

Sullivan & Cromwell LLP - December 31, 2015

The Basel Committee recently published a second consultative paper on proposed “Revisions to the Standardised Approach for Credit Risk” (the “Second Consultative Document”) that would substantially revise certain aspects of the Basel II standardized approach for risk-weighting credit exposures (the “Standardized Approach”).
The Second Consultative Document incorporates a number of changes from the Basel Committee’s first proposal (the “First Consultation”) from December 2014 to address the concerns expressed by commenters, including a number of changes in response to comments from U.S. banking organizations and trade associations.  Notably, the Second Consultative Document would revise:  (i) the risk-weighting methodologies for bank and corporate exposures; (ii) the risk-weighting methodologies for real estate exposures (commercial and residential real estate) to introduce risk-sensitivity based on whether the repayment of the exposure is dependent on cash flows generated by the property and the exposure’s loan-to-value (“LTV”) ratio; (iii) the treatment of off-balance sheet commitments; and (iv) the credit risk mitigation framework, to remove options for banking organizations to use internal models or estimates for estimating haircuts of credit risk mitigants.
In connection with its finalization of the proposed revisions to the Standardized Approach, the Basel Committee will conduct a quantitative impact study (“QIS”) using data as of December 31, 2015 to assist with the calibration of the risk weighting for each of the affected exposure classes.  The Basel Committee has not indicated whether it will seek additional comments on these calibrations once the QIS is complete.

Contemporaneously with the release of the Second Consultative Document, the U.S. Federal banking agencies released a joint statement indicating that they will “consider the Basel Committee proposals with the goal of developing a stronger and more transparent risk-based capital framework for the largest institutions,” but intend to apply any new standard “primarily to large, internationally active banking organizations and not to community banking organizations.”  It therefore remains to be seen if, when and how any revisions to the Basel Standardized approach ultimately will be adopted in the U.S., including whether such adoption would create another floor for purposes of Section 171 of the Dodd-Frank Act (the “Collins Amendment”).
Annex A provides a summary comparison of the key provisions of the currently applicable U.S. Standardized Approach, the original revisions in the First Consultation and the proposed changes from the Second Consultative Document.
Comments on the Second Consultative Document are due by March 11, 2016.