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P a g e | 1 Inter n atio na l A s s oci a t ion of R isk a nd Co mpl i a n c e Pr o f e s s io na l s ( I A RCP) 12 0 0 G St re e t N W Su i t e 8 0 0 W a s h i ng t o n, D C 2 000 5 - 67 0 5 U SA T e l : 2 0 2 - 44 9 - 9750 www .ri s k - c ompl i ance-a ss o c i a tion . c om.

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P age |1

InternationalAssociationofRiskandComplianceProfessionals(IARCP)

1200GStreet NWSuite800Washington,DC20005-6705USATel:202-449-9750www.risk-compliance-association.com

Top10riskandcompliancemanagementrelatednewsstoriesandworldeventsthat(forbetterorforworse)shapedthe week'sagenda,andwhatisnext

DearMember,

Thiswasadifficultweek.WehadsignificantamendmentstotheBaseliiiliquidityrules.Andweneeded206pagesforthisweeklynewsletter… Sorry,importantthingshappen.

1.TheLCRwillbeintroducedasplannedon1January2015,buttheminimumrequirementwillbeginat60%,rising inequalannualstepsof10percentagepointsto reach100%on1January2019.

ThisgraduatedapproachisdesignedtoensurethattheLCRcanbeintroducedwithoutdisruption totheorderlystrengtheningofbankingsystemsortheongoingfinancingofeconomic activity.

2.Duringperiodsofstressitwouldbeentirelyappropriateforbankstousetheirstockofhighqualityliquidassets(HQLA),therebyfallingbelowtheminimum.

InternationalAssociationofRiskandComplianceProfessionals(IARCP)www.risk-compliance-association.com


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Bankswillbeableto countamuchwidervarietyofliquidassetstowardstheirbuffers,includingsomeequitiesandhigh-qualitymortgage-backedsecurities.

EuropeanandAmericanbankingstockssurgedbecausetheywillincurmuchreducedcostsduetotheimplementationoftherelaxedrules.

Banksinmany othercountieswillhavenobenefit,assupervisorshavealreadyaskedforstrictliquidityrules,andtheyarenotwillingto takeitback.

Onthenegativeside,themainobjectiveofBaseliiiis to restoreinvestorconfidence.TheBaselCommitteehasdevelopedthenewframeworkasaresponsetothecrisis,andhasexplained(timeandtimeagain,everymonthsinceNovember2010)theneedforthesestrictrules.

AlthoughitistruethatBaseliiiisanoverreactiontothemarketcrisis,itiswaytoolatenow to“ease”therulesandmake(clever)investorshappy thesametime.

Thisissimplyaredflagformanyinvestors,leadingtotheconclusionthatbankscouldnotcomplywiththerules.

IagreewiththeLiquidityCoverageratio(LCR)Baseliiiamendment,butIcannotagreewiththewayitwaspresented.

Welcome totheTop10list.

InternationalAssociationofRiskandComplianceProfessionals(IARCP)www.risk-compliance-association.com


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BaselIII-GroupofGovernorsandHeadsofSupervisionendorsesrevisedliquiditystandardforbanks

TheGroupofGovernorsandHeadsofSupervision(GHOS),theoversightbodyoftheBaselCommitteeonBankingSupervision,met todaytoconsidertheBaselCommittee'samendmentstotheLiquidityCoverageRatio(LCR)asaminimumstandard.

Itunanimouslyendorsedthem.

CommissionerMichelBarnier

TheimpactofthelatestBaselCommitteeliquiditydevelopmentsforCapitalRequirements(CRD4)intheEU

InthelightoftheGroupofGovernorsandHeadsofSupervisionmeetingandtheBaselCommitteeonBankingSupervisionpressreleasedated6January2013

BaselIII:TheLiquidity

CoverageRatioandliquidityriskmonitoringtools,January2013

InternationalAssociationofRiskandComplianceProfessionals(IARCP)www.risk-compliance-association.com


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SummaryResponsesTotheCommissions’GreenPaperonShadowBanking

TheEuropeanCommission'sconsultationonshadowbankingattractedhighinterestfromstakeholders.

Thecommentsprovidedcoverabroadrangeofissuesandresponded toallthequestionsraisedby theEuropean CommissionGreenPaper.

TheCommissionreceivedin total140contributions,ofwhich24fromPublicAuthorities;47fromregisteredorganisations;and,64fromindividualorganisations.

EuropeanUnion:FinancialSectorAssessment,PreliminaryConclusionsbytheIMFStaff

AFinancialSectorAssessmentProgram(FSAP)teamledbytheMonetaryandCapitalMarketsDepartmentoftheInternationalMonetaryFund(IMF)visitedtheEuropeanUnion(EU)duringNovember27–December13,2012,toconductafirst-everoverallEU-wideassessmentofthesoundnessandstabilityoftheEU’sfinancialsector(EUFSAP).

EuropeanCybercrimeCentre(EC3)openson11January

InternationalAssociationofRiskandComplianceProfessionals(IARCP)www.risk-compliance-association.com


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Asfrom11JanuarythenewEuropean CybercrimeCentre(EC3)willbeupandrunningto helpprotectEuropean citizensandbusinessesfromcyber-crime.

EUCommissionerforHomeAffairsCeciliaMalmströmwillparticipateintheofficialopeningoftheCentreestablishedattheEuropeanPoliceOffice,EuropolintheHague(theNetherlands).

SebastianvonDahlenandGoetzvonPeter

Naturalcatastrophesandglobalreinsurance– exploringthelinkages

Naturaldisastersresulting in significantlosseshavebecomemorefrequentinrecentdecades,

with2011beingthecostliestyearinhistory.

Thisfeatureexploreshowriskistransferredwithinandbeyondtheglobalinsurancesectorandassessesthefinanciallinkagesthatarisein theprocess.

MortenBech,ToddKeister

Ontheliquiditycoverageratio andmonetarypolicyimplementation

BaselIIIintroducesthefirstglobalframeworkforbankliquidityregulation.

Asmonetarypolicytypicallyinvolvestargetingtheinterestrateoninterbankloansofthemostliquidasset– central

InternationalAssociationofRiskandComplianceProfessionals(IARCP)www.risk-compliance-association.com


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bankreserves– itisimportanttounderstandhow thisnewrequirementwillimpacttheefficacyofcurrentoperationalframeworks.

EIOPA–RiskDashboard

Sovereignrisk–aworldwithout risk-freeassets

PanelcommentsbyMrPatrickHonohan,GovernoroftheCentralBankofIreland,attheBISConferenceon“Sovereignrisk–a worldwithoutrisk-freeassets”,Basel,8January2013.

What’snewaboutsovereignrisk sincethecrisisbegan?

Conceptually,notsomuch,Iwouldsuggest–andnothingthatcannotbefullyexplainedwithinstandardmodelsoffinance.

InternationalAssociationofRiskandComplianceProfessionals(IARCP)www.risk-compliance-association.com


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BaselIII-GroupofGovernorsandHeadsofSupervisionendorsesrevisedliquiditystandardforbanks

6January2013

TheGroupofGovernorsandHeadsofSupervision(GHOS),the oversightbodyoftheBaselCommitteeonBankingSupervision,mettoday to considertheBaselCommittee's

amendmentstotheLiquidityCoverageRatio(LCR)asaminimum standard.

Itunanimouslyendorsedthem.

Today'sagreementisaclearcommitmenttoensurethatbanksholdsufficientliquidassets topreventcentralbanksbecomingthe"lenderoffirstresort".

TheGHOSalsoendorsedanewCharterfortheCommittee,and discussedtheCommittee'smedium-termworkagenda.

TheGHOSreaffirmedtheLCRasanessentialcomponentoftheBaselIIIreforms.

ItendorsedapackageofamendmentstotheformulationoftheLCRannouncedin2010.

Thepackagehasfourelements:

Revisionstothedefinitionofhighqualityliquidassets(HQLA)andnetcashoutflows

Atimetableforphase-inofthestandard

InternationalAssociationofRiskandComplianceProfessionals(IARCP)www.risk-compliance-association.com


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Areaffirmationoftheusabilityofthestockofliquidassetsinperiodsofstress,includingduringthetransitionperiod

AnagreementfortheBaselCommittee to conductfurtherworkontheinteractionbetweentheLCRandtheprovisionofcentralbankfacilities.

AsummarydescriptionoftheagreedLCRisinAnnex1.

ThechangestothedefinitionoftheLCR,developedandagreedbytheBaselCommitteeoverthepasttwoyears,includeanexpansionintherangeofassetseligibleasHQLAandsomerefinements totheassumedinflow andoutflow ratestobetterreflectactualexperienceintimesofstress.

ThesechangesaresetoutinAnnex2.

TheGHOSagreedthattheLCRshouldbesubject tophase-inarrangementswhichalignwiththosethatapply to theBaselIIIcapitaladequacyrequirements.

Specifically,theLCRwillbeintroducedasplannedon1January2015,buttheminimumrequirementwillbeginat60%,risinginequalannualstepsof10percentagepointstoreach100%on1January2019.

ThisgraduatedapproachisdesignedtoensurethattheLCRcanbeintroducedwithoutdisruption totheorderlystrengtheningofbankingsystemsortheongoingfinancingofeconomic activity.

TheGHOSagreedthat,duringperiodsofstressitwouldbeentirelyappropriateforbanks to usetheirstockofHQLA,therebyfallingbelowtheminimum.

Moreover,itistheresponsibilityofbanksupervisorstogiveguidanceonusabilityaccordingtocircumstances.

TheGHOSalsoagreedtodaythat,sincedepositswithcentralbanksarethemost- indeed, insome cases,theonly-reliableformofliquidity,the

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interactionbetweentheLCRandtheprovisionofcentralbankfacilitiesiscriticallyimportant.

TheCommitteewillthereforecontinuetoworkonthisissueoverthenext year.

GHOSmembersendorsedtwo otherareasoffurtheranalysis.

First,theCommitteewillcontinuetodevelopdisclosurerequirementsforbankliquidityandfundingprofiles.

Second,theCommitteewillcontinue toexploretheuseofmarket-basedindicatorsofliquiditytosupplementtheexistingmeasuresbasedonassetclassesandcreditratings.

TheGHOSdiscussedandendorsedtheBaselCommittee'smedium-termworkagenda.

FollowingthesuccessfulagreementoftheLCR,theCommitteewillnowpressaheadwiththereviewoftheNetStable FundingRatio.

Thisisacrucialcomponentinthenewframework,extendingthescopeofinternationalagreement tothestructureofbanks'debtliabilities.

ThiswillbeapriorityfortheBaselCommitteeoverthenexttwoyears.

Overthenextfewyears,theBaselCommitteewillalso:

Completethe overhaulofthepolicy frameworkcurrentlyunderway

Continue to strengthenthepeerreviewprogrammeestablishedin2012tomonitortheimplementationofreformsin individualjurisdictions

Monitortheimpactof,andindustryresponseto,recentandproposedregulatoryreforms.

During2012theCommitteehasbeenexaminingthecomparabilityofmodel-basedinternalrisk weightingsandconsideringtheappropriate

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balancebetweenthesimplicity,comparabilityandrisk sensitivityoftheregulatoryframework.

TheGHOSencouragedcontinuationofthisworkin2013asamatterof priority.

Furthermore,theGHOSsupportedtheCommittee'sintentiontopromoteeffectivemacro-andmicroprudentialsupervision.

TheGHOSalsoendorsedanewCharterfortheBaselCommittee.

ThenewChartersetsouttheCommittee'sobjectivesandkeyoperatingmodalities,andisdesignedtoimproveunderstandingoftheCommittee'sactivitiesanddecision-makingprocesses.

Finally,theGHOSreiteratedtheimportanceoffull,timelyandconsistentimplementationofBaselIIIstandards.

MervynKing,ChairmanoftheGHOSandGovernoroftheBankofEngland,said,

"TheLiquidityCoverageRatioisakeycomponentoftheBaselIIIframework.

Theagreementreachedtodayisaverysignificant achievement.

Forthefirsttimeinregulatoryhistory,wehaveatrulyglobalminimum standardforbankliquidity.

Importantly,introducingaphasedtimetablefortheintroductionoftheLCR,andreaffirmingthatabank'sstockofliquidassetsareusableintimesofstress,willensurethatthenewliquiditystandardwill innowayhindertheabilityoftheglobalbankingsystemtofinancearecovery."

StefanIngves,ChairmanoftheBaselCommitteeandGovernoroftheSverigesRiksbank,noted:

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"TheamendmentstotheLCRaredesignedtoensurethatitprovidesasoundminimumstandardforbankliquidity -astandardthatreflectsactualexperienceduringtimesofstress.

Thecompletionofthisworkwillallow theBaselCommitteeto turnitsattentiontorefiningtheothercomponentofthenewgloballiquiditystandards,theNetStableFundingRatio,whichremainssubjecttoanobservationperiodaheadofitsimplementationin 2018."

Annex1

SummarydescriptionoftheLCR

Topromoteshort-termresilienceofabank’sliquidityrisk profile,theBaselCommitteedevelopedtheLiquidityCoverageRatio(LCR).

Thisstandardaimstoensurethatabankhas anadequatestock of unencumberedhighqualityliquidassets(HQLA)whichconsistsofcashorassetsthatcanbeconvertedintocashatlittleornolossofvalueinprivatemarketstomeetitsliquidityneedsfora30calendardayliquiditystressscenario.

TheLCRhastwo components:

ThevalueofthestockofHQLA

Total netcashoutflowsandisexpressedas:

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High QualityLiquidAssets

ThenumeratoroftheLCRisthestockofHQLA.

Underthestandard,banksmustholdastockofunencumberedHQLAtocoverthetotal netcashoutflowsovera30-dayperiodundertheprescribedstressscenario.

In ordertoqualifyas HQLA,assetsshouldbeliquidinmarketsduringatimeofstressand,inmostcases,beeligibleforuseincentralbankoperations.

CertaintypesofassetswithinHQLAaresubjecttoarangeofhaircuts.HQLAarecomprisedofLevel1andLevel2assets.

Level1assetsgenerallyincludecash,centralbankreserves,andcertainmarketablesecuritiesbackedbysovereignsandcentralbanks,amongothers.

Theseassetsaretypicallyofthehighestqualityandthemostliquid,andthereisnolimitontheextenttowhichabankcanholdtheseassets tomeettheLCR.

Level2assetsarecomprisedofLevel2AandLevel2Bassetsandincludecertainmarketablegovernmentsecuritiesaswellascorporatedebtsecurities,residentialmortgagebackedsecuritiesandequitiesthatmeetcertainconditions.

Level2assets(comprisingLevel2AandLevel2Bassets)aretypicallyofslightlylesserqualityandmaynotinaggregateaccountformorethan40%ofabank’sstockofHQLA.

Level2Bassetsmaynotaccountformorethan15%ofabank’stotalstockofHQLA.

InternationalAssociationofRiskandComplianceProfessionals(IARCP)www.risk-compliance-association.com


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Totalnetcashoutflows

ThedenominatoroftheLCRisthetotalnetcashoutflows.

Itisdefinedastotalexpectedcashoutflows,minus totalexpectedcashinflows,inthespecifiedstressscenarioforthesubsequent30calendardays.

Totalexpectedcash outflowsarecalculatedbymultiplyingtheoutstandingbalancesofvarious categoriesortypesofliabilitiesand

off-balancesheetcommitmentsbytheratesatwhichtheyareexpectedto

runofforbedrawndown.

Totalexpectedcashinflowsarecalculatedbymultiplyingtheoutstandingbalancesofvariouscategoriesofcontractualreceivablesbytheratesatwhichtheyareexpected to flow in.

Totalcashinflowsaresubjecttoanaggregate capof75%oftotalexpectedcashoutflows,therebyensuringaminimumlevelofHQLAholdingsatalltimes.

LiquidityCoverageRatio

Thestandardrequiresthat,absentasituationoffinancialstress,thevalueoftheratiobenolowerthan100%(iethestockofHQLAshouldatleastequaltotalnetcashoutflows).

BanksareexpectedtomeetthisrequirementcontinuouslyandholdastockofunencumberedHQLAasadefenceagainstthepotentialonsetofliquiditystress.

Duringaperiodoffinancialstress,however,banksmayusetheirstockofHQLA,therebyfalling below100%.

Important -The100%thresholdistheminimumrequirement absentaperiodoffinancialstress,andafterthephase-inarrangementsarecomplete.

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  • References to 100%maybeadjustedforanyphase-inarrangementsinforceataparticulartime.

  • Annex2

  • Completesetofagreedchanges totheLiquidityCoverageRatio

  • HIGHQUALITYLIQUIDASSETS(HQLA)

  • ExpandthedefinitionofHQLAsubjecttoahigherhaircutandlimit

  • CorporatedebtsecuritiesratedA+ to BBB– witha50%haircut

  • Certainunencumberedequitiessubjectto a50%haircut

  • Certainresidentialmortgage-backedsecuritiesratedAAorhigherwitha25%haircut

  • Aggregateofadditionalassets,afterhaircuts,subjecttoa15%limitoftheHQLA

  • RatingrequirementonqualifyingLevel2assets

  • Useoflocalratingscalesandinclusionofqualifyingcommercialpaper

  • Usabilityoftheliquiditypool

  • IncorporatelanguagerelatedtotheexpectationthatbankswillusetheirpoolofHQLAduringperiodsofstress

  • Operationalrequirements

  • RefineandclarifytheoperationalrequirementsforHQLA

  • OperationofthecaponLevel2HQLA

  • Reviseandimprovetheoperationofthe cap

InternationalAssociationofRiskandComplianceProfessionals(IARCP)www.risk-compliance-association.com


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  • Alternativeliquidasset(ALA)framework

  • Developthealternativetreatmentsandincludeafourthoptionforsharia-compliantbanks

  • Centralbankreserves

  • Clarifylanguage toconfirmthatsupervisorshavenationaldiscretiontoincludeorexcluderequiredcentralbankreserves(aswellasovernightandcertaintermdeposits)asHQLAastheyconsiderappropriate

  • INFLOWSANDOUTFLOWS

  • Insureddeposits

  • Reduceoutflow oncertainfullyinsuredretaildepositsfrom5%to3%

  • Reduceoutflow onfullyinsurednon-operationaldepositsfrom

  • non-financialcorporates,sovereigns,centralbanksandpublicsectorentities(PSEs)from40%to20%

  • Non-financialcorporatedeposits

  • Reduce theoutflowratefor“non-operational”depositsprovidedby

  • non-financialcorporates,sovereigns,centralbanksandPSEsfrom75%to40%

  • Committedliquidityfacilitiestonon-financialcorporates

  • Clarifythedefinitionofliquidityfacilitiesandreducethedrawdownrateontheunusedportionofcommittedliquidityfacilities tonon-financialcorporates,sovereigns,centralbanks andPSEsfrom100%to30%

  • Committedbutunfundedinter-financialliquidityandcreditfacilities

  • Distinguishbetweeninterbankandinter-financialcreditandliquidityfacilitiesandreducetheoutflowrateontheformerfrom100%to 40%Derivatives

InternationalAssociationofRiskandComplianceProfessionals(IARCP)www.risk-compliance-association.com


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  • AdditionalderivativesrisksincludedintheLCRwitha100%outflow(relates to collateralsubstitution,andexcesscollateralthatthebankiscontractuallyobligatedto return/provideifrequiredbyacounterparty)

  • Introduceastandardisedapproachforliquidityriskrelated to marketvaluechangesinderivativespositions

  • Assumenetoutflow of0%forderivatives (andcommitments)thatarecontractuallysecured/collateralisedbyHQLA

  • Tradefinance

  • Includeguidancetoindicatethatalowoutflow rate(0–5%)isexpectedtoapply

  • Equivalenceofcentralbankoperations

  • Reduce theoutflowrateonmaturingsecuredfundingtransactionswithcentralbanksfrom25%to0%

  • Clientservicingbrokerage

  • Clarifythetreatmentofactivitiesrelated to clientservicingbrokerage(whichgenerallylead to anincreaseinnetoutflows)

  • OTHER

  • Rulestextclarifications

  • ClearerguidanceontheusabilityofHQLA,andtheappropriatesupervisoryresponse,hasbeendeveloped to ensurethatthestockofliquidassetsisavailable tobeusedwhenneeded

  • Anumberofclarificationstotherulestexttopromoteconsistentapplicationandreducearbitrageopportunities(egoperationaldepositsfromwholesaleclients,derivativescashflows,openmaturityloans).AlsoincorporationofpreviouslyagreedFAQ

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Internationallyagreedphase-inoftheLCR

-TheminimumLCRin2015wouldbe60%andincreaseby10percentagepointsperyeartoreach100%in2019

InternationalAssociationofRiskandComplianceProfessionals(IARCP)www.risk-compliance-association.com


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  • BaselCommittee onBankingSupervision(BCBS)CharterJanuary2013

  • Purposeandrole

    • Mandate

  • TheBCBSistheprimaryglobalstandard-setterfortheprudentialregulationofbanksandprovidesaforumforcooperationonbankingsupervisorymatters.

  • Itsmandateis to strengthentheregulation,supervisionandpracticesof banksworldwidewiththepurposeofenhancingfinancialstability.

    • Activities

  • TheBCBSseeksto achieveitsmandatethroughthefollowingactivities:

  • Exchanginginformationondevelopmentsinthebankingsectorandfinancialmarkets,tohelpidentifycurrentoremergingrisksfortheglobalfinancialsystem;

  • Sharingsupervisoryissues,approachesand techniquestopromotecommonunderstandingandtoimprovecross-bordercooperation;

  • Establishingandpromotingglobalstandardsfortheregulationandsupervisionofbanksaswellasguidelinesandsoundpractices;

  • Addressingregulatoryandsupervisorygapsthatposerisks tofinancialstability;

  • MonitoringtheimplementationofBCBSstandardsinmembercountriesandbeyondwiththepurposeofensuringtheirtimely,consistentandeffectiveimplementationandcontributingto a"levelplayingfield"amonginternationally-activebanks;

  • ConsultingwithcentralbanksandbanksupervisoryauthoritieswhicharenotmembersoftheBCBStobenefitfromtheirinputintotheBCBSpolicy formulationprocessandtopromotetheimplementationofBCBS

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standards,guidelinesandsoundpracticesbeyondBCBSmembercountries;and

(g)Coordinatingandcooperatingwithotherfinancialsectorstandardsettersandinternationalbodies,particularlythoseinvolvedinpromotingfinancialstability.

3.Legalstatus

TheBCBSdoesnotpossessanyformalsupranationalauthority.Itsdecisionsdonothavelegalforce.

Rather,theBCBSreliesonitsmembers'commitments,asdescribedinSection5,to achieveitsmandate.

II.Membership

BCBSmembers

BCBSmembersincludeorganisationswithdirectbankingsupervisoryauthorityandcentralbanks.

AfterconsultingtheCommittee,theBCBSChairmanmayinvite otherorganisationstobecomeBCBSobservers.

BCBSmembershipandobserverstatuswillbereviewedperiodically.

Inacceptingnewmembers,dueregardwillbegiventotheimportanceoftheirnationalbankingsectorstointernationalfinancialstability.

TheCommitteewillmakerecommendationstoitsoversightbody,theGroupofGovernorsandHeadsofSupervision,forchangesinBCBSmembership.

TheSecretariatwillpublishthelistofBCBSmembersandobserversonitswebsite.

BCBSmembers'responsibilities

BCBSmembersarecommittedto:

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WorktogethertoachievethemandateoftheBCBS;

Promotefinancialstability;

Continuouslyenhancetheirqualityofbankingregulationandsupervision;

ActivelycontributetothedevelopmentofBCBSstandards,guidelinesandsoundpractices;

ImplementandapplyBCBSstandardsintheirdomesticjurisdictions2withinthepre-definedtimeframeestablishedbytheCommittee;

UndergoandparticipateinBCBSreviewstoassesstheconsistencyandeffectivenessofdomesticrulesandsupervisorypracticesinrelationtoBCBSstandards;and

Promotetheinterestsofglobalfinancialstabilityandnotsolelynationalinterests,whileparticipatinginBCBSworkand

decision-making.

III.Oversight

6.TheGroupofGovernorsandHeadsofSupervision(GHOS)

TheGHOSistheoversightbodyoftheBCBS.

TheBCBSreportstotheGHOSandseeks itsendorsementformajordecisions.

In addition,theBCBSlooks totheGHOSto:

ApprovetheBCBSCharterandanyamendmentstothisdocument;

ProvidegeneraldirectionfortheBCBSworkprogramme

AppointtheBCBSChairmanfromamongitsmembers.

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IftheBCBSChairmanceasestobeaGHOSmemberbeforetheendof his/herterm,theGHOSwillappointanewChairman.

UntilanewChairmanhasbeenappointed,theSecretaryGeneralassumestheChairman'sfunctions.

IV.Organisation

7.Structure

TheinternalorganisationalstructureoftheBCBScomprises:

TheCommittee

Groups,workinggroupsandtaskforces

TheChairman

TheSecretariat

8.TheCommittee

TheCommitteeistheultimatedecision-makingbodyoftheBCBSwithresponsibilityforensuringthatitsmandateis achieved.

8.1Responsibilities

TheCommitteeisresponsiblefor:

Developing,guidingandmonitoringtheBCBSworkprogrammewithinthegeneraldirectionprovidedbyGHOS;

EstablishingandpromotingBCBSstandards,guidelinesandsound practices;

Establishinganddisbandinggroups,workinggroupsandtaskforces;approvingandmodifyingtheirmandates;andmonitoringtheirprogress;

(e)RecommendingtotheGHOSamendmentstotheBCBSCharter;and

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  • (f)Decidingontheorganisationalregulationsgoverningitsactivities.

    • NumberofCommitteemeetings

  • TheCommitteegenerallymeetsfourtimeseveryyear.

  • However,theChairmancandecidetoholdadditionalmeetingsasnecessary.

    • RepresentationatCommittee meetings

  • TheChairmanpresidesoverCommitteemeetings.

  • AllBCBSmembersandobserversareentitled to appointonerepresentativetoattendCommitteemeetings.

  • BCBSrepresentativesshouldbeseniorofficialsoftheirorganisationsandshouldhavetheauthority to committheir institutions.

  • RepresentationatCommitteemeetingsisexpected tobe,forexample,atthelevelofheadofbankingsupervision, headofbankingpolicy/regulation,centralbankdeputygovernor,headoffinancialstabilitydepartmentorequivalent.

    • Decisions

  • DecisionsbytheCommitteearetakenbyconsensusamongitsmembers.

    • Communicationofdecisions

  • CommitteedecisionsofpublicinterestshallbecommunicatedthroughtheBCBSwebsite.

  • TheCommitteeshallissue,whenappropriate,pressstatements tocommunicateitsdecisions.

  • 9.Groups,workinggroupsandtaskforces

  • TheBCBS'sworkislargelyorganisedaroundgroups,workinggroupsandtaskforces.

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  • TheSecretariatwillmakepubliclyavailablethelistofBCBSgroupsandworkinggroups.

    • Groups

  • BCBSgroupsreportdirectly totheCommittee.

  • TheyarecomposedofseniorstafffromBCBSmembersthatguideorundertakethemselvesmajorareasofCommitteework.BCBSgroupsformpartofthepermanentinternalstructureoftheBCBSandthusoperatewithoutaspecific deliverableorenddate.

    • Workinggroups

  • WorkinggroupsconsistofexpertsfromBCBSmembersthatsupportthetechnicalworkofBCBSgroups.

    • Taskforces

  • Taskforces arecreatedtoundertakespecifictasksforalimitedtime.

  • ThesearegenerallycomposedoftechnicalexpertsfromBCBSmemberinstitutions.

  • However,whenthesegroupingsarecreatedbytheCommittee,theyconsistofBCBSrepresentativesanddealwithspecificissuesthatrequirepromptattentionoftheCommittee.In suchcases,theyarecalled

  • high-leveltask forces.

  • Chairman

  • TheChairmandirectstheworkoftheCommitteeinaccordancewiththeBCBSmandate.

    • Appointment

  • TheChairmanisappointedbytheGHOSforatermofthreeyearsthatcan berenewedonce.

    • Responsibilities

  • TheChairman'smainresponsibilitiesareto:

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Conveneandchair Committeemeetings.

IftheChairmanisunabletoattendaCommitteemeeting,heorshe can designatetheSecretaryGeneralto chairthemeetingonhis/herbehalf;

MonitortheprogressoftheBCBSworkprogrammeandprovideoperationalguidancebetweenmeetingstocarryforwardthedecisionsanddirectionsoftheCommittee;

Report to theGHOSwhenappropriate;and

RepresenttheBCBSexternallyandbetheprincipalspokespersonfortheBCBS.

11.TheSecretariat

TheSecretariatisprovidedbytheBankforInternationalSettlements(BIS)andsupportstheworkoftheCommittee,theChairmanandthegroupsaroundwhichtheCommitteeorganisesitswork.

TheSecretariatisstaffedmainlybyprofessionalstaff,mostlyontemporarysecondmentfromBCBSmembers.

11.1Responsibilities

TheSecretariat'smainresponsibilitiesareto:

ProvidesupportandassistancetotheCommittee,theChairman,groups,workinggroupsandtaskforces;

EnsuretimelyandeffectiveinformationflowtoallBCBSmembers;

Facilitatecoordinationacrossgroups,workinggroupsandtaskforces;

FacilitateaclosecontactbetweenBCBSmembersandnon-memberauthorities;

SupportthecooperationbetweentheBCBSand otherinstitutions;

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  • MaintaintheBCBSrecords,administertheBCBSwebsiteanddealwithcorrespondenceoftheBCBS;and

  • Carry outallotherfunctionsthatareassignedbytheCommitteeandtheChairman.

    • SecretaryGeneral

  • TheSecretaryGeneralreportstotheChairmananddirectstheworkoftheSecretariat.

  • TheSecretaryGeneralmanagesthefinancial,materialandhumanresourcesallocatedtotheSecretariat.

  • He/shealsoassiststheChairmaninrepresentingtheCommitteeexternally.

  • TheSecretaryGeneralisselectedbytheChairmanonrecommendationofaselectionpanelcomprisingBCBSand/orGHOSmembersandaseniorrepresentativeoftheBIS.

  • The termofappointmentistypicallythreeyearswiththepotentialtobeextended.

    • DeputySecretariesGeneral

  • DeputySecretariesGeneralreport to andassisttheSecretaryGeneralindischarginghis/herduties.

  • DeputySecretariesGeneralsubstitutefortheSecretaryGeneralin caseofabsence,incapacityorasrequestedbytheSecretaryGeneral.

  • DeputySecretariesGeneralareselectedbytheSecretaryGeneralinconjunctionwiththeChairman.

    • LocationoftheSecretariat

  • TheSecretariatislocatedattheBISinBasel.

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V.BCBSstandards,guidelinesandsoundpractices

Standards

TheBCBSsetsstandardsfortheprudentialregulationandsupervisionof banks.

TheBCBSexpectsfullimplementationofitsstandardsbyBCBSmembersandtheirinternationallyactivebanks.

However,BCBSstandardsconstituteminimumrequirementsandBCBSmembersmaydecide to gobeyondthem.

TheCommitteeexpectsstandardstobeincorporatedintolocallegalframeworksthrougheachjurisdiction'srule-makingprocesswithinthepre-definedtimeframeestablishedbytheCommittee.

Ifdeviationfromliteraltranspositionintolocallegalframeworksisunavoidable,membersshouldseekthegreatestpossibleequivalenceofstandardsandtheiroutcome.

Guidelines

Guidelineselaboratethestandardsinareaswheretheyareconsidered desirablefortheprudentialregulationandsupervisionofbanks, inparticularinternationalactivebanks.

TheygenerallysupplementBCBSstandardsbyprovidingadditionalguidanceforthepurposeoftheirimplementation.

Soundpractices

Soundpracticesgenerallydescribeactualobservedpractices,withthegoalofpromotingcommonunderstandingandimprovingsupervisoryorbankingpractices.

BCBSmembersareencouraged to comparethesepracticeswiththoseappliedbythemselvesandtheirsupervisedinstitutionstoidentifypotentialareasforimprovement.

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  • VI.Consultationwithnon-memberauthorities

  • Consultationwithnon-memberauthorities

  • Consistentwiththeactivitiesdescribedundersection2,theBCBSiscommitted to consultingwidelyonits activitieswithnon-memberauthoritiesthroughthefollowingstructuresandmechanisms:

    • TheBaselConsultativeGroup(BCG)

  • TheBCGprovidesaforumfordeepeningtheCommittee'sengagementwithsupervisorsaroundtheworldonbankingsupervisoryissues.

  • Itfacilitatesbroad supervisorydialoguewithnon-memberauthoritieson newCommitteeinitiativesearlyintheprocessbygatheringseniorrepresentativesfromvariouscountries,internationalinstitutionsandregionalgroupsofbankingsupervisorsthatarenotmembersoftheCommittee.

    • TheInternationalConferencesofBankingSupervisors(ICBS)

  • ThebiennialICBSprovidesavenueforsupervisorsaroundtheworld todiscussissuesofcommoninterest.

    • ParticipationinBCBSgroups,workinggroupsandtaskforces

  • ByparticipatingasobserversinBCBSbodies,non-memberauthoritiescontribute to theCommittee'spolicydevelopmentwork.

    • TheFinancialStabilityInstitute(FSI)

  • TheFSIisajointinitiativeoftheBCBSandtheBIStoassistsupervisorsaroundtheworldinimplementingsoundprudentialstandards.

  • TheBCBSsupportsFSIactivities,including inparticulartheBCBS-FSIHighLevelMeetings.

  • Thesearetargetedatseniorpolicymakerswithincentralbanks andsupervisoryauthoritiesandprovideaseriesofregionalforafordistributinginformationonBCBSstandards,keepingparticipantsupdatedonCommitteework,sharingsupervisorypracticesandconcerns,andestablishingandmaintainingstrongcontacts.

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15.5Regionalgroupsofbankingsupervisors

TheBCBSsupportstheworkandactivitiesofregionalgroupsofbankingsupervisorsworldwide.

SecretariatstaffmayparticipateinmeetingsofsuchgroupstoexchangeideasandseekfeedbackonBCBSwork.

VII.Relationshipwithotherinternationalfinancialbodies

16.Internationalcooperation

TheBCBScooperateswithother internationalfinancialstandardsettersandpublicsectorbodieswiththepurposeofachievinganenhancedcoordinationofpolicydevelopmentandimplementation.

In carryingouttheirresponsibilitiestosupportthiscooperation,theChairmanandtheSecretariatwillpayparticularattentiontotheneedtocomplywiththeBCBS'sdueprocessandgovernancearrangements.

Togetherwith otherinternationalfinancialstandardsetters,theBCBSsponsors theJointForum,whereissuesofcommonconcerntothestandardsetters canbeaddressedandrecommendationsforcoordinatedaction canbedeveloped.

TheBCBSisamemberoftheFinancialStabilityBoard(FSB)and participatesintheFSB'sworktodevelop,coordinateandpromotetheimplementationofeffectiveregulatory,supervisoryand otherfinancialsectorpolicies.

VIII. Public consultation process

17.Publicconsultation processofdraftBCBSstandards,guidelinesandsoundpractices

In principle,theBCBSseeksinputfromallrelevantstakeholderson policyproposals.

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TheconsultationprocesswillincludeissuingapublicinvitationtointerestedpartiestoprovidecommentsinwritingtotheSecretariatonpolicyproposalsissuedbytheCommittee,withinaspecifiedtimeframe.

Theconsultationperiodshallnormallylast90calendardays,butcouldexceptionallybeshorterorlonger.

Asageneralrule,responses topublicinvitationsforcommentsshallbepublishedontheBCBSwebsite,unlessconfidentialtreatmentisrequestedbyrespondents.

ThisprocessiscompulsoryforBCBSstandards.

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CommissionerMichelBarnier

TheimpactofthelatestBaselCommitteeliquiditydevelopmentsforCapitalRequirements(CRD4)intheEU

InthelightoftheGroupofGovernorsandHeadsofSupervisionmeetingandtheBaselCommitteeonBankingSupervisionpressreleasedated6January2013

"IwelcometheunanimousagreementreachedbytheBaselCommitteeontherevisedliquiditycoverageratioandthegradualapproachforitsphasing-inbyclearlydefineddates.

ThisissignificantprogresswhichaddressesissuesalreadyraisedbytheEuropeanCommission.

Wenowneedtomake fulluseoftheobservationperiod,andlearnfromthereportsthattheEuropeanBankingAuthoritywillprepareontheresultsoftheobservationperiod,beforeformallyimplementing in 2015theliquiditycoverageratiounderEUlawin linewiththeBaselstandards.

Thetreatmentofliquidityisfundamental, bothforthestabilityofbanksaswellasfortheirrolein supportingwidereconomicrecovery.

Inow callupontheParliamentandtheCounciltosuccessfullyconcludetheCRD4triloguenegotiationsinthecomingweeks."

Context

TheBaselCommitteeonBankingSupervision(BCBS)hasagreedapackageofLCR(liquiditycoverageratio)revisionsunanimouslyaswellasits2013workplan.

TheLCRrevisionsincludeanexpansionofeligibleassets,alessseverecalibrationforcertaincashflowsandaphasing-inarrangementfromJanuary2015to2019.

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ThecurrentCommissionapproachtoliquidityintheCRD4negotiations,namelyfirstareportingperiodfollowedbycomprehensiveEuropeanBankingAuthority(EBA)Reportsandsubsequentlyadelegatedactby theCommissiontodefinethedetailedratioremainsfullyvalid.

Backgroundinformation

TheCommission'sapproachtoliquidityinCRD4stillremainsvalidinthelightofthelatestBasel Committeeapprovaloftherevisionofanumberofparametersandcalibrationsonliquidity(GHOSmeetingof6January).

In theBaselCommittee,theEuropeanCentralBank,theEuropeanCommissionandvariouscountriesincludingfromtheEUhadarguedforsucharevision.

AttheleveloftheBaselCommittee,thefinalpackageofLCRrevisionswillnow besubjecttoanobservationperiodwithaQuantitativeImpactStudy(QIS)thatwilltakeplacein 2013 togetherwithsomeotherimportantworkthatstillneedstobecompletedinthecomingyear.

TheEUneedstotake fullbenefitofthisobservationperiodandlearnfromit,asthisisthefirsttimeinhistorythatregulatorsaredefininggloballyharmonized,quantitativeliquiditystandards.

TheEBAwillmakereportsontheresultsoftheobservationperiodforEUbanksbeforetheendof2013.

Basedontheevaluationofthiswork,theCommissionwillproposedefiningthedetailedLCRthroughadelegated act(i.e.legislationadoptedbytheCommissionprovidednoobjectionsareraisedbytheEPandtheCouncil).

Nevertheless,importantworkstillremains tobecompletedattheglobalandEuropeanlevels.

Thisincludesthedeterminationofalternative,market-basedindicatorsforthedefinitionofHighQualityLiquidAssets(HQLA);thetreatmentofCentralBankfacilitieswhichcouldimpactuponthedefinitionofHQLAandrelatedcashflows;andthetreatmentofmarketvaluationchangesonderivativecashflows.

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Inthislight,thebestcoursecontinuestoberapidadoptionoftheCRD4packagewhileleavingthenecessaryflexibilitytoimplementthefinaldetailed LCRstandardthroughadelegatedact,taking intoaccounttheon-goingworkbyBaselandthecomprehensiveEBAreports.

Subjecttothisapproach,the textsonthetablenow oftheEuropeanParliamentandCouncilshouldbeadoptedshortly,hopefullyin thecoming weeks.

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BaselIII:TheLiquidity CoverageRatioandliquidityriskmonitoringtools,January2013

Introduction

ThisdocumentpresentsoneoftheBaselCommittee’s keyreformstodevelopamoreresilientbankingsector:theLiquidityCoverageRatio(LCR).

The objectiveoftheLCRistopromotethe

short-termresilienceoftheliquidityriskprofileofbanks.

Itdoes thisbyensuringthatbankshaveanadequatestock ofunencumberedhigh-qualityliquidassets(HQLA)that canbeconverted easilyandimmediatelyinprivatemarketsintocashtomeettheirliquidityneedsfora30calendardayliquiditystressscenario.

TheLCRwillimprovethebankingsector’sabilitytoabsorbshocksarisingfromfinancialandeconomicstress,whateverthesource,thusreducingtherisk ofspilloverfromthefinancialsectortotherealeconomy.

ThisdocumentsetsouttheLCRstandardandtimelinesforitsimplementation.

Duringtheearly“liquidityphase”ofthefinancialcrisisthatbeganin2007,manybanks–despiteadequate capitallevels– stillexperienceddifficultiesbecausetheydidnotmanagetheirliquidityinaprudentmanner.

Thecrisisdrovehometheimportanceofliquiditytotheproperfunctioningoffinancialmarketsandthebankingsector.

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Priortothecrisis,assetmarketswerebuoyantandfundingwasreadilyavailableatlow cost.

Therapidreversal inmarketconditionsillustratedhowquicklyliquiditycanevaporate,andthatilliquiditycanlastforanextendedperiodoftime.

Thebankingsystemcameunderseverestress,whichnecessitatedcentralbankactiontosupportboththefunctioningofmoneymarketsand, insomecases,individualinstitutions.

Thedifficultiesexperiencedbysomebanks wereduetolapsesinbasicprinciplesofliquidityrisk management.

In response,asthefoundationofitsliquidityframework,theCommitteein2008publishedPrinciplesforSoundLiquidityRiskManagementandSupervision(“SoundPrinciples”).

TheSoundPrinciplesprovidedetailedguidanceontheriskmanagementandsupervisionoffundingliquidityriskandshouldhelppromotebetterriskmanagementinthiscriticalarea,butonlyifthereisfullimplementationbybanksandsupervisors.

Assuch,theCommitteewillcontinuetomonitortheimplementationbysupervisorstoensurethatbanks adheretothesefundamentalprinciples.

Tocomplementtheseprinciples,theCommitteehasfurtherstrengtheneditsliquidityframeworkbydevelopingtwo minimum standardsforfundingliquidity.

Thesestandardshavebeendeveloped toachievetwo separatebutcomplementaryobjectives.

Thefirstobjectiveistopromoteshort-termresilienceofabank’sliquidityriskprofilebyensuringthatithassufficientHQLAtosurviveasignificantstressscenariolastingforonemonth.

TheCommitteedevelopedtheLCRtoachievethisobjective.

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Thesecondobjectiveis topromoteresilienceoveralongertimehorizon bycreatingadditionalincentivesforbanks to fundtheiractivitieswithmorestablesourcesoffundingonanongoing basis.

TheNetStableFundingRatio(NSFR),whichisnotcoveredbythisdocument,supplementstheLCRandhasatimehorizonofoneyear.

Ithasbeendevelopedtoprovideasustainablematuritystructureofassetsandliabilities.

Thesetwo standardsarecomprisedmainlyofspecificparameterswhichareinternationally“harmonised”withprescribedvalues.

Certainparameters,however,containelementsofnationaldiscretiontoreflectjurisdiction-specificconditions.

In thesecases,theparametersshouldbetransparentandclearly outlinedintheregulationsofeachjurisdictiontoprovideclaritybothwithinthejurisdictionandinternationally.

ItshouldbestressedthattheLCRstandardestablishesaminimumlevelofliquidityforinternationallyactivebanks.

BanksareexpectedtomeetthisstandardaswellasadheretotheSoundPrinciples.

ConsistentwiththeCommittee’s capitaladequacystandards,nationalauthoritiesmayrequirehigherminimumlevelsofliquidity.

In particular,supervisorsshouldbemindfulthattheassumptionswithintheLCRmaynot captureallmarketconditionsorallperiodsofstress.

Supervisorsarethereforefreetorequireadditionallevelsofliquiditytobeheld,iftheydeemtheLCRdoesnotadequatelyreflecttheliquidityrisksthattheirbanks face.

GiventhattheLCRis,onitsown, insufficienttomeasurealldimensionsofabank’sliquidityprofile,theCommitteehasalso

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developedasetofmonitoringtoolstofurtherstrengthenandpromoteglobalconsistencyinliquidityrisk supervision.

ThesetoolsaresupplementarytotheLCRandaretobeusedforongoingmonitoringoftheliquidityriskexposuresofbanks,andincommunicatingtheseexposuresamonghomeandhostsupervisors.

TheCommitteeisintroducingphase-inarrangementstoimplement theLCRtohelp ensurethatthebankingsectorcanmeetthestandardthroughreasonablemeasures,whilestillsupportinglendingto theeconomy.

TheCommitteeremainsfirmlyoftheviewthattheLCRisanessentialcomponentofthesetofreformsintroducedbyBaselIIIand,whenimplemented,willhelpdeliveramorerobustandresilientbankingsystem.

However,theCommitteehasalsobeenmindfuloftheimplicationsofthestandardforfinancialmarkets,creditextensionandeconomicgrowth,andofintroducingtheLCRatatimeofongoingstrainsinsomebankingsystems.

Ithas thereforedecidedtoprovideforaphasedintroductionoftheLCR,inamannersimilartothatoftheBaselIIIcapitaladequacyrequirements.

Specifically,theLCRwillbeintroducedasplannedon1January2015,buttheminimumrequirementwillbesetat60%andriseinequalannualstepstoreach100%on1January2019.

Thisgraduatedapproach,coupledwiththerevisionsmade tothe2010publicationoftheliquiditystandards,aredesigned to ensurethattheLCR canbeintroducedwithoutmaterialdisruptiontotheorderlystrengtheningofbankingsystemsortheongoingfinancingofeconomicactivity.

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  • TheCommitteealsoreaffirmsitsviewthat,duringperiodsofstress,itwouldbeentirelyappropriateforbankstousetheirstock ofHQLA,therebyfallingbelow theminimum.

  • Supervisorswillsubsequentlyassessthissituationandwillgiveguidanceonusability accordingto circumstances.

  • Furthermore,individualcountriesthatarereceivingfinancialsupportformacroeconomicandstructuralreformpurposesmaychooseadifferentimplementationschedulefortheirnationalbankingsystems,consistentwiththedesignoftheirbroadereconomicrestructuringprogramme.

  • TheCommitteeiscurrentlyreviewingtheNSFR,whichcontinues tobesubject to anobservationperiodandremainssubjecttoreview toaddressanyunintendedconsequences.

  • ItremainstheCommittee’sintentionthattheNSFR,includinganyrevisions,willbecomeaminimumstandardby1January2018.

  • Thisdocumentisorganisedasfollows:

    • Part1definestheLCRfor internationallyactivebanksanddealswithapplicationissues.

    • Part2presentsasetofmonitoringtoolstobeusedbybanksandsupervisorsintheirmonitoringofliquidityrisks.

  • Part1:TheLiquidityCoverageRatio

  • TheCommitteehasdevelopedtheLCR topromotetheshort-termresilienceoftheliquidityriskprofileofbanksbyensuringthattheyhavesufficientHQLAtosurviveasignificantstressscenariolasting30calendardays.

  • TheLCRshouldbeakeycomponentofthesupervisoryapproach toliquidityrisk,butmustbesupplementedbydetailedsupervisoryassessmentsofotheraspectsofthebank’sliquidityriskmanagement

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frameworkinlinewiththeSoundPrinciples,theuseofthemonitoringtoolsincludedin Part2,and,induecourse,theNSFR.

In addition,supervisorsmayrequireanindividualbanktoadoptmorestringentstandardsorparameterstoreflectitsliquidityriskprofileandthesupervisor’sassessmentofitscompliancewiththeSoundPrinciples.

I.ObjectiveoftheLCRanduseofHQLA

Thisstandardaimstoensurethatabankhasanadequatestockof unencumberedHQLAthatconsistsofcashorassetsthat canbeconvertedintocashatlittleornolossofvalueinprivatemarkets,tomeetitsliquidityneedsfora30calendardayliquiditystressscenario.

Ataminimum,thestockofunencumberedHQLAshouldenablethebanktosurviveuntilDay30ofthestressscenario,bywhichtimeitisassumedthatappropriatecorrectiveactionscanbetakenbymanagementandsupervisors,orthatthebankcanberesolvedin anorderlyway.

Furthermore,itgivesthecentralbankadditionaltimetotakeappropriatemeasures,shouldtheyberegardedasnecessary.

AsnotedintheSoundPrinciples,giventheuncertaintimingofoutflowsandinflows,banksarealsoexpected tobeawareofanypotentialmismatcheswithinthe30-dayperiodandensurethatsufficientHQLAareavailabletomeetanycashflow gapsthroughouttheperiod.

TheLCRbuildsontraditionalliquidity“coverageratio”methodologiesusedinternallybybanks toassessexposuretocontingentliquidityevents.

The totalnetcashoutflowsforthescenarioaretobecalculatedfor30calendardaysintothefuture.

Thestandardrequiresthat,absentasituationoffinancialstress,thevalueoftheratiobenolowerthan100%(iethestockofHQLAshouldatleastequaltotalnetcashoutflows)onanongoingbasisbecausethestockof unencumberedHQLAisintendedtoserveasadefenceagainstthe

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potentialonsetofliquiditystress.

Duringaperiodoffinancialstress,however,banksmayusetheirstockofHQLA,therebyfalling below 100%,asmaintainingtheLCRat100%undersuchcircumstancescouldproduceunduenegativeeffectsonthebankandothermarketparticipants.

Supervisorswillsubsequentlyassessthissituationandwilladjusttheirresponseflexiblyaccordingtothecircumstances.

18.Inparticular,supervisorydecisionsregardingabank’suseofitsHQLAshouldbeguidedbyconsiderationofthecoreobjectiveand definitionoftheLCR.

Supervisorsshouldexercisejudgementintheirassessmentand accountnotonlyforprevailingmacrofinancialconditions,butalsoconsiderforward-lookingassessmentsofmacroeconomicandfinancialconditions.

Indeterminingaresponse,supervisorsshouldbeawarethatsomeactionscouldbeprocyclicalifappliedincircumstancesofmarket-widestress.

Supervisorsshouldseek totaketheseconsiderationsinto accountonaconsistentbasisacrossjurisdictions.

Supervisorsshouldassessconditionsatanearlystage,andtake actionsifdeemednecessary,toaddresspotentialliquidityrisk.

Supervisorsshouldallow fordifferentiatedresponsestoareportedLCRbelow100%.

Anypotentialsupervisoryresponseshouldbeproportionatewiththedrivers,magnitude,durationandfrequencyofthereportedshortfall.

Supervisorsshouldassessanumberoffirm-andmarket-specificfactorsindeterminingtheappropriateresponseaswellasotherconsiderationsrelated tobothdomesticandglobalframeworksandconditions.

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Potentialconsiderationsinclude,butarenotlimitedto:

Thereason(s)thattheLCRfellbelow100%.

Thisincludesuseofthestock of HQLA,aninability to rolloverfundingorlargeunexpecteddrawsoncontingentobligations.

In addition,thereasonsmayrelatetooverallcredit,fundingandmarketconditions,includingliquidityincredit,assetandfundingmarkets,affectingindividualbanksorallinstitutions,regardlessoftheir owncondition;

TheextenttowhichthereporteddeclineintheLCRisdue to afirm-specificormarket-wideshock;

Abank’soverallhealthandriskprofile,includingactivities,positionswithrespect to othersupervisoryrequirements,internalrisksystems,controlsand othermanagementprocesses,amongothers;

Themagnitude,durationandfrequencyofthereporteddeclineofHQLA;

Thepotentialforcontagiontothefinancialsystemandadditionalrestrictedflow ofcreditorreducedmarketliquiditydue to actions tomaintainanLCRof100%;

Theavailabilityofothersourcesofcontingentfundingsuchascentralbankfunding,orotheractionsbyprudentialauthorities.

(d)SupervisorsshouldhavearangeoftoolsattheirdisposaltoaddressareportedLCRbelow100%.

Banksmayusetheirstock ofHQLAinbothidiosyncraticandsystemicstressevents,althoughthesupervisoryresponsemaydifferbetweenthetwo.

(i)Ataminimum,abankshouldpresentanassessmentofitsliquidityposition,includingthefactorsthatcontributed to itsLCRfallingbelow

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100%,themeasuresthathavebeenandwillbetakenandtheexpectationsonthepotentiallengthofthesituation.

Enhancedreportingtosupervisorsshouldbecommensuratewiththedurationoftheshortfall.

Ifappropriate,supervisorscouldalsorequireactionsbyabanktoreduceitsexposuretoliquidityrisk,strengthenitsoverallliquidityriskmanagement,orimproveitscontingencyfundingplan.

However, in asituationofsufficientlyseveresystem-widestress,effectsontheentirefinancialsystemshouldbeconsidered.

Potentialmeasurestorestoreliquiditylevelsshouldbediscussed,andshouldbeexecutedoveraperiodoftimeconsideredappropriatetopreventadditionalstressonthebankandonthefinancialsystemasawhole.

(e)Supervisors’responsesshouldbeconsistentwiththeoverallapproachtotheprudentialframework.

II.DefinitionoftheLCR

19.Thescenarioforthisstandardentailsacombinedidiosyncraticandmarket-wideshockthatwouldresultin:

Therun-offofaproportionofretaildeposits;

Apartiallossofunsecuredwholesalefundingcapacity;

Apartiallossofsecured,short-termfinancingwithcertaincollateralandcounterparties;

Additionalcontractualoutflowsthatwouldarisefromadowngradeinthebank’spubliccreditratingbyuptoandincludingthreenotches,includingcollateralpostingrequirements;

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Increasesinmarketvolatilitiesthatimpactthequalityofcollateralorpotentialfutureexposureofderivativepositionsandthusrequirelargercollateralhaircutsoradditionalcollateral,orleadtootherliquidityneeds;

Unscheduleddrawsoncommittedbutunusedcreditandliquidityfacilitiesthatthebankhasprovidedtoitsclients;and

Thepotentialneedforthebanktobuyback debtorhonour

non-contractualobligationsintheinterestofmitigatingreputationalrisk.

In summary,thestressscenariospecifiedincorporatesmanyoftheshocksexperiencedduringthecrisisthatstartedin2007intoone significantstressscenarioforwhichabankwouldneedsufficientliquidityonhandtosurviveforupto30calendardays.

Thisstresstestshouldbeviewedasaminimumsupervisoryrequirementforbanks.

Banksareexpectedtoconducttheirownstressteststoassessthelevelofliquiditytheyshouldholdbeyondthisminimum,andconstructtheirownscenariosthatcouldcausedifficultiesfortheirspecificbusinessactivities.

Suchinternalstresstestsshouldincorporatelongertimehorizonsthantheonemandatedbythisstandard.

Banksareexpectedtosharetheresultsoftheseadditionalstresstestswithsupervisors.

TheLCRhastwocomponents:

ValueofthestockofHQLA instressedconditions;and

Total netcashoutflows,calculatedaccordingtothescenarioparametersoutlinedbelow.

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A.StockofHQLA

23.ThenumeratoroftheLCRisthe“stock ofHQLA”.

Underthestandard,banksmustholdastockofunencumberedHQLAtocoverthetotal netcashoutflows(asdefinedbelow)overa30-dayperiod undertheprescribedstressscenario.

In ordertoqualifyas“HQLA”,assetsshouldbeliquidinmarketsduring atimeofstressand,ideally,becentralbankeligible.

Thefollowingsetsoutthecharacteristicsthatsuchassetsshouldgenerallypossessandtheoperationalrequirementsthattheyshould satisfy.

1.CharacteristicsofHQLA

24.AssetsareconsideredtobeHQLAifthey canbeeasilyandimmediatelyconvertedinto cashatlittleornolossofvalue.

Theliquidityofanassetdependsontheunderlyingstressscenario,thevolume tobemonetisedandthetimeframeconsidered.

Nevertheless,therearecertainassetsthataremorelikelytogeneratefundswithoutincurringlargediscountsinsaleorrepurchaseagreement(repo)marketsduetofire-salesevenintimesofstress.

Thissectionoutlines the factorsthatinfluencewhetherornotthemarketforanasset canbereliedupon to raiseliquiditywhenconsideredinthecontextofpossiblestresses.

Thesefactorsshouldassistsupervisorsindeterminingwhichassets,despitemeetingthecriteriafromparagraphs49 to54,arenotsufficientlyliquidinprivatemarketstobeincludedinthestockofHQLA.

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  • Fundamentalcharacteristics

    • Lowrisk:assetsthatarelessriskytendtohavehigherliquidity.

  • Highcreditstandingoftheissuerandalow degreeofsubordinationincreaseanasset’sliquidity.

  • Lowduration,low legalrisk,low inflationriskanddenominationin aconvertiblecurrencywithlow foreignexchangerisk allenhanceanasset’sliquidity.

    • Easeandcertaintyofvaluation:anasset’sliquidityincreasesifmarketparticipantsaremorelikelytoagreeonitsvaluation.

  • Assetswithmorestandardised,homogenousandsimplestructurestend tobemorefungible,promotingliquidity.

  • Thepricingformulaofahigh-qualityliquidassetmustbeeasytocalculateandnotdependonstrongassumptions.

  • Theinputsintothepricingformulamustalsobepubliclyavailable.

  • In practice,thisshouldruleouttheinclusionofmoststructuredorexoticproducts.

  • Lowcorrelationwithriskyassets:thestock ofHQLAshouldnotbesubjecttowrong-way(highlycorrelated)risk.

  • Forexample,assetsissuedbyfinancialinstitutionsaremorelikelytobeilliquidintimesofliquiditystressinthebankingsector.

  • Listedonadevelopedandrecognisedexchange:beinglistedincreasesanasset’stransparency.

  • (ii)Market-relatedcharacteristics

  • - Activeandsizablemarket:theassetshouldhaveactiveoutrightsaleorrepomarketsatalltimes.

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  • Thismeansthat:

  • Thereshouldbehistoricalevidenceofmarketbreadthandmarketdepth.

  • Thiscouldbedemonstratedbylowbid-askspreads,hightradingvolumes,andalargeanddiversenumberofmarketparticipants.

  • Diversityofmarketparticipantsreducesmarketconcentrationandincreasesthereliabilityoftheliquidityinthemarket.

  • Thereshouldberobustmarketinfrastructureinplace.

  • ThepresenceofmultiplecommittedmarketmakersincreasesliquidityasquoteswillmostlikelybeavailableforbuyingorsellingHQLA.

  • Lowvolatility:Assetswhosepricesremainrelativelystableandarelesspronetosharppricedeclinesovertimewillhavealowerprobabilityoftriggeringforcedsalestomeetliquidityrequirements.

  • Volatilityoftradedpricesandspreadsaresimpleproxymeasuresofmarketvolatility.

  • Thereshouldbehistoricalevidenceofrelativestabilityofmarketterms(egpricesandhaircuts)andvolumesduringstressedperiods.

  • Flighttoquality:historically,themarkethasshowntendenciestomoveintothesetypesofassetsinasystemiccrisis.

  • Thecorrelationbetweenproxiesofmarketliquidityandbankingsystemstressisonesimplemeasurethatcouldbeused.

  • 25.Asoutlinedbythesecharacteristics,the testofwhetherliquidassetsareof“highquality”isthat,bywayofsaleorrepo,theirliquidity-generatingcapacityisassumedtoremainintacteveninperiodsofsevereidiosyncraticandmarketstress.

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Lowerqualityassetstypicallyfailtomeetthattest.

Anattemptbyabanktoraiseliquidityfromlowerqualityassetsunderconditionsofseveremarketstresswouldentailacceptanceofalargefire-salediscountorhaircuttocompensateforhighmarketrisk.

Thatmaynotonlyerodethemarket’sconfidenceinthebank,butwouldalsogeneratemark-to-marketlossesforbanksholdingsimilarinstrumentsandaddto thepressureontheirliquidityposition,thusencouragingfurtherfiresalesanddeclinesinpricesandmarketliquidity.

In thesecircumstances,privatemarketliquidityforsuchinstrumentsislikelytodisappearquickly.

HQLA(exceptLevel2Bassetsasdefinedbelow)shouldideallybeeligibleatcentralbanks forintradayliquidityneedsandovernightliquidityfacilities.

In thepast,centralbankshaveprovidedafurtherbackstoptothesupplyofbankingsystemliquidityunderconditionsofseverestress.

Centralbankeligibilityshouldthusprovideadditionalconfidencethatbanksareholdingassetsthatcouldbeusedin eventsofseverestresswithoutdamagingthebroaderfinancialsystem.

Thatinturnwouldraiseconfidenceinthesafetyandsoundnessofliquidityriskmanagementinthebankingsystem.

Itshouldbenotedhowever,thatcentralbankeligibilitydoesnotbyitselfconstitutethebasisforthecategorisationofanassetasHQLA.

2.Operationalrequirements

28.AllassetsinthestockofHQLAaresubject tothefollowingoperationalrequirements.

Thepurposeoftheoperationalrequirementsis to recognisethatnotallassetsoutlinedinparagraphs49-54thatmeettheassetclass,

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risk-weightingandcredit-ratingcriteriashouldbeeligibleforthestockasthereare otheroperationalrestrictionsontheavailabilityofHQLAthatcan preventtimelymonetisationduringastressperiod.

Theseoperationalrequirementsaredesigned to ensurethatthestockofHQLAismanagedin suchawaythatthebankcan,andisable todemonstratethatitcan,immediatelyusethestockofassetsasasourceofcontingentfundsthatisavailableforthebanktoconvertintocashthroughoutrightsaleorrepo,to fillfundinggapsbetween cashinflowsandoutflowsatanytimeduringthe30-daystressperiod,withnorestrictionontheuseoftheliquiditygenerated.

Abankshouldperiodicallymonetisearepresentativeproportionoftheassetsinthestockthroughrepooroutrightsale,inordertotestitsaccesstothemarket,theeffectivenessofitsprocessesformonetisation,theavailabilityoftheassets,andtominimisetherisk ofnegativesignallingduringaperiodofactualstress.

Allassetsinthestockshouldbeunencumbered.“Unencumbered”meansfreeoflegal,regulatory,contractualorother

restrictionsontheabilityofthebanktoliquidate,sell,transfer,orassigntheasset.

Anassetinthestockshouldnotbepledged(eitherexplicitlyorimplicitly)tosecure,collateraliseorcredit-enhanceanytransaction,norbedesignatedto coveroperationalcosts(suchasrentsandsalaries).

Assetsreceivedinreverserepoandsecuritiesfinancingtransactionsthatareheldatthebank,havenotbeenrehypothecated,andarelegallyandcontractuallyavailableforthebank'suse can beconsideredaspartofthestockofHQLA.

In addition,assetswhichqualifyforthestockofHQLAthathavebeenpre-positionedordepositedwith,or pledgedto,thecentralbankorapublicsectorentity(PSE)buthavenotbeenused to generateliquiditymaybe includedinthestock.

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Abankshouldexcludefromthestockthoseassetsthat,althoughmeetingthedefinitionof“unencumbered”specifiedinparagraph31,thebankwouldnothavetheoperationalcapabilitytomonetisetomeetoutflowsduringthestressperiod.

Operationalcapabilitytomonetiseassetsrequireshavingproceduresandappropriatesystemsinplace,includingprovidingthefunctionidentifiedinparagraph33withaccesstoallnecessaryinformation toexecutemonetisationofanyassetatanytime.

Monetisationoftheassetmustbeexecutable,fromanoperationalperspective,inthestandardsettlementperiodfortheassetclass intherelevantjurisdiction.

Thestockshouldbeunderthecontrolofthefunctionchargedwith managingtheliquidityofthebank(egthetreasurer),meaningthefunctionhasthecontinuousauthority,andlegalandoperationalcapability,tomonetiseanyassetinthestock.

Controlmustbeevidencedeitherbymaintainingassetsinaseparatepoolmanagedbythefunctionwiththesoleintentforuseasasourceofcontingentfunds,orbydemonstratingthatthefunctioncanmonetisetheassetatanypointinthe30-daystressperiodandthattheproceedsof doingsoareavailable to thefunctionthroughoutthe30-daystressperiodwithoutdirectlyconflictingwithastatedbusinessorriskmanagementstrategy.

Forexample,anassetshouldnotbeincludedinthestockifthesaleofthatasset,withoutreplacementthroughoutthe30-dayperiod, wouldremoveahedgethatwouldcreateanopenrisk positionin excessofinternallimits.

Abankispermittedtohedgethemarketrisk associatedwithownershipofthestockofHQLAandstillincludetheassetsinthestock.

Ifitchoosestohedgethemarketrisk,thebankshouldtakeintoaccount(inthemarketvalueappliedtoeachasset)thecashoutflow thatwould

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ariseifthehedgeweretobeclosedoutearly(intheeventoftheassetbeingsold).

InaccordancewithPrinciple9oftheSoundPrinciplesabank“shouldmonitorthelegalentityandphysicallocationwherecollateralisheldand how itmaybemobilisedinatimelymanner”.

Specifically,itshouldhaveapolicy inplacethatidentifieslegalentities,geographicallocations,currenciesandspecificcustodialorbankaccountswhereHQLAareheld.

In addition,thebankshoulddeterminewhetheranysuchassetsshould beexcludedforoperationalreasonsandtherefore,havetheabilitytodeterminethecompositionofitsstockonadailybasis.

Asnotedinparagraphs171and172,qualifyingHQLAthatareheld tomeetstatutoryliquidityrequirementsatthelegalentityorsub-consolidatedlevel(whereapplicable)mayonlybeincludedinthestockattheconsolidatedleveltotheextentthattherelatedrisks(asmeasuredbythelegalentity’sorsub-consolidatedgroup’snetcashoutflowsintheLCR)arealsoreflectedintheconsolidatedLCR.

AnysurplusofHQLAheldatthelegalentity canonlybeincludedintheconsolidatedstock ifthoseassetswouldalsobefreelyavailable totheconsolidated(parent)entityintimesofstress.

In assessingwhetherassetsarefreelytransferableforregulatorypurposes,banksshouldbeawarethatassetsmaynotbefreelyavailabletotheconsolidatedentityduetoregulatory,legal,tax,accountingorotherimpediments.

Assetsheldinlegalentitieswithoutmarketaccessshouldonlybeincluded totheextentthatthey canbefreelytransferredtootherentitiesthatcouldmonetisetheassets.

In certainjurisdictions,large,deepand activerepomarketsdonotexistforeligibleassetclasses,andthereforesuchassetsarelikely to bemonetisedthroughoutrightsale.

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In thesecircumstances,abankshouldexcludefromthestockofHQLAthoseassetswherethereareimpediments tosale,suchaslargefire-salediscountswhichwould causeit tobreachminimumsolvencyequirements,orrequirementstoholdsuchassets,including,butnotlimitedto,statutoryminimuminventoryrequirementsformarketmaking.

BanksshouldnotincludeinthestockofHQLAanyassets,orliquiditygeneratedfromassets,theyhavereceivedunderrightofrehypothecation,ifthebeneficialownerhasthecontractualrightto withdrawthoseassetsduringthe30-daystressperiod.

Assetsreceivedascollateralforderivativestransactionsthatarenotsegregatedandarelegallyable to berehypothecatedmaybeincludedinthestockofHQLAprovidedthatthebankrecordsanappropriateoutflowfortheassociatedrisks assetoutin paragraph116.

AsstatedinPrinciple8oftheSoundPrinciples,abankshouldactivelymanageitsintradayliquiditypositionsandrisks tomeetpaymentandsettlementobligationsonatimelybasisunderbothnormalandstressedconditionsandthuscontributetothesmoothfunctioningofpaymentandsettlementsystems.

BanksandregulatorsshouldbeawarethattheLCRstressscenariodoesnotcoverexpectedorunexpectedintradayliquidityneeds.

WhiletheLCRisexpectedtobemetandreportedinasinglecurrency,banksareexpectedtobeabletomeettheirliquidityneedsineachcurrencyandmaintainHQLAconsistentwiththedistributionoftheirliquidityneedsbycurrency.

Thebankshouldbeabletousethestockto generateliquidityin thecurrencyandjurisdictioninwhichthenetcashoutflowsarise.

Assuch,theLCRbycurrencyisexpectedtobemonitoredandreportedtoallow thebankanditssupervisortotrackanypotentialcurrencymismatchissuesthatcouldarise,asoutlinedinPart2.

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In managingforeignexchangeliquidityrisk,thebankshouldtakeintoaccounttheriskthatitsability to swapcurrenciesandaccesstherelevantforeignexchangemarketsmayeroderapidlyunderstressedconditions.

Itshouldbeawarethatsudden,adverseexchangeratemovementscouldsharplywidenexistingmismatchedpositionsandaltertheeffectivenessofanyforeignexchangehedgesinplace.

43.In ordertomitigatecliffeffectsthatcouldarise,ifaneligibleliquidassetbecameineligible(egduetoratingdowngrade),abankispermittedtokeepsuchassetsinitsstock ofliquidassetsforanadditional30calendardays.

Thiswouldallowthebankadditionaltimetoadjustitsstockasneededorreplacetheasset.

3.DiversificationofthestockofHQLA

44.ThestockofHQLAshouldbewelldiversifiedwithintheassetclassesthemselves(exceptforsovereigndebtofthebank’shomejurisdictionorfromthejurisdictionin whichthebankoperates;centralbankreserves;centralbankdebtsecurities;and cash).

Althoughsomeassetclassesaremorelikely to remainliquidirrespectiveofcircumstances,ex-anteitisnotpossible to knowwithcertaintywhichspecificassetswithineachassetclassmightbesubjecttoshocksex-post.

Banksshouldthereforehavepoliciesandlimitsinplaceinordertoavoidconcentrationwithrespect to assettypes,issueandissuertypes,andcurrency(consistentwiththedistributionofnetcashoutflowsbycurrency)withinassetclasses.

4.DefinitionofHQLA

45.ThestockofHQLAshouldcompriseassetswiththecharacteristicsoutlinedinparagraphs24-27.

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Thissectiondescribesthetypeofassetsthatmeetthesecharacteristicsandcanthereforebeincludedinthestock.

Therearetwo categoriesofassetsthat canbeincludedinthestock.Assetstobeincludedin eachcategoryarethosethatthebankisholdingonthefirstdayofthestressperiod,irrespectiveoftheirresidualmaturity.

“Level1”assetscanbeincludedwithoutlimit,while“Level2”assets canonlycompriseup to40%ofthestock.

SupervisorsmayalsochoosetoincludewithinLevel2anadditionalclassofassets(Level2Bassets-seeparagraph53below).

Ifincluded,theseassetsshouldcomprisenomorethan15%ofthetotalstockofHQLA.

Theymustalsobeincludedwithintheoverall40%caponLevel2assets.

The40%caponLevel2assetsandthe15%caponLevel2Bassetsshouldbedeterminedaftertheapplicationofrequiredhaircuts,andaftertakingintoaccounttheunwindofshort-termsecuritiesfinancingtransactionsandcollateralswaptransactionsmaturingwithin30calendardaysthatinvolvetheexchangeofHQLA.

In thiscontext,shorttermtransactionsaretransactionswithamaturitydateuptoandincluding30calendardays.

Thedetailsofthe calculationmethodologyareprovidedinAnnex1.

(i)Level1assets

49.Level1assetscancompriseanunlimitedshareofthepoolandarenotsubjecttoahaircutundertheLCR.

However,nationalsupervisorsmaywishto requirehaircutsforLevel1securitiesbasedon,amongotherthings,theirduration,creditandliquidityrisk,andtypicalrepohaircuts.

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  • 50.Level1assetsarelimitedto:

  • Coinsandbanknotes;

  • Centralbankreserves(includingrequiredreserves),totheextentthatthecentralbankpoliciesallow themtobedrawndownintimesofstress;

  • Marketablesecuritiesrepresentingclaimsonorguaranteedbysovereigns,centralbanks,PSEs,theBankforInternationalSettlements,theInternationalMonetaryFund,theEuropeanCentralBankandEuropeanCommunity,ormultilateraldevelopmentbanks,andsatisfyingallofthefollowingconditions:

    • assigneda0%risk-weightundertheBaselIIStandardisedApproachforcreditrisk;

    • tradedinlarge,deepandactiverepoorcashmarketscharacterisedbyalow levelofconcentration;

    • haveaprovenrecordasareliablesourceofliquidityinthemarkets(repoorsale)evenduringstressedmarketconditions;and

    • notanobligationofafinancialinstitutionoranyofitsaffiliated entities.

  • wherethesovereignhasanon-0%riskweight,sovereignorcentralbankdebtsecuritiesissuedindomesticcurrenciesbythesovereignorcentralbank inthecountryinwhichtheliquidityrisk isbeingtakenor inthebank’shomecountry;and

  • wherethesovereignhas anon-0%riskweight,domesticsovereignorcentralbankdebtsecuritiesissuedinforeigncurrenciesareeligibleuptotheamountofthebank’sstressednetcashoutflowsinthatspecificforeigncurrencystemmingfromthebank’soperationsinthejurisdictionwherethebank’sliquidityrisk isbeingtaken.

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  • (ii)Level2assets

  • Level2assets(comprisingLevel2AassetsandanyLevel2Bassetspermittedbythesupervisor)canbeincludedinthestockofHQLA,subjecttotherequirementthattheycomprisenomorethan40%oftheoverallstock afterhaircutshavebeenapplied.

  • A15%haircutisappliedtothecurrentmarketvalueofeachLevel2Aassetheldin thestock ofHQLA.

  • Level2Aassetsarelimitedtothefollowing:

  • Marketablesecuritiesrepresentingclaimsonorguaranteedbysovereigns,centralbanks,PSEsormultilateraldevelopmentbanksthatsatisfyallofthefollowingconditions:

    • assigneda20%riskweightundertheBaselIIStandardisedApproachforcreditrisk;

    • tradedinlarge,deepandactiverepoorcashmarketscharacterisedbyalow levelofconcentration;

    • haveaprovenrecordasareliablesourceofliquidityinthemarkets(repoorsale)evenduringstressedmarketconditions(iemaximumdeclineofpricenotexceeding10%or increaseinhaircutnotexceeding10percentagepointsovera30-dayperiodduringarelevantperiodofsignificantliquiditystress);and

    • notanobligationofafinancialinstitutionoranyofitsaffiliated entities.

  • Corporatedebtsecurities(includingcommercialpaper)andcoveredbondsthatsatisfyallofthefollowingconditions:

    • inthe caseofcorporatedebtsecurities:notissuedbyafinancialinstitutionoranyofitsaffiliatedentities;

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  • inthecaseofcoveredbonds:notissuedbythebankitselforanyofitsaffiliatedentities;

  • either

    • havealong-termcreditratingfromarecognisedexternalcreditassessmentinstitution(ECAI)ofatleastAA-21orintheabsenceofalongtermrating,ashort-termratingequivalentinqualitytothe

  • long-termrating;or

    • donothaveacreditassessmentbyarecognisedECAIbutareinternallyratedashavingaprobabilityofdefault(PD)correspondingtoacreditratingofatleastAA-;

  • tradedinlarge,deepandactiverepoorcashmarketscharacterisedbyalow levelofconcentration;and

  • haveaprovenrecordasareliablesourceofliquidityinthemarkets(repoorsale)evenduringstressedmarketconditions:iemaximumdeclineofpriceor increaseinhaircutovera30-dayperiodduringarelevantperiodofsignificantliquiditystressnotexceeding10%.

  • (iii)Level2Bassets

  • Certainadditionalassets(Level2Bassets)maybeincludedinLevel2atthediscretionofnationalauthorities.

  • InchoosingtoincludetheseassetsinLevel2forthepurposeoftheLCR,supervisorsareexpected to ensurethatsuchassetsfullycomplywiththequalifyingcriteria.

  • Supervisorsarealsoexpectedtoensurethatbankshaveappropriatesystemsandmeasurestomonitorandcontrolthepotentialrisks(egcreditandmarketrisks)thatbankscouldbeexposedtoinholdingtheseassets.

  • AlargerhaircutisappliedtothecurrentmarketvalueofeachLevel2Bassetheldin thestock ofHQLA.

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  • Level2Bassetsarelimitedtothefollowing:

  • Residentialmortgagebackedsecurities(RMBS)thatsatisfyallofthefollowingconditionsmaybeincludedinLevel2B,subject toa25%haircut:

    • notissuedby,andtheunderlyingassetshavenotbeenoriginatedby thebankitselforanyofitsaffiliatedentities;

    • havealong-termcreditratingfromarecognisedECAIofAAorhigher,orintheabsenceofalongtermrating,ashort-termratingequivalentinqualitytothelong-termrating;

    • tradedinlarge,deepandactiverepoorcashmarketscharacterisedbyalowlevelofconcentration;

    • haveaprovenrecordasareliablesourceofliquidityinthemarkets(repoorsale)evenduringstressedmarketconditions,ieamaximumdeclineofpricenotexceeding20%orincreaseinhaircutovera30-dayperiodnotexceeding20percentagepointsduringarelevantperiodofsignificantliquiditystress;

    • theunderlyingassetpoolisrestricted to residentialmortgagesandcannot containstructuredproducts;

    • theunderlyingmortgagesare“fullrecourse’’loans(ieinthecaseofforeclosurethemortgage ownerremainsliableforanyshortfallinsalesproceedsfromtheproperty)andhaveamaximumloan-to-valueratio(LTV)of80%onaverageatissuance;and

    • thesecuritisationsaresubjectto“risk retention”regulationswhichrequireissuers to retainaninterestintheassetstheysecuritise.

  • Corporatedebtsecurities(includingcommercialpaper)thatsatisfyallofthefollowingconditionsmaybeincludedinLevel2B,subjecttoa50%haircut:

    • notissuedbyafinancialinstitutionoranyofitsaffiliatedentities;

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  • either

  • (i)havealong-termcreditratingfromarecognisedECAIbetweenA+andBBB-orintheabsenceofalongtermrating,ashort-termratingequivalentinqualityto thelong-termrating;or

  • (ii)donothaveacreditassessmentbyarecognisedECAIandareinternallyratedashavingaPDcorrespondingto acreditratingof betweenA+andBBB-;

  • tradedinlarge,deepandactiverepoorcashmarketscharacterisedbyalowlevelofconcentration;and

  • haveaprovenrecordasareliablesourceofliquidityinthemarkets(repoorsale)evenduringstressedmarketconditions,ieamaximumdeclineofpricenotexceeding20%orincreaseinhaircutovera30-dayperiodnotexceeding20percentagepointsduringarelevantperiodofsignificantliquiditystress.

  • Commonequitysharesthatsatisfyallofthefollowingconditionsmaybeincludedin Level2B,subject to a50%haircut:

    • notissuedbyafinancialinstitutionoranyofitsaffiliatedentities;

    • exchangetradedandcentrallycleared;

    • aconstituentofthemajorstock indexinthehomejurisdictionorwheretheliquidityrisk istaken,asdecidedby thesupervisor inthejurisdictionwhere the indexislocated;

    • denominatedinthedomesticcurrencyofabank’shomejurisdictionor inthecurrencyofthejurisdictionwhereabank’sliquidityriskistaken;

    • tradedinlarge,deepandactiverepoorcashmarketscharacterisedbyalowlevelofconcentration;and

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  • - haveaprovenrecordasareliablesourceofliquidityinthemarkets(repoorsale)evenduringstressedmarketconditions,ieamaximumdeclineofsharepricenotexceeding40%or increaseinhaircutnotexceeding40percentagepointsovera30-dayperiodduringarelevantperiodofsignificantliquidity.

  • (iv)TreatmentforjurisdictionswithinsufficientHQLA

  • (a)Assessmentofeligibilityforalternativeliquidityapproaches(ALA)

  • SomejurisdictionsmayhaveaninsufficientsupplyofLevel1assets(orbothLevel1andLevel2assets)intheirdomesticcurrencytomeettheaggregatedemandofbankswithsignificantexposuresinthiscurrency.

  • Toaddressthissituation,theCommitteehasdevelopedalternativetreatmentsforholdingsinthestock ofHQLA,whichareexpectedtoapplytoalimitednumberofcurrenciesandjurisdictions.

  • EligibilityforsuchalternativetreatmentwillbejudgedonthebasisofthequalifyingcriteriasetoutinAnnex2andwillbedeterminedthroughanindependentpeerreviewprocessoverseenbytheCommittee.

  • ThepurposeofthisprocessistoensurethatthealternativetreatmentsareonlyusedwhenthereisatrueshortfallinHQLAinthedomesticcurrencyrelativetotheneedsinthatcurrency.

  • Toqualifyforthealternativetreatment,ajurisdictionshouldbeabletodemonstratethat:

    • thereisaninsufficientsupplyofHQLAinitsdomesticcurrency,takingintoaccountallrelevantfactorsaffectingthesupplyof,anddemandfor,suchHQLA;

    • theinsufficiencyiscausedbylong-termstructuralconstraintsthatcannotberesolvedwithinthemediumterm;

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  • ithasthe capacity,throughanymechanismorcontrolinplace,tolimitormitigatetheriskthatthealternativetreatmentcannotworkasexpected;and

  • itiscommitted to observingtheobligationsrelatingtosupervisorymonitoring,disclosure,andperiodic self-assessmentandindependentpeerreviewofitseligibilityforalternativetreatment.

  • Alloftheabovecriteriahave tobemet toqualifyforthealternativetreatment.

  • 57.IrrespectiveofwhetherajurisdictionseekingALAtreatmentwilladoptthephase-inarrangementsetoutinparagraph10forimplementingtheLCR,theeligibilityforthatjurisdiction to adoptALAtreatmentwillbebasedonafullyimplementedLCRstandard(ie100%requirement).

  • (b)Potentialoptionsforalternativetreatment

  • 58.Option1–Contractualcommittedliquidityfacilitiesfromtherelevantcentralbank,withafee:

  • ForcurrenciesthatdonothavesufficientHQLA,asdeterminedbyreferencetothequalifyingprinciplesandcriteria,Option1wouldallowbanks to accesscontractualcommittedliquidityfacilitiesprovidedbytherelevantcentralbank(ierelevantgiventhecurrencyinquestion)forafee.

  • Thesefacilitiesshouldnotbeconfusedwithregularcentralbankstandingarrangements.

  • In particular,thesefacilitiesarecontractualarrangementsbetweenthecentralbankandthecommercialbankwithamaturitydatewhich,ataminimum,fallsoutsidethe30-dayLCRwindow.

  • Further,thecontractmustbeirrevocablepriortomaturityandinvolvenoex-postcreditdecisionby thecentralbank.

  • Suchfacilitiesareonlypermissibleifthereisalsoafeeforthefacilitywhichischargedregardlessoftheamount,ifany,drawndownagainst

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thatfacilityandthefeeissetsothatbanks whichclaimthefacilitylinetomeettheLCR,andbankswhichdonot,havesimilarfinancialincentivestoreducetheirexposuretoliquidityrisk.

Thatis,thefeeshouldbesetsothatthenetyield ontheassetsusedtosecurethefacilityshouldnotbehigherthanthenetyieldonarepresentativeportfolioofLevel1andLevel2assets,afteradjustingforanymaterialdifferencesincreditrisk.

AjurisdictionseekingtoadoptOption1shouldjustifyintheindependentpeerreviewthatthefeeissuitablysetinamannerasprescribedinthisparagraph.

59.Option2– ForeigncurrencyHQLAtocoverdomesticcurrencyliquidityneeds:

ForcurrenciesthatdonothavesufficientHQLA,asdeterminedbyreferencetothequalifyingprinciplesandcriteria,Option2wouldallowsupervisorstopermitbanks thatevidenceashortfallofHQLA inthedomesticcurrency(whichwouldmatchthecurrencyoftheunderlyingrisks)toholdHQLAinacurrencythatdoesnotmatchthecurrencyoftheassociatedliquidityrisk,providedthattheresultingcurrencymismatchpositionsarejustifiableandcontrolledwithinlimitsagreedbytheirsupervisors.

Supervisorsshouldrestrictsuchpositionswithinlevelsconsistentwiththebank’sforeignexchangerisk managementcapacityandneeds,andensurethatsuchpositionsrelate to currenciesthatarefreelyandreliablyconvertible,areeffectivelymanagedbythebank,andwouldnotposeunduerisk toitsfinancialstrength.

In managingthosepositions,thebankshouldtakeintoaccounttherisksthatitsabilitytoswapcurrencies,andits access to therelevantforeignexchangemarkets,mayeroderapidlyunderstressedconditions.

Itshouldalsotakeintoaccountthatsudden,adverseexchangeratemovementscouldsharplywidenexistingmismatchpositionsandalter

theeffectivenessofanyforeignexchangehedgesinplace.

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ToaccountforforeignexchangeriskassociatedwithforeigncurrencyHQLAusedtocoverliquidityneedsinthedomesticcurrency,suchliquidassetsshouldbesubjecttoaminimumhaircutof8%formajorcurrenciesthatareactivein globalforeignexchangemarkets.

Forothercurrencies,jurisdictionsshouldincreasethehaircuttoan appropriatelevelonthebasisofhistorical(monthly)exchangeratevolatilitiesbetweenthecurrencypairoveranextendedperiodoftime.

Ifthedomesticcurrencyisformallypeggedtoanothercurrencyunderaneffectivemechanism,thehaircutforthepeggedcurrency canbeloweredtoalevelthatreflects thelimitedexchangeraterisk underthepegarrangement.

Toqualifyforthistreatment,thejurisdictionconcernedshould demonstrateintheindependentpeerreviewtheeffectivenessofitscurrencypegmechanismandassessthelong-termprospectofkeepingthepeg.

HaircutsforforeigncurrencyHQLAusedunderOption2wouldapplyonly to HQLAinexcessofathresholdspecifiedbysupervisorswhichisnotgreaterthan25%.

Thisistoaccommodateacertainlevelofcurrencymismatchthatmaycommonlyexistamongbanks intheirordinarycourseofbusiness.

Option3–AdditionaluseofLevel2assetswithahigherhaircut:ThisoptionaddressescurrenciesforwhichthereareinsufficientLevel1assets,asdeterminedbyreference to thequalifyingprinciplesandcriteria,butwheretherearesufficientLevel2Aassets.

In thiscase,supervisorsmaychoosetoallow banks thatevidenceashortfallofHQLAinthedomesticcurrency(tomatchthecurrencyoftheliquidityrisk incurred)to holdadditionalLevel2Aassetsinthestock.

TheseadditionalLevel2Aassets wouldbesubject toaminimumhaircutof20%,ie5%higherthanthe15%haircutapplicabletoLevel2Aassets

thatareincludedinthe40%cap.

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Thehigherhaircutisusedto coveranyadditionalpriceandmarketliquidityrisksarisingfromincreasedholdingsofLevel2Aassetsbeyondthe40%cap,andtoprovideadisincentiveforbanks tousethisoptionbasedonyieldconsiderations.

Supervisorshavetheobligation toconductananalysis to assesswhethertheadditionalhaircutissufficientforLevel2Aassets intheirmarkets,andshouldincreasethehaircutifthisiswarrantedtoachievethepurposeforwhichitisintended.

Supervisorsshouldexplainandjustifytheoutcomeoftheanalysis(includingthelevelofincreaseinthehaircut,ifapplicable)duringtheindependentpeerreviewassessmentprocess.AnyLevel2Bassetsheldby thebank wouldremainsubjecttothe capof15%,regardlessoftheamountofotherLevel2assetsheld.

(c)Maximumlevelofusageofoptionsforalternativetreatment

63.Theusageofanyoftheaboveoptionswouldbeconstrainedbyalimitspecifiedbysupervisors in jurisdictionswhosecurrencyiseligibleforthealternativetreatment.

ThelimitshouldbeexpressedintermsofthemaximumamountofHQLAassociatedwiththeuseoftheoptions(whether individuallyorincombination)thatabankisallowedtoincludeinitsLCR,asapercentageofthetotalamountofHQLAthebankisrequiredtoholdinthecurrencyconcerned.

HQLAassociatedwiththeoptionsreferto:

In the caseofOption1,theamountofcommittedliquidityfacilitiesgrantedbytherelevantcentralbank;

InthecaseofOption2,theamountofforeigncurrencyHQLAusedtocovertheshortfallofHQLAinthedomesticcurrency;and

In thecaseofOption3,theamountofLevel2assetsheld(including

thosewithinthe40%cap).

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If,forexample,themaximumlevelofusageoftheoptionsissetat80%,itmeansthatabankadoptingtheoptions,either individuallyorincombination, wouldonlybeallowedtoincludeHQLAassociatedwiththeoptions(afterapplyinganyrelevanthaircut)upto80%oftherequiredamountofHQLAintherelevantcurrency.

Thus,atleast20%oftheHQLArequirementwillhavetobemetbyLevel1assetsintherelevantcurrency.

Themaximumusageoftheoptionsisofcoursefurtherconstrainedbythebank’sactualshortfallofHQLA inthecurrencyconcerned.

Theappropriatenessofthemaximumlevelofusageoftheoptionsallowedbyasupervisorwillbeevaluated in theindependentpeerreviewprocess.

ThelevelsetshouldbeconsistentwiththeprojectedsizeoftheHQLAgapfacedbybankssubjecttotheLCRinthecurrencyconcerned,takingintoaccountallrelevantfactorsthatmayaffect thesizeofthegapovertime.

Thesupervisorshouldexplainhowthislevelisderived,andjustifywhy thisissupportedbytheinsufficiencyofHQLAinthebankingsystem.

Wherearelativelyhighlevelofusageoftheoptionsisallowedbythesupervisor(egover80%),thesuitabilityofthislevelwillcomeundercloserscrutinyintheindependentpeerreview.

(d)Supervisoryobligationsandrequirements

66.AjurisdictionwithinsufficientHQLAmust,amongotherthings,fulfilthefollowingobligations(thedetailedrequirementsaresetoutinAnnex2):

- Supervisorymonitoring:Thereshouldbeaclearlydocumented supervisoryframeworkforoverseeingandcontrollingtheusageoftheoptionsbyitsbanks,andformonitoringtheircompliancewiththe

relevantrequirementsapplicable totheiruseoftheoptions;

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  • Disclosureframework:Thejurisdictionshoulddiscloseitsframeworkforapplyingtheoptionstoitsbanks (whetheronitswebsiteorthroughothermeans).

  • Thedisclosureshould enable othernationalsupervisorsandstakeholderstogainasufficientunderstandingofitscompliancewiththequalifyingprinciplesandcriteriaandthemannerinwhichitsupervisestheuseoftheoptionsbyitsbanks;

  • Periodicself-assessmentofeligibilityforalternativetreatment:Thejurisdictionshouldperformaself-assessmentofitseligibilityforalternativetreatmenteveryfiveyearsafterithas adoptedtheoptions,anddisclosetheresultsto othernationalsupervisorsandstakeholders.

  • SupervisorsinjurisdictionswithinsufficientHQLAshoulddeviserulesandrequirementsgoverningtheuseoftheoptionsbytheirbanks,havingregardtotheguidingprinciplessetoutbelow.

    • Principle1:Supervisorsshouldensurethatbanks’useoftheoptionsisnotsimplyaneconomicchoicethatmaximisestheprofitsofthebankthroughtheselectionofalternativeHQLAbasedprimarilyonyieldconsiderations.TheliquiditycharacteristicsofanalternativeHQLAportfoliomust beconsidered tobemoreimportantthanitsnetyield.

    • Principle2:Supervisorsshouldensurethattheuseoftheoptionsisconstrained,bothforallbankswithexposuresintherelevantcurrencyandonabank-by-bankbasis.

    • Principle3:Supervisorsshouldensurethatbankshave,totheextentpracticable,takenreasonablesteps touseLevel1andLevel2assetsandreducetheiroveralllevelofliquidityriskto improvetheLCR,beforethealternativetreatment canbeapplied.

    • Principle4:Supervisorsshouldhaveamechanismforrestrainingtheusageoftheoptionsto mitigaterisksofnon-performanceofthealternativeHQLA.

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(v)TreatmentforShari’ahcompliantbanks

68.Shari’ahcompliantbanksfaceareligiousprohibitiononholdingcertaintypesofassets,suchasinterest-bearingdebtsecurities.

Evenin jurisdictionsthathaveasufficientsupplyofHQLA,aninsurmountableimpedimenttotheabilityofShari’ahcompliantbanks tomeettheLCRrequirementmaystillexist.

In such cases,nationalsupervisorsinjurisdictionsinwhichShari’ahcompliantbanksoperatehavethediscretiontodefineShari’ahcompliantfinancialproducts(suchasSukuk)asalternativeHQLAapplicabletosuchbanks only,subjecttosuchconditionsorhaircutsthatthesupervisorsmayrequire.

ItshouldbenotedthattheintentionofthistreatmentisnottoallowShari’ahcompliantbanks to holdfewerHQLA.

TheminimumLCRstandard,calculatedbasedonalternativeHQLA(post-haircut)recognisedasHQLAforthesebanks,shouldnotbelowerthantheminimumLCRstandardapplicable tootherbanksin thejurisdictionconcerned.

NationalsupervisorsapplyingsuchtreatmentforShari’ahcompliantbanksshouldcomplywithsupervisorymonitoringanddisclosureobligationssimilartothosesetoutinparagraph66above.

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B.Totalnetcashoutflows

69.The termtotalnetcashoutflowsisdefinedasthetotalexpectedcashoutflowsminustotalexpectedcashinflowsinthespecifiedstressscenarioforthesubsequent30calendardays.

Totalexpectedcash outflowsarecalculatedbymultiplyingtheoutstandingbalancesofvarious categoriesortypesofliabilitiesand

off-balancesheetcommitmentsbytheratesatwhichtheyareexpectedtorunofforbedrawndown.

Totalexpectedcashinflowsarecalculatedbymultiplyingtheoutstandingbalancesofvariouscategoriesofcontractualreceivablesbytheratesatwhichtheyareexpected to flow inunderthescenarioup to anaggregatecap of75%oftotalexpectedcashoutflows.

Whilemostroll-offrates,draw-downratesandsimilarfactorsareharmonisedacrossjurisdictionsasoutlinedinthisstandard,afewparametersaretobedeterminedbysupervisoryauthoritiesatthenationallevel.

Wherethisisthecase,theparametersshouldbetransparentandmadepubliclyavailable.

Annex4providesasummaryofthefactorsthatareapplied to eachcategory.

Bankswillnotbepermittedtodoublecountitems,ieifanassetisincludedaspartofthe“stockofHQLA”(iethenumerator),theassociated cashinflowscannotalsobecountedascashinflows(iepartofthedenominator).

Wherethereispotentialthatanitemcouldbecountedinmultipleoutflowcategories,(egcommittedliquidityfacilitiesgrantedto coverdebt

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  • maturingwithinthe30 calendardayperiod),abankonlyhasto assumeuptothemaximumcontractualoutflow forthatproduct.

  • 1.Cashoutflows

  • (i)Retaildepositrun-off

  • Retaildepositsaredefinedasdepositsplacedwithabankbyanaturalperson.

  • Depositsfromlegalentities,soleproprietorshipsorpartnershipsarecapturedinwholesaledeposit categories.

  • RetaildepositssubjecttotheLCRincludedemanddepositsandtermdeposits,unlessotherwiseexcludedunderthecriteriasetoutinparagraphs82and83.

  • Theseretaildepositsaredividedinto“stable”and“lessstable”portionsoffundsasdescribedbelow,withminimumrun-offrateslistedforeach category.

  • Therun-offratesforretaildepositsareminimumfloors,withhigherrun-offratesestablishedbyindividualjurisdictionsasappropriatetocapturedepositorbehaviourinaperiodofstressineachjurisdiction.

  • (a)Stabledeposits(run-offrate=3%andhigher)

  • Stabledeposits,whichusuallyreceivearun-offfactorof5%,aretheamountofthedepositsthatarefullyinsuredbyaneffectivedepositinsuranceschemeorbyapublicguaranteethatprovidesequivalentprotectionandwhere:

    • thedepositorshaveotherestablishedrelationshipswiththebankthatmakedepositwithdrawalhighlyunlikely;or

    • thedepositsareintransactionalaccounts(egaccountswheresalariesareautomaticallydeposited).

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  • 76.Forthepurposesofthisstandard,an“effectivedepositinsurancescheme”referstoascheme

  • Thatguaranteesthatithastheabilitytomakepromptpayouts,

  • Forwhichthecoverageisclearlydefinedand

  • Ofwhichpublicawarenessishigh.

  • Thedepositinsurerinaneffectivedepositinsuranceschemehasformallegalpowerstofulfilitsmandateandisoperationallyindependent,transparentandaccountable.

  • Ajurisdictionwithanexplicitandlegallybindingsovereigndepositguaranteethateffectivelyfunctionsasdepositinsurance canberegardedashavinganeffectivedepositinsurancescheme.

  • Thepresenceofdepositinsurancealoneisnotsufficienttoconsideradeposit“stable”.

  • Jurisdictionsmaychoosetoapplyarun-offrateof3%tostabledepositsintheirjurisdiction,iftheymeettheabovestabledepositcriteriaandthefollowingadditionalcriteriafordepositinsuranceschemes:

    • theinsuranceschemeisbasedonasystemofprefundingviatheperiodiccollectionofleviesonbanks withinsureddeposits;

    • theschemehasadequatemeansofensuringreadyaccesstoadditionalfundingintheeventofalargecallonitsreserves,eganexplicitandlegallybindingguaranteefromthegovernment,orastandingauthoritytoborrowfromthegovernment

    • accesstoinsureddepositsisavailable todepositorsinashortperiod oftimeoncethedepositinsuranceschemeistriggered.

  • Jurisdictionsapplyingthe3%run-offrateto stabledepositswithdepositinsurancearrangementsthatmeettheabovecriteriashouldbeableto

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provideevidenceofrun-offratesforstabledepositswithinthebankingsystembelow3%duringanyperiodsofstressexperiencedthatareconsistentwiththeconditionswithintheLCR.

(b)Lessstabledeposits(run-offrates=10%andhigher)

Supervisoryauthoritiesareexpectedtodevelopadditionalbucketswithhigherrunoffratesasnecessarytoapplytobucketsofpotentiallylessstableretaildepositsintheirjurisdictions,withaminimumrun-offrateof10%.

Thesejurisdiction-specificrun-offratesshouldbeclearlyoutlinedand publiclytransparent.

Bucketsoflessstabledepositscouldincludedepositsthatarenotfullycoveredbyaneffectivedepositinsuranceschemeorsovereigndepositguarantee,high-valuedeposits,depositsfromsophisticatedorhighnetworthindividuals,depositsthat canbewithdrawnquickly(eginternetdeposits)andforeigncurrencydeposits,asdeterminedby eachjurisdiction.

Ifabankisnotable to readilyidentifywhichretaildepositswouldqualifyas“stable”accordingtothe abovedefinition(egthebankcannotdeterminewhichdepositsarecoveredbyaneffectivedepositinsuranceschemeorasovereigndepositguarantee),itshouldplacethefullamountinthe“lessstable”bucketsasestablishedbyitssupervisor.

Foreigncurrencyretaildepositsaredepositsdenominatedinanyothercurrencythanthedomesticcurrencyinajurisdictioninwhichthebankoperates.

Supervisorswilldeterminetherun-offfactorthatbanksintheirjurisdictionshoulduseforforeigncurrencydeposits.

Foreign currencydepositswillbeconsideredas“lessstable”ifthereisareasontobelievethatsuchdepositsaremorevolatilethandomesticcurrencydeposits.

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Factorsaffectingthevolatilityofforeigncurrencydepositsincludethetypeandsophisticationofthedepositors,andthenatureofsuchdeposits(egwhetherthedepositsarelinked tobusinessneedsinthesamecurrency,orwhetherthedepositsareplacedinasearchforyield).

Cashoutflowsrelatedtoretailtermdepositswitharesidualmaturityorwithdrawalnoticeperiodofgreaterthan30dayswillbeexcludedfromtotalexpectedcashoutflowsifthedepositorhasnolegalright towithdrawdepositswithinthe30-dayhorizonoftheLCR,orifearlywithdrawalresultsinasignificantpenaltythatismateriallygreaterthanthelossof interest.

Ifabankallowsadepositortowithdrawsuchdepositswithoutapplyingthecorrespondingpenalty,ordespiteaclausethatsaysthedepositorhasnolegalrighttowithdraw,theentirecategoryofthesefundswouldthenhave tobetreatedasdemanddeposits(ieregardlessoftheremainingterm,thedepositswouldbesubjecttothedepositrun-off ratesasspecifiedinparagraphs74-81).

Supervisorsin eachjurisdictionmaychoosetooutlineexceptionalcircumstancesthatwouldqualifyashardship,underwhichtheexceptionaltermdepositcouldbewithdrawnbythedepositorwithoutchangingthetreatmentoftheentirepoolofdeposits.

Suchreasonscouldinclude,butarenotlimitedto,supervisoryconcernsthatdepositorswouldwithdrawtermdepositsinasimilarfashionasretaildemanddepositsduringeithernormalorstresstimes,concernthatbanksmayrepaysuchdepositsearlyin stressedtimesforreputationalreasons,orthepresenceofunintendedincentivesonbanks to imposematerialpenaltiesonconsumersifdepositsarewithdrawnearly.

In thesecasessupervisorswouldassessahigherrun-offagainstallorsomeofsuchdeposits.

(ii)Unsecuredwholesalefundingrun-off

85.ForthepurposesoftheLCR,"unsecuredwholesalefunding”isdefinedasthoseliabilitiesandgeneralobligationsthatareraisedfrom

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non-naturalpersons(ielegalentities,includingsoleproprietorshipsand partnerships)andarenotcollateralisedbylegalrights tospecificallydesignatedassetsownedby theborrowinginstitutioninthecaseof bankruptcy, insolvency,liquidationorresolution.

Obligationsrelatedtoderivativecontractsareexplicitlyexcludedfromthisdefinition.

Thewholesalefunding includedintheLCRisdefinedasallfundingthatiscallablewithintheLCR’shorizonof30daysorthathasitsearliestpossiblecontractualmaturitydatesituatedwithinthishorizon(suchasmaturingtermdepositsandunsecureddebtsecurities)aswellasfundingwithanundeterminedmaturity.

Thisshouldincludeallfundingwithoptionsthatareexercisableattheinvestor’s discretionwithinthe30calendardayhorizon.

Forfundingwithoptionsexercisableatthebank’sdiscretion,supervisorsshouldtakeinto accountreputationalfactorsthatmaylimitabank'sabilitynot to exercisetheoption.

In particular,wherethemarketexpectscertainliabilitiestoberedeemed beforetheirlegalfinalmaturitydate,banks andsupervisorsshouldassumesuchbehaviourforthepurposeoftheLCRandincludetheseliabilitiesasoutflows.

Wholesalefundingthatiscallablebythefundsprovidersubject to acontractuallydefinedandbindingnoticeperiodsurpassingthe30-dayhorizonisnotincluded.

ForthepurposesoftheLCR,unsecuredwholesalefundingis tobecategorisedasdetailedbelow,basedontheassumedsensitivityofthefundsproviderstotherateofferedandthecreditqualityandsolvencyoftheborrowingbank.

Thisisdeterminedbythetypeoffundsprovidersandtheirlevelofsophistication,aswellastheiroperationalrelationshipswiththebank.

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Therun-offratesforthescenarioarelistedforeachcategory.

(a)Unsecuredwholesalefundingprovidedbysmallbusinesscustomers:5%,10%andHigher

Unsecuredwholesalefundingprovidedbysmallbusinesscustomersistreatedthesamewayasretaildepositsforthepurposesofthisstandard,effectivelydistinguishingbetweena"stable"portionoffundingprovided bysmallbusinesscustomersanddifferentbucketsoflessstablefundingdefinedby eachjurisdiction.

Thesamebucketdefinitionsandassociatedrun-offfactorsapplyasforretaildeposits.

Thiscategoryconsistsofdepositsandotherextensionsoffundsmadebynonfinancialsmallbusinesscustomers.

“Smallbusinesscustomers”aredefinedinlinewiththedefinitionofloansextended to smallbusinessesinparagraph231oftheBaselIIframeworkthataremanagedasretailexposuresandaregenerallyconsideredashavingsimilarliquidityrisk characteristicstoretailaccountsprovidedthe totalaggregatedfundingraisedfromone

smallbusinesscustomerislessthan€1million(onaconsolidatedbasiswhereapplicable).

Whereabankdoesnothaveanyexposuretoasmallbusinesscustomerthatwouldenableittousethedefinitionunderparagraph231oftheBaselIIFramework,thebankmayincludesuchadepositin thiscategoryprovidedthatthe totalaggregatefundingraisedfromthecustomerislessthan€1million(onaconsolidatedbasiswhereapplicable)andthedepositismanagedasaretaildeposit.

Thismeansthatthebanktreatssuchdepositsin itsinternalriskmanagementsystemsconsistentlyovertimeandinthesamemannerasotherretaildeposits,andthatthedepositsarenotindividuallymanagedinawaycomparable tolargercorporatedeposits.

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  • 92.Termdepositsfromsmallbusinesscustomersshouldbetreatedinaccordancewiththetreatmentfortermretaildepositsasoutlinedinparagraph82,83,and84.

  • (b)Operationaldeposits generatedbyclearing,custodyandcashmanagementactivities:25%

  • Certainactivitieslead to financialandnon-financialcustomersneedingto place,orleave,depositswithabankinordertofacilitatetheiraccessandabilitytousepaymentandsettlementsystemsandotherwisemakepayments.

  • Thesefundsmayreceivea25%run-offfactoronlyifthecustomerhasasubstantivedependencywiththebankandthedepositisrequiredforsuch activities.

  • Supervisoryapproval wouldhavetobegiventoensurethatbanksutilisingthistreatmentactuallyareconductingtheseoperationalactivitiesatthelevelindicated.

  • Supervisorsmaychoosenot topermitbanks toutilisetheoperationaldepositrunoffratesincaseswhere,forexample,asignificantportionofoperationaldepositsareprovidedbyasmallproportionofcustomers(ieconcentrationrisk).

  • Qualifyingactivitiesinthiscontextrefertoclearing,custodyorcashmanagementactivitiesthatmeetthefollowingcriteria:

    • Thecustomerisreliantonthebanktoperformtheseservicesasanindependentthirdpartyintermediaryinordertofulfilitsnormalbankingactivitiesoverthenext30days.

  • Forexample,thisconditionwouldnotbemetifthebankisawarethatthecustomerhasadequateback-uparrangements.

    • Theseservicesmustbeprovidedunderalegallybindingagreementtoinstitutionalcustomers.

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  • - Theterminationofsuchagreementsshallbesubjecteithertoanoticeperiodofatleast30daysorsignificantswitchingcosts(suchasthoserelatedtotransaction,information technology,early terminationorlegalcosts)tobebornebythecustomeriftheoperationaldepositsaremovedbefore30days.

  • Qualifyingoperationaldepositsgeneratedbysuchanactivityareoneswhere:

    • Thedepositsareby-productsoftheunderlyingservicesprovidedby thebankingorganisationandnotsoughtoutinthewholesalemarketinthesoleinterestofofferinginterestincome.

    • Thedepositsareheldin specificallydesignatedaccountsandpricedwithoutgivinganeconomicincentivetothecustomer(notlimitedtopayingmarketinterestrates)toleaveanyexcessfundsontheseaccounts.

  • In thecasethatinterestratesinajurisdictionareclosetozero,itwouldbeexpectedthatsuchaccountsarenoninterestbearing.

  • Banksshouldbeparticularlyawarethatduringprolongedperiodsoflow interestrates,excessbalances (asdefinedbelow)couldbesignificant.

  • Anyexcessbalancesthatcouldbewithdrawnandwouldstillleaveenoughfunds tofulfiltheseclearing,custodyandcashmanagementactivitiesdonotqualifyforthe25%factor.

  • In otherwords,onlythatpartofthedepositbalancewiththeserviceproviderthatisproventoserveacustomer’soperationalneedscanqualifyasstable.

  • Excessbalancesshouldbetreatedintheappropriate categoryfornon-operationaldeposits.

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Ifbanks areunabletodeterminetheamountoftheexcessbalance,thentheentiredepositshouldbeassumedtobeexcessto requirementsand,therefore,considerednon-operational.

Banksmustdeterminethemethodologyfor identifyingexcessdepositsthatareexcludedfromthistreatment.

Thisassessmentshouldbeconductedata sufficientlygranularleveltoadequatelyassesstherisk ofwithdrawalin anidiosyncraticstress.

Themethodologyshouldtake into accountrelevantfactorssuchasthelikelihoodthatwholesalecustomershave aboveaveragebalancesinadvanceofspecificpaymentneeds,andconsiderappropriateindicators(egratiosofaccountbalances topaymentorsettlementvolumesortoassetsundercustody)toidentifythosecustomersthatarenotactivelymanagingaccountbalancesefficiently.

Operationaldepositswouldreceivea0%inflow assumptionforthedepositingbankgiventhatthesedepositsarerequiredforoperationalreasons,andarethereforenotavailabletothedepositingbanktorepayotheroutflows.

Notwithstandingtheseoperationalcategories,ifthedepositunderconsiderationarisesoutofcorrespondentbankingorfromtheprovision ofprimebrokerageservices,itwillbetreatedasiftherewerenooperationalactivityforthepurposeofdeterminingrun-offfactors.42

Thefollowingparagraphsdescribethetypesofactivitiesthatmaygenerateoperationaldeposits.

Abankshouldassesswhetherthepresenceofsuchanactivitydoesindeedgenerateanoperationaldepositasnotallsuchactivitiesqualifyduetodifferencesincustomerdependency,activityandpractices.

Aclearingrelationship, in thiscontext,referstoaservicearrangementthatenablescustomers totransferfunds(orsecurities)indirectlythroughdirectparticipantsindomesticsettlementsystemstofinalrecipients.

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Suchservicesarelimitedtothefollowingactivities:transmission,reconciliationandconfirmationofpaymentorders;daylightoverdraft,overnightfinancingandmaintenanceofpost-settlementbalances;and determinationofintra-dayandfinalsettlementpositions.

Acustodyrelationship, in thiscontext,referstotheprovisionofsafekeeping,reporting, processingofassetsorthefacilitationoftheoperationalandadministrativeelementsofrelated activitiesonbehalfofcustomersintheprocessoftheirtransactingandretainingfinancialassets.

Suchservicesarelimitedtothesettlementofsecuritiestransactions,thetransferofcontractualpayments,theprocessingofcollateral,andtheprovisionofcustodyrelatedcashmanagementservices.

Alsoincludedarethereceiptofdividendsandother income,clientsubscriptionsandredemptions.

Custodialservicescanfurthermoreextendtoassetandcorporatetrustservicing,treasury,escrow,fundstransfer,stocktransferandagencyservices, includingpaymentandsettlementservices(excludingcorrespondentbanking),anddepositoryreceipts.

Acashmanagementrelationship,inthiscontext,refersto theprovisionofcashmanagementandrelatedservices to customers.

Cashmanagementservices,inthiscontext,referstothoseproductsandservicesprovided toacustomertomanageitscashflows,assetsandliabilities,andconductfinancialtransactionsnecessarytothecustomer’songoingoperations.

Suchservicesarelimitedtopaymentremittance,collectionandaggregationoffunds,payrolladministration,andcontroloverthedisbursementoffunds.

Theportionoftheoperationaldepositsgeneratedbyclearing,custodyand cashmanagementactivitiesthatisfullycoveredbydepositinsurance canreceivethesametreatmentas“stable”retaildeposits

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(c)Treatmentofdepositsininstitutionalnetworksofcooperativebanks:25%or100%

105.Aninstitutionalnetworkofcooperative(orotherwisenamed)banksisagroupoflegallyautonomousbankswithastatutoryframeworkofcooperationwithcommonstrategicfocusandbrandwherespecificfunctionsareperformedbycentralinstitutionsorspecializedserviceproviders.

A25%run-offratecanbegiven totheamount ofdepositsofmemberinstitutionswiththecentralinstitutionorspecialisedcentralserviceprovidersthatareplaced

due tostatutoryminimumdepositrequirements,whichareregisteredatregulatorsor

inthecontextofcommontasksharingandlegal,statutoryorcontractualarrangementssolongasboththebankthathasreceivedthemoniesandthebankthathasdepositedparticipateinthesameinstitutionalnetwork’s mutualprotectionschemeagainstilliquidityandinsolvencyofitsmembers.

Aswithotheroperationaldeposits,thesedepositswouldreceivea0%inflow assumptionforthedepositingbank,asthesefundsareconsideredtoremainwiththecentralisedinstitution.

106.Supervisoryapprovalwouldhavetobe giventoensurethatbanksutilisingthistreatmentactuallyare thecentralinstitutionoracentralserviceproviderofsuchacooperative(orotherwisenamed)network.

Correspondentbankingactivitieswouldnotbeincludedinthistreatmentandwouldreceivea100%outflowtreatment,aswouldfundsplacedatthecentralinstitutionsorspecialisedserviceprovidersforanyotherreasonotherthanthoseoutlinedin (a)and(b)intheparagraphabove,orforoperationalfunctionsofclearing,custody,orcashmanagementasoutlinedinparagraphs101-103.

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(d)Unsecuredwholesalefundingprovidedbynon-financialcorporatesandsovereigns,centralbanks,multilateraldevelopmentbanks, andPSEs:20%or40%

Thiscategorycomprisesalldepositsandotherextensionsof unsecuredfundingfromnon-financialcorporatecustomers(thatarenotcategorisedassmallbusinesscustomers)and(bothdomesticandforeign)sovereign,centralbank,multilateraldevelopmentbank,andPSEcustomersthatarenotspecificallyheldforoperationalpurposes(asdefinedabove).

Therun-offfactorforthesefundsis40%,unlessthecriteriain paragraph108aremet.

Unsecuredwholesalefundingprovidedbynon-financialcorporatecustomers,sovereigns,centralbanks,multilateraldevelopmentbanks,andPSEswithoutoperationalrelationships canreceivea20%run-offfactoriftheentireamount ofthedepositisfullycoveredbyaneffectivedepositinsuranceschemeorbyapublicguaranteethatprovidesequivalentprotection.

(e)Unsecuredwholesalefundingprovidedbyother legalentitycustomers:100%

Thiscategoryconsistsofalldepositsandotherfundingfrom otherinstitutions(includingbanks,securitiesfirms,insurancecompanies,etc),fiduciaries,beneficiaries,conduitsandspecialpurposevehicles,affiliatedentitiesofthebankandotherentitiesthatarenotspecificallyheldforoperationalpurposes(asdefinedabove)andnotincludedinthe

priorthree categories.

Therun-offfactorforthesefundsis100%.

Allnotes,bondsandotherdebtsecuritiesissuedbythebankareincludedinthis categoryregardlessoftheholder,unlessthebondissoldexclusivelyintheretailmarketandheldinretailaccounts(including

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smallbusinesscustomeraccountstreatedasretailperparagraphs89-91),inwhichcase theinstruments canbetreatedintheappropriateretailorsmallbusinesscustomerdepositcategory.

Tobetreatedinthismanner,itisnotsufficientthatthedebtinstrumentsarespecificallydesignedandmarketed toretailorsmallbusinesscustomers.

Ratherthereshouldbelimitationsplacedsuchthatthoseinstrumentscannotbeboughtandheldbypartiesotherthanretailorsmallbusinesscustomers.

111.Customercashbalancesarisingfromtheprovisionofprimebrokerageservices,includingbutnotlimited to thecasharisingfromprimebrokerageservicesasidentifiedinparagraph99,shouldbeconsideredseparatefromanyrequiredsegregatedbalancesrelated

toclientprotectionregimesimposedbynationalregulations,andshould notbenettedagainstothercustomerexposuresincludedinthisstandard.

Theseoffsettingbalancesheldinsegregatedaccountsaretreatedasinflowsinparagraph154andshouldbeexcludedfromthestock ofHQLA.

(iii)Securedfundingrun-off

Forthepurposesofthisstandard,“securedfunding”isdefinedasthoseliabilitiesandgeneralobligationsthatarecollateralisedbylegalrightstospecificallydesignatedassetsownedby theborrowinginstitutioninthe caseofbankruptcy,insolvency,liquidationorresolution.

Lossofsecuredfundingonshort-termfinancingtransactions:Inthisscenario,theabilitytocontinue totransactrepurchase,reverserepurchaseand othersecuritiesfinancingtransactionsislimited totransactionsbackedbyHQLAorwiththebank’sdomestic

sovereign,PSEorcentralbank.

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Collateralswapsshouldbetreatedasrepurchaseorreverserepurchaseagreements,asshouldanyothertransactionwithasimilarform.

Additionally,collaterallent to thebank’scustomers to effectshortpositionsshouldbetreatedasaformofsecuredfunding.

Forthescenario,abankshouldapplythefollowingfactorstoalloutstandingsecuredfundingtransactionswithmaturitieswithinthe30calendardaystresshorizon, includingcustomershortpositionsthatdonothaveaspecifiedcontractualmaturity.

The amountofoutflow is calculatedbasedonthe amountoffundsraisedthroughthetransaction,andnotthevalueoftheunderlyingcollateral.

Due to thehigh-qualityofLevel1assets,noreductioninfundingavailabilityagainsttheseassetsisassumedto occur.

Moreover,noreductioninfundingavailabilityisexpectedforanymaturingsecuredfundingtransactionswiththebank’sdomesticcentralbank.

AreductioninfundingavailabilitywillbeassignedtomaturingtransactionsbackedbyLevel2assetsequivalent to therequiredhaircuts.

A25%factorisappliedformaturingsecuredfundingtransactionswiththebank’sdomesticsovereign,multilateraldevelopmentbanks,ordomesticPSEsthathavea20%orlowerriskweight,whenthetransactionsarebackedbyassetsotherthanLevel1orLevel2Aassets,inrecognitionthattheseentitiesareunlikely towithdrawsecuredfundingfrombanks inatimeofmarket-widestress.

This,however,givescreditonlyforoutstandingsecuredfundingtransactions,andnotforunusedcollateralormerely thecapacitytoborrow.

Forallothermaturingtransactionstherun-offfactoris100%,includingtransactionswhereabankhassatisfiedcustomers’shortpositionswithits ownlong inventory.

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Thetablebelowsummarisestheapplicablestandards:

(iv)Additionalrequirements

Derivativescashoutflows:thesumofall netcashoutflowsshouldreceivea100%factor.

Banksshouldcalculate, in accordancewiththeirexistingvaluationmethodologies,expectedcontractualderivativecashinflowsandoutflows.

Cashflowsmaybecalculatedonanetbasis(ieinflowscanoffsetoutflows)bycounterparty,onlywhereavalidmasternettingagreementexists.

Banksshouldexcludefromsuchcalculationsthoseliquidityrequirementsthatwouldresultfromincreasedcollateralneedsduetomarketvaluemovementsorfallsin valueofcollateralposted.

Optionsshouldbeassumedtobeexercisedwhentheyare‘inthemoney’totheoptionbuyer.

Wherederivativepaymentsarecollateralisedby HQLA,cash outflowsshouldbecalculatednetofanycorrespondingcashorcollateralinflowsthatwouldresult,allotherthingsbeingequal,fromcontractual

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obligationsforcashorcollateraltobeprovidedtothebank,ifthebankislegallyentitledandoperationally capable to re-usethecollateralin newcashraisingtransactionsonce thecollateralisreceived.

Thisisinlinewiththeprinciplethatbanks shouldnotdoublecountliquidityinflowsandoutflows.

Increasedliquidityneedsrelatedtodowngradetriggersembeddedinfinancingtransactions,derivativesandothercontracts:(100%oftheamountofcollateralthatwouldbepostedfor,orcontractualcash outflowsassociatedwith,anydowngradeuptoandincludinga3-notchdowngrade).

Often,contractsgoverningderivativesandothertransactionshaveclausesthatrequirethepostingofadditionalcollateral,drawdownofcontingentfacilities,orearlyrepaymentofexistingliabilitiesuponthebank’sdowngradebyarecognisedcreditratingorganisation.

Thescenariothereforerequiresthatforeachcontractinwhich“downgradetriggers”exist,thebankassumesthat100%ofthisadditionalcollateralorcashoutflow willhavetobepostedforanydowngradeup toandincludinga3-notchdowngradeofthebank’slong-termcreditrating.

Triggerslinkedtoabank’sshort-termratingshouldbeassumedtobetriggeredatthecorrespondinglong-termrating in accordancewith publishedratingscriteria.

Theimpactofthedowngradeshouldconsiderimpactsonalltypesofmargincollateralandcontractualtriggerswhichchangerehypothecationrightsfornon-segregatedcollateral.

Increasedliquidityneedsrelatedtothepotentialforvaluationchangesonpostedcollateralsecuringderivativeandothertransactions:(20%ofthevalueofnon-Level1postedcollateral).

Observationofmarketpracticesindicatesthatmostcounterpartiestoderivativestransactionstypicallyarerequired to secure the

mark-to-marketvaluationoftheirpositionsandthatthisispredominantly

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doneusingcashorsovereign,centralbank, multilateraldevelopmentbanks,orPSEdebtsecuritieswitha0%riskweightundertheBaselIIstandardisedapproach.

WhentheseLevel1liquidassetsecuritiesarepostedascollateral,theframeworkwillnotrequirethatanadditionalstock ofHQLAbemaintainedforpotentialvaluationchanges.

Ifhowever,counterpartiesaresecuringmark-to-marketexposureswithotherformsofcollateral,to coverthepotentiallossofmarketvalueonthosesecurities,20%ofthevalueofallsuchpostedcollateral, netofcollateralreceivedonacounterpartybasis(providedthatthecollateralreceivedisnotsubjectto restrictionsonreuseorrehypothecation)willbeaddedtothestockofrequiredHQLAbythebankpostingsuchcollateral.

This20%willbecalculatedbasedonthenotionalamountrequiredtobepostedascollateralafteranyotherhaircutshavebeenappliedthatmaybeapplicabletothecollateralcategory.

Anycollateralthatisin asegregatedmarginaccount can onlybeused tooffsetoutflowsthatareassociatedwithpaymentsthatareeligible tobeoffsetfromthatsameaccount.

Increasedliquidityneedsrelatedtoexcessnon-segregatedcollateralheldbythebankthatcouldcontractuallybecalledatanytimebythecounterparty:100%ofthenon-segregatedcollateralthatcouldcontractuallyberecalledbythecounterpartybecausethecollateralisinexcessofthecounterparty’scurrentcollateralrequirements.

Increasedliquidityneedsrelatedtocontractuallyrequiredcollateralontransactionsforwhichthecounterpartyhasnotyetdemandedthecollateralbeposted:100%ofthecollateralthatiscontractuallyduebutwherethecounterpartyhasnotyetdemandedthepostingofsuchcollateral.

Increasedliquidityneedsrelatedtocontractsthatallow collateralsubstitutiontonon-HQLAassets:100%oftheamountofHQLA

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collateralthatcanbesubstitutedfornon-HQLAassetswithoutthebank’sconsentthathavebeenreceivedtosecuretransactionsthathavenotbeensegregated.

Increasedliquidityneedsrelatedtomarketvaluationchangesonderivativeorothertransactions:Asmarketpracticerequirescollateralisationofmark-to-marketexposuresonderivativeandothertransactions,banksfacepotentiallysubstantialliquidityriskexposurestothesevaluationchanges.Inflowsandoutflowsoftransactionsexecutedunderthesamemasternettingagreement canbetreatedonanetbasis.

Anyoutflow generatedbyincreasedneedsrelatedtomarketvaluationchangesshouldbeincludedintheLCRcalculatedbyidentifyingthelargestabsolutenet30-daycollateralflowrealisedduringthepreceding24months.

The absolutenetcollateralflow isbasedonbothrealisedoutflowsandinflows.Supervisorsmayadjustthetreatmentflexiblyaccordingtocircumstances.

Lossoffundingonasset-backedsecurities,49coveredbondsandotherstructuredfinancinginstruments:Thescenarioassumestheoutflow of100%ofthefundingtransactionmaturingwithinthe30-dayperiod,whentheseinstrumentsareissuedbythebankitself(as thisassumesthatthere-financingmarketwillnotexist).

Lossoffundingonasset-backedcommercialpaper,conduits,securitiesinvestmentvehiclesandothersuchfinancingfacilities:(100%ofmaturingamountand100%ofreturnableassets).

Bankshavingstructuredfinancingfacilitiesthatincludetheissuanceofshort-termdebtinstruments,suchasassetbackedcommercialpaper,shouldfullyconsiderthepotentialliquidityrisk arisingfromthesestructures.

Theserisks include,butarenotlimitedto,

(i)theinabilitytorefinancematuringdebt,and

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(ii)theexistenceofderivativesorderivative-like componentscontractuallywrittenintothedocumentationassociatedwiththestructurethatwouldallow the“return”ofassets inafinancingarrangement,orthatrequire theoriginalassettransferortoprovideliquidity,effectivelyendingthefinancingarrangement(“liquidityputs”)withinthe30-dayperiod.

Wherethestructuredfinancingactivitiesofabankareconductedthroughaspecialpurposeentity50(suchasaspecialpurposevehicle,conduitorstructuredinvestmentvehicle-SIV),thebankshould,indeterminingtheHQLArequirements,lookthrough tothematurityofthedebtinstrumentsissuedbytheentityandanyembeddedoptionsin financingarrangementsthatmaypotentiallytriggerthe“return”ofassetsortheneedforliquidity,irrespectiveofwhetherornottheSPVisconsolidated.

126.Drawdownsoncommittedcreditandliquidityfacilities:Forthepurposeofthestandard,creditandliquidityfacilitiesaredefinedasexplicitcontractualagreementsorobligations toextendfundsatafuturedatetoretailorwholesalecounterparties.

Forthepurposeofthestandard,thesefacilitiesonlyincludecontractuallyirrevocable(“committed”)orconditionallyrevocableagreements toextendfundsinthefuture.

Unconditionallyrevocablefacilitiesthatareunconditionally cancellablebythebank(inparticular,thosewithoutapreconditionofamaterialchangeinthecreditconditionoftheborrower)areexcludedfromthissectionandincludedin “OtherContingentFundingLiabilities”.

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Theseoffbalancesheetfacilitiesorfundingcommitments canhavelongorshort-termmaturities,withshort-termfacilitiesfrequentlyrenewingorautomaticallyrolling-over.

In astressedenvironment,itwilllikelybedifficultforcustomersdrawingonfacilitiesofanymaturity,evenshort-termmaturities,tobeabletoquicklypaybacktheborrowings.

Therefore,forpurposesofthisstandard,allfacilitiesthatareassumed tobedrawn(asoutlinedintheparagraphsbelow)willremainoutstandingat theamountsassignedthroughoutthedurationofthetest,regardlessofmaturity.

Forthepurposesofthisstandard,thecurrentlyundrawnportionofthesefacilitiesiscalculatednetofanyHQLAeligibleforthestockofHQLA,iftheHQLAhavealreadybeenpostedascollateralbythecounterpartytosecurethefacilitiesorthatarecontractuallyobligedtobepostedwhenthecounterpartywilldrawdownthefacility(egaliquidityfacilitystructuredasarepofacility),ifthebankislegallyentitledandoperationally capable to re-usethecollateralin newcashraisingtransactionsoncethefacilityisdrawn,andthereisnounduecorrelation betweentheprobabilityofdrawingthefacilityandthemarketvalueofthecollateral.

Thecollateralcanbenettedagainsttheoutstandingamountofthefacility totheextentthatthis collateralisnotalreadycountedinthestockofHQLA,inlinewiththeprincipleinparagraph72thatitemscannotbedouble-countedinthestandard.

Aliquidityfacilityisdefinedasanycommitted,undrawnback-upfacilitythatwouldbeutilised to refinancethedebtobligationsofacustomer insituationswheresuchacustomerisunable to rolloverthatdebtinfinancialmarkets(egpursuanttoacommercialpaperprogramme,securedfinancingtransactions,obligations to redeemunits,etc).

Forthepurposeofthisstandard,theamountofthecommitment tobetreatedasaliquidityfacilityistheamountofthecurrentlyoutstanding

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debtissuedbythecustomer(orproportionateshare,ifasyndicatedfacility)maturingwithina30dayperiodthatisbackstoppedbythefacility.

Theportionofaliquidityfacilitythatisbackingdebtthatdoesnotmaturewithinthe30-daywindow isexcludedfromthescopeofthedefinitionofafacility.

Anyadditionalcapacityofthefacility(ietheremainingcommitment)wouldbetreatedasacommittedcreditfacilitywithitsassociated drawdownrateasspecifiedinparagraph131.

Generalworkingcapitalfacilitiesforcorporateentities(egrevolvingcreditfacilitiesinplaceforgeneralcorporateorworkingcapitalpurposes)willnotbeclassifiedasliquidityfacilities,butascreditfacilities.

Notwithstandingtheabove,anyfacilitiesprovided tohedgefunds,moneymarket fundsandspecialpurposefundingvehicles,forexampleSPEs(asdefinedinparagraph125)orconduits,orothervehiclesusedtofinancethebanksownassets,shouldbecapturedin theirentiretyasaliquidityfacility to otherlegalentities.

Forthatportionoffinancingprogramsthatarecaptured inparagraphs124and125(iearematuringorhaveliquidityputsthatmaybeexercisedinthe30-dayhorizon),banks thatareprovidersofassociatedliquidityfacilitiesdonotneed todoublecountthematuringfinancinginstrumentandtheliquidityfacilityforconsolidatedprograms.

Anycontractualloan drawdownsfromcommittedfacilities51andestimateddrawdownsfromrevocablefacilitieswithinthe30-dayperiodshouldbefullyreflectedasoutflows.

(a)Committedcreditandliquidityfacilitiestoretailandsmallbusinesscustomers:

Banksshouldassumea5%drawdownoftheundrawnportionofthesefacilities.

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Committedcreditfacilitiestonon-financialcorporates,sovereignsandcentralbanks,PSEsandmultilateraldevelopmentbanks:Banksshouldassumea10%drawdownoftheundrawnportionofthesecreditfacilities.

Committedliquidityfacilitiestonon-financialcorporates,sovereignsandcentralbanks,PSEs,andmultilateraldevelopmentbanks:Banksshouldassumea30%drawdownoftheundrawnportionoftheseliquidityfacilities.

Committedcreditandliquidityfacilitiesextendedtobankssubjecttoprudentialsupervision:Banksshouldassumea40%drawdownoftheundrawnportionofthesefacilities.

Committedcreditfacilitiestootherfinancialinstitutionsincludingsecuritiesfirms,insurancecompanies,fiduciariesandbeneficiaries:Banksshouldassumea40%drawdownoftheundrawnportionofthesecreditfacilities.

Committedliquidityfacilitiestootherfinancialinstitutionsincludingsecuritiesfirms,insurancecompanies,fiduciaries,andbeneficiaries:Banksshouldassumea100%drawdownoftheundrawnportionoftheseliquidityfacilities.

Committedcreditandliquidityfacilitiestootherlegalentities(includingSPEs(asdefinedonparagraph125),conduitsandspecial purposevehicles,54andotherentitiesnotincludedinthepriorcategories):Banks shouldassumea100%drawdownoftheundrawn portionofthesefacilities.

Contractualobligations to extendfundswithina30-dayperiod.Anycontractuallendingobligationstofinancialinstitutionsnotcapturedelsewhereinthisstandardshouldbecapturedhereata100%outflowrate.

Ifthe totalofallcontractualobligationstoextendfundstoretailand non-financialcorporateclientswithinthenext30calendardays(notcapturedinthepriorcategories)exceeds50%ofthetotalcontractual

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inflowsdueinthenext30 calendardaysfromtheseclients,thedifferenceshouldbereportedasa100%outflow.

Othercontingentfundingobligations:(run-offratesatnationaldiscretion).

Nationalsupervisorswillworkwithsupervisedinstitutionsintheirjurisdictions todeterminetheliquidityrisk impactofthesecontingentliabilitiesandtheresultingstockofHQLAthatshouldaccordinglybemaintained.

Supervisorsshoulddisclosetherun-offratestheyassigntoeachcategorypublicly.

Thesecontingentfundingobligationsmaybeeithercontractualornon-contractualandarenotlendingcommitments.

Non-contractualcontingentfundingobligationsincludeassociationswith,orsponsorshipof,productssoldorservicesprovidedthatmayrequirethesupportorextensionoffundsin thefutureunderstressedconditions.

Non-contractualobligationsmaybeembeddedinfinancialproductsandinstrumentssold,sponsored,ororiginatedbytheinstitutionthatcangiverise tounplannedbalancesheetgrowtharisingfromsupportgivenforreputationalrisk considerations.

Theseincludeproductsandinstrumentsforwhichthecustomerorholderhasspecific expectationsregardingtheliquidityandmarketabilityoftheproductor instrumentandforwhichfailure tosatisfycustomerexpectationsin acommerciallyreasonablemannerwouldlikelycausematerialreputationaldamagetotheinstitutionorotherwiseimpairongoingviability.

Someofthesecontingentfundingobligationsareexplicitlycontingentuponacreditorothereventthatisnotalwaysrelatedtotheliquidityeventssimulatedinthestressscenario,butmayneverthelesshave thepotentialtocausesignificantliquiditydrainsintimesofstress.

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  • Forthisstandard,eachsupervisorandbankshouldconsiderwhichofthese“othercontingentfundingobligations”maymaterialiseundertheassumedstressevents.

  • Thepotentialliquidityexposurestothesecontingentfundingobligationsaretobetreatedasanationallydeterminedbehaviouralassumptionwhereitisuptothesupervisortodeterminewhetherand towhatextent thesecontingentoutflowsare to beincludedintheLCR.

  • Allidentifiedcontractualandnon-contractualcontingentliabilitiesandtheirassumptionsshouldbereported,alongwiththeirrelatedtriggers.

  • Supervisorsandbanks should,ataminimum,usehistoricalbehaviourin determiningappropriateoutflows.

  • Noncontractualcontingentfundingobligationsrelatedtopotentialliquiditydrawsfromjointventuresorminorityinvestmentsinentities,whicharenotconsolidatedperparagraph164shouldbecapturedwherethereistheexpectationthatthebankwillbethemainliquidityproviderwhentheentityisinneedofliquidity.

  • The amountincludedshouldbecalculatedinaccordancewiththemethodologyagreedbythebank’ssupervisor.

  • Inthecaseofcontingentfundingobligationsstemmingfromtradefinanceinstruments,nationalauthoritiescanapplyarelativelylowrun-offrate(eg5%orless).

  • Tradefinanceinstrumentsconsistoftrade-relatedobligationsdirectlyunderpinnedbythemovementofgoodsortheprovisionofservices,suchas:

    • documentarytradelettersofcredit,documentaryandcleancollection,importbills,andexportbills;and

    • guaranteesdirectlyrelatedtotradefinanceobligations,suchasshippingguarantees.

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  • Lendingcommitments,suchasdirectimportorexportfinancingfornon-financialcorporatefirms,areexcludedfromthistreatmentand bankswillapply thedraw-downratesspecifiedinparagraph131.

  • Nationalauthoritiesshoulddeterminetherun-offratesfortheothercontingentfundingobligationslistedbelow in accordancewith paragraph134.

  • Othercontingentfundingobligationsincludeproductsandinstrumentssuchas:

    • unconditionallyrevocable"uncommitted"creditandliquidityfacilities;

    • guaranteesandlettersofcreditunrelatedto tradefinanceobligations(asdescribedinparagraph138);

    • non-contractualobligationssuchas:

    • potentialrequestsfordebtrepurchasesofthebank's owndebtorthatofrelatedconduits,securitiesinvestmentvehiclesand othersuchfinancingfacilities;

    • structuredproductswherecustomersanticipatereadymarketability,suchasadjustableratenotesandvariableratedemandnotes(VRDNs);and

    • managedfundsthataremarketedwiththe objectiveofmaintainingastablevaluesuchasmoneymarketmutualfundsorothertypesofstablevalue collectiveinvestmentfundsetc.

    • Forissuerswithanaffiliateddealerormarketmaker,theremaybeaneed to includeanamount oftheoutstandingdebtsecurities(unsecuredandsecured,termaswellasshort-term)havingmaturitiesgreaterthan30calendardays,to coverthepotentialrepurchaseofsuchoutstandingsecurities.

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- Noncontractualobligationswherecustomershortpositionsarecoveredbyothercustomers’collateral:Aminimum50%run-offfactorofthecontingentobligationsshouldbeappliedwherebankshaveinternallymatchedclientassetsagainstotherclients’shortpositionswherethe collateraldoesnotqualifyasLevel1orLevel2,andthebankmaybeobligatedto findadditionalsourcesoffundingforthesepositionsintheeventofclient withdrawals.

141.Othercontractualcashoutflows:(100%).Any othercontractualcash outflowswithinthenext30calendardaysshouldbe capturedin thisstandard,suchasoutflowstocoverunsecuredcollateralborrowings,uncoveredshortpositions,dividendsorcontractualinterestpayments,withexplanationgivenastowhatcomprisesthisbucket.

Outflowsrelatedtooperatingcosts,however,arenotincludedinthisstandard.

2.Cashinflows

Whenconsideringitsavailablecashinflows,thebankshouldonlyincludecontractualinflows(includinginterestpayments)fromoutstandingexposuresthatarefullyperformingandforwhichthebankhasnoreason toexpectadefaultwithinthe30-daytimehorizon.

Contingentinflowsarenotincludedintotalnetcashinflows.

Banksandsupervisorsneedtomonitortheconcentrationofexpectedinflowsacrosswholesalecounterpartiesinthecontextofbanks’liquiditymanagementinordertoensurethattheirliquiditypositionisnotoverlydependentonthearrivalofexpectedinflowsfromoneoralimitednumberofwholesalecounterparties.

Capontotalinflows:Inordertopreventbanksfromrelyingsolelyonanticipatedinflowstomeettheirliquidityrequirement,andalsotoensureaminimumlevelofHQLAholdings,theamountofinflowsthatcanoffsetoutflowsiscappedat75%oftotalexpectedcashoutflowsascalculatedinthestandard.

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Thisrequiresthatabankmust maintainaminimumamountofstock ofHQLAequalto25%ofthetotalnet cashoutflows.

(i)Securedlending,includingreversereposandsecuritiesborrowing

AbankshouldassumethatmaturingreverserepurchaseorsecuritiesborrowingagreementssecuredbyLevel1assetswillberolled-overandwillnotgiverisetoanycashinflows(0%).

MaturingreverserepurchaseorsecuritieslendingagreementssecuredbyLevel2HQLAwilllead tocashinflowsequivalenttotherelevanthaircutforthespecific assets.

Abankisassumednotto roll-overmaturingreverserepurchaseorsecuritiesborrowingagreementssecuredbynon-HQLAassets,and canassumetoreceiveback 100%ofthecashrelatedtothoseagreements.

Collateralisedloansextended to customersforthepurposeoftakingleveragedtradingpositions(“marginloans”)shouldalsobeconsideredasaformofsecuredlending; however,forthisscenariobanksmayrecognisenomorethan50%ofcontractualinflowsfrommaturingmarginloansmadeagainstnon-HQLA collateral.

Thistreatmentisinlinewiththeassumptionsoutlinedforsecuredfundingintheoutflowssection.

Asanexceptionto paragraph145,ifthecollateralobtainedthroughreverserepo,securitiesborrowing,orcollateralswaps,whichmatureswithinthe30-dayhorizon,isre-used(ierehypothecated)andisusedtocovershortpositionsthatcouldbeextendedbeyond30days,abankshouldassumethatsuchreverserepoorsecuritiesborrowingarrangementswillberolled-overandwill notgiverisetoanycashinflows(0%),reflectingitsneedtocontinue to covertheshortpositionorto

re-purchasetherelevantsecurities.

Shortpositionsincludebothinstanceswhereinits‘matchedbook’thebanksoldshortasecurityoutrightaspartofatradingorhedgingstrategyandinstanceswherethebankisshortasecurityinthe‘matched’repo

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book(ieithasborrowedasecurityforagivenperiodandlentthesecurityoutforalongerperiod).

Inthecaseofabank’sshortpositions,iftheshortpositionisbeingcoveredbyanunsecuredsecurityborrowing,thebankshouldassumetheunsecuredsecurityborrowingofcollateralfromfinancialmarketparticipantswouldrun-offinfull,leadingtoa100%outflowofeithercashorHQLAtosecuretheborrowing,orcash to closeouttheshortpositionbybuyingback thesecurity.

Thisshouldberecordedasa100%othercontractualoutflowaccordingtoparagraph141.

If,however,thebank’sshortpositionisbeingcoveredbyacollateralisedsecuritiesfinancingtransaction,thebankshouldassumetheshortpositionwillbemaintainedthroughoutthe30-dayperiodandreceivea0%outflow.

Despitetheroll-overassumptionsinparagraphs145and146,abankshouldmanageitscollateralsuchthatitisabletofulfilobligations toreturncollateralwheneverthecounterpartydecidesnottoroll-overanyreverserepoorsecuritieslendingtransaction.

Thisisespeciallythecasefornon-HQLA collateral,sincesuchoutflowsarenotcapturedintheLCRframework.

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Supervisorsshouldmonitorthebank'scollateralmanagement.

(ii)Committedfacilities

149.Nocreditfacilities,liquidityfacilitiesorothercontingentfundingfacilitiesthatthebankholdsatother institutionsforitsownpurposesareassumed tobeabletobedrawn.

Suchfacilitiesreceivea0%inflow rate,meaningthatthisscenariodoesnotconsiderinflowsfromcommittedcreditorliquidityfacilities.

Thisistoreduce thecontagionrisk ofliquidityshortagesatonebankcausingshortagesatotherbanksand to reflecttheriskthat otherbanksmaynotbeinapositiontohonourcreditfacilities,ormaydecidetoincurthelegalandreputationalrisk involvedinnothonouringthecommitment, in ordertoconservetheirownliquidityorreducetheirexposuretothatbank.

(iii)Otherinflowsbycounterparty

Forallothertypesoftransactions,eithersecuredorunsecured,theinflow ratewillbedeterminedbycounterparty.

In ordertoreflecttheneedforabanktoconductongoingloanorigination/roll-overwithdifferenttypesofcounterparties,evenduringatimeofstress,asetoflimitsoncontractualinflowsbycounterpartytypeisapplied.

Whenconsideringloan payments,thebankshouldonlyincludeinflowsfromfullyperformingloans.

Further,inflowsshouldonlybetakenatthelatestpossibledate,basedonthecontractualrightsavailable to counterparties.

Forrevolvingcreditfacilities,thisassumesthattheexistingloan isrolledoverandthatanyremainingbalancesaretreatedinthesamewayasacommittedfacilityaccordingtoparagraph131.

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152.Inflowsfromloansthathavenospecificmaturity(iehave

non-definedoropenmaturity)shouldnotbeincluded;therefore,noassumptionsshouldbeappliedastowhenmaturityofsuchloanswouldoccur.

Anexceptiontothiswouldbeminimumpaymentsofprincipal,feeorinterestassociatedwithanopenmaturityloan,providedthatsuch paymentsarecontractuallyduewithin30days.

Theseminimumpaymentamountsshouldbe capturedasinflowsattheratesprescribedinparagraphs153and154.

(a)Retailandsmallbusinesscustomerinflows

153.Thisscenarioassumesthatbanks willreceiveallpayments(includinginterestpaymentsandinstalments)fromretailandsmall businesscustomersthatarefullyperformingandcontractuallyduewithina30-dayhorizon.

Atthesametime,however,banksareassumedtocontinue toextendloans to retailandsmallbusinesscustomers,atarateof50%ofcontractualinflows.

Thisresultsinanetinflow numberof50%ofthecontractualamount.

(b)Otherwholesaleinflows

154.Thisscenarioassumesthatbanks willreceiveallpayments(includinginterestpaymentsandinstalments)fromwholesalecustomersthatarefullyperformingandcontractuallyduewithinthe30-dayhorizon.

In addition,banks areassumed to continuetoextendloanstowholesale clients,atarateof0%ofinflowsforfinancialinstitutionsandcentralbanks,and50%forallothers,includingnon-financialcorporates,sovereigns,multilateraldevelopmentbanks,andPSEs.

Thiswillresultin aninflow percentageof:

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  • 100%forfinancial institutionandcentralbankcounterparties;and

  • 50%fornon-financial wholesalecounterparties.

  • Inflowsfromsecuritiesmaturingwithin30daysnotincludedinthestockofHQLAshouldbetreatedinthesame categoryasinflowsfromfinancialinstitutions(ie100%inflow).

  • Banksmayalsorecogniseinthiscategoryinflowsfromthereleaseof balancesheldinsegregatedaccountsinaccordancewithregulatoryrequirementsfortheprotectionofcustomertradingassets,providedthatthesesegregatedbalancesaremaintainedin HQLA.

  • Thisinflow shouldbecalculatedinlinewiththetreatmentofotherrelatedoutflowsand inflowscoveredinthisstandard.

  • Level1andLevel2securitiesmaturingwithin30daysshouldbeincludedinthestockofliquidassets,providedthattheymeetalloperationalanddefinitionalrequirements,aslaidoutinparagraphs28-54.

  • Operationaldeposits:Depositsheldat otherfinancialinstitutionsforoperationalpurposes,asoutlinedinparagraphs93-103,suchasforclearing,custody,andcashmanagementpurposes,areassumedtostayat thoseinstitutions,andnoinflowscanbecountedforthesefunds–ietheywillreceivea0%inflow rate,asnotedinparagraph98.

  • Thesametreatmentappliesfordepositsheldatthecentralisedinstitutioninacooperativebankingnetwork,thatareassumedtostayat thecentralisedinstitutionasoutlinedinparagraphs105and106; in otherwords,thedepositingbankshouldnotcountanyinflow forthesefunds–ietheywillreceivea0%inflow rate.

  • (iv)Othercashinflows

  • 158.Derivativescashinflows:thesumofall netcashinflowsshouldreceivea100%inflowfactor.

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The amountsofderivativescashinflowsandoutflowsshouldbecalculatedinaccordancewiththemethodologydescribedinparagraph116.

WherederivativesarecollateralisedbyHQLA,cashinflowsshould becalculatednetofanycorrespondingcashorcontractualcollateraloutflowsthatwouldresult,allotherthingsbeingequal,fromcontractualobligationsforcashorcollateralto bepostedbythebank,giventhesecontractualobligationswouldreducethestockofHQLA.

Thisisinaccordancewiththeprinciplethatbanksshouldnotdouble-countliquidityinflowsoroutflows.

Othercontractualcashinflows:Othercontractualcashinflows shouldbe capturedhere,withexplanationgiventowhatcomprisesthisbucket.

Inflow percentagesshouldbedeterminedasappropriateforeachtypeofinflow bysupervisorsin eachjurisdiction.

Cashinflowsrelatedto non-financialrevenuesarenottakenintoaccountinthecalculationofthenetcashoutflowsforthepurposesofthisstandard.

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III.ApplicationissuesfortheLCR

161.ThissectionoutlinesanumberofissuesrelatedtotheapplicationoftheLCR.

Theseissuesincludethefrequencywithwhichbankscalculateandreport theLCR,thescopeofapplicationoftheLCR(whethertheyapplyatgrouporentitylevelandtoforeignbankbranches)andtheaggregationofcurrencieswithintheLCR.

A.Frequency ofcalculationandreporting

TheLCRshouldbeusedonanongoingbasistohelpmonitorandcontrolliquidityrisk.

TheLCRshouldbereportedtosupervisorsatleastmonthly,withtheoperationalcapacityto increasethefrequencytoweeklyorevendailyinstressedsituationsatthediscretionofthesupervisor.

Thetimelaginreportingshouldbeasshortasfeasibleandideallyshould notsurpasstwo weeks.

Banks areexpectedtoinformsupervisorsoftheirLCRandtheirliquidityprofileonanongoingbasis.

BanksshouldalsonotifysupervisorsimmediatelyiftheirLCRhasfallen,orisexpected to fall, below 100%.

B.Scopeofapplication

164.Theapplicationoftherequirementsinthisdocumentfollow theexistingscopeofapplicationsetoutinPartI(ScopeofApplication)oftheBaselIIFramework.

TheLCRstandardandmonitoringtoolsshouldbeapplied toallinternationallyactivebanksonaconsolidatedbasis,butmaybeusedforotherbanks andonanysubsetofentitiesof internationallyactivebanks

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aswellto ensuregreaterconsistencyandalevelplayingfieldbetween domesticandcross-borderbanks.

TheLCRstandardandmonitoringtoolsshouldbeappliedconsistentlywherevertheyareapplied.

Nationalsupervisorsshoulddeterminewhichinvestmentsinbanking,securitiesandfinancialentitiesofabankinggroupthatarenotconsolidatedperparagraph164shouldbeconsideredsignificant,takingintoaccounttheliquidityimpactofsuchinvestmentsonthegroupundertheLCRstandard.

Normally,anon-controlling investment(egajoint-ventureorminority-ownedentity)canberegardedassignificantifthebanking

groupwillbe themainliquidityproviderofsuchinvestmentintimesofstress(forexample,whentheothershareholdersarenon-banks orwherethebankisoperationallyinvolvedintheday-to-daymanagementandmonitoringoftheentity’sliquidityrisk).

Nationalsupervisorsshouldagreewitheachrelevantbankona

case-by-casebasisonanappropriatemethodologyforhowtoquantifysuchpotentialliquiditydraws, inparticular,thosearisingfromtheneedtosupporttheinvestmentintimesofstressoutofreputationalconcernsforthepurposeofcalculatingtheLCRstandard.

Totheextentthatsuchliquiditydrawsarenotincludedelsewhere,theyshouldbetreatedunder“Othercontingentfundingobligations”,asdescribedinparagraph137.

RegardlessofthescopeofapplicationoftheLCR, inkeepingwithPrinciple6asoutlinedintheSoundPrinciples,abankshouldactively monitorandcontrolliquidityriskexposuresandfundingneedsatthelevelofindividuallegalentities,foreignbranchesandsubsidiaries,andthegroupasawhole,taking into accountlegal,regulatoryandoperationallimitations tothetransferabilityofliquidity.

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167.ToensureconsistencyinapplyingtheconsolidatedLCRacrossjurisdictions,furtherinformationisprovidedbelowontwo applicationissues.

1.Differencesinhome/hostliquidityrequirements

WhilemostoftheparametersintheLCRareinternationally“harmonised”,nationaldifferencesinliquiditytreatmentmayoccurinthoseitemssubjecttonationaldiscretion(egdepositrun-offrates,contingentfundingobligations,marketvaluation changesonderivativetransactions,etc)andwheremorestringentparametersareadoptedbysomesupervisors.

WhencalculatingtheLCRonaconsolidatedbasis,across-borderbankinggroupshouldapplytheliquidityparametersadoptedinthehomejurisdictiontoalllegalentitiesbeingconsolidatedexceptforthetreatmentofretail/smallbusinessdepositsthatshouldfollow therelevantparametersadoptedinhostjurisdictionsinwhichtheentities(branchorsubsidiary)operate.

Thisapproachwillenablethestressedliquidityneedsoflegalentitiesofthegroup(includingbranchesofthoseentities)operating inhostjurisdictionstobemoresuitablyreflected,giventhatdepositrun-offratesinhostjurisdictionsaremoreinfluencedbyjurisdiction-specific factorssuchasthetypeandeffectivenessofdepositinsuranceschemesinplaceandthebehaviouroflocaldepositors.

Homerequirementsforretailandsmallbusinessdepositsshouldapplytotherelevantlegalentities(includingbranchesofthoseentities)operatinginhostjurisdictionsif:

therearenohostrequirementsforretailandsmallbusinessdepositsintheparticularjurisdictions;

thoseentitiesoperateinhostjurisdictionsthathavenotimplementedtheLCR;or

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(iii)thehomesupervisordecidesthathomerequirementsshouldbeusedthatarestricterthanthehostrequirements.

2.Treatmentofliquiditytransferrestrictions

Asnotedinparagraph36,asageneralprinciple,noexcessliquidityshouldberecognisedbyacross-borderbankinggroupinitsconsolidatedLCRifthereisreasonabledoubt abouttheavailabilityofsuchliquidity.

Liquiditytransferrestrictions(egring-fencingmeasures,non-convertibilityoflocalcurrency,foreignexchangecontrols,etc)injurisdictionsinwhichabankinggroupoperateswillaffecttheavailabilityofliquiditybyinhibitingthetransferofHQLAandfundflowswithinthegroup.

TheconsolidatedLCRshouldreflectsuchrestrictionsinamannerconsistentwithparagraph36.

Forexample,theeligible HQLAthatareheld byalegalentitybeingconsolidated to meetitslocalLCRrequirements(whereapplicable)can beincludedin theconsolidatedLCRtotheextentthatsuchHQLAareusedtocoverthe total netcashoutflowsofthatentity,notwithstandingthattheassetsaresubjecttoliquiditytransferrestrictions.

IftheHQLAheldinexcessofthetotalnetcashoutflowsarenottransferable,suchsurplusliquidityshouldbeexcludedfromthestandard.

Forpracticalreasons,theliquiditytransferrestrictionstobeaccountedforintheconsolidatedratioareconfined to existingrestrictionsimposedunderapplicablelaws,regulationsandsupervisoryrequirements.

Abankinggroupshouldhaveprocessesinplaceto captureallliquidity transferrestrictionstotheextentpracticable,andtomonitortherulesandregulationsinthejurisdictionsinwhichthegroupoperatesandassesstheirliquidityimplicationsforthegroupasawhole.

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C.Currencies

173.Asoutlinedinparagraph42,whiletheLCRisexpectedtobemetonaconsolidatedbasisandreportedinacommoncurrency,supervisorsand banksshouldalsobeawareoftheliquidityneedsineachsignificantcurrency.

AsindicatedintheLCR,thecurrenciesofthestockofHQLAshouldbesimilarincomposition totheoperationalneedsofthebank.

Banksandsupervisors cannotassumethatcurrencieswillremaintransferableandconvertibleinastressperiod,evenforcurrenciesthatin normaltimesarefreelytransferableandhighlyconvertible.

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  • SummaryResponses

  • TotheCommissions’GreenPaperonShadowBanking

  • 1.Executive Summary

  • TheEuropeanCommission'sconsultationonshadowbankingattractedhighinterestfromstakeholders.

  • Thecommentsprovidedcoverabroadrangeofissuesandresponded toallthequestionsraisedby theEuropean CommissionGreenPaper.

  • TheCommissionreceivedin total140contributions,ofwhich24fromPublicAuthorities;47fromregisteredorganisations;and,64fromindividualorganisations.

  • Fiveorganisationsaskedfortheirsubmissionstoremainconfidential.

  • Thekeymessagesreceivedfromstakeholdersarebroadlyinlinewiththefeedbackreceivedattheshadowbankingconference,organisedbytheEuropeanCommissionon27April2012inBrussels:

  • ThereisgeneralsupportfortheEuropeanCommission'sinitiativeinthisarea.WorkshouldcontinuetoimprovetheregulatorysystemintheEUand to ensureglobalconsistency

  • Thereisagrowingconsensusthatsupervisionandastrengthenedregulatoryframeworkisneeded toharnesstheshadow bankingsystem

  • Itisnecessarytopreserveausefulchanneloffinancialintermediationthat canprovidebenefitstotherealeconomyatatimewhenbankfinancingismoreconstrained

  • Thescopeofregulationshouldbecomprehensiveandflexibleenoughtobeadaptabletofuturedevelopments

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  • TheroomforregulatoryarbitrageshouldbereducedandregulatorydivergenceintheEUeliminated

  • Thefocusshouldbeonactivitiesandentitiesthatcouldposesystemicrisktothefinancialmarkets

  • Potentiallegislativemeasuresshouldtakeexistinglegislationintoaccountandshouldbeproportionate;and

  • Transparencyanddatacollectionneedtobeimprovedin ordertostrengthenthebasisforfurtherpolicydecisions.

  • In additiontothekeymessages,moredetailedcommentshavebeen providedinresponse to thedifferentareas coveredbytheGreenPaper.

  • Scopeanddefinition

  • Respondents totheconsultationacknowledgedthatthe term"shadowbanking"iswidelyusedandbroadlysupported,butsomestakeholderssuggestedthatthetermshouldbechanged.

  • Theyarguedthatthecurrenttermisverybroadandprovidesanegativeconnotation.

  • Somestakeholderssuggestedthatthe termshouldbetterreflectthecharacteristicsoftheentitiesoractivitiesandsuggested to replaceitby"activitiesthatarenotregulatedandnotsupervised";"parallelbanking";or"market-basedfinance".

  • Somestakeholdersunderlinedtheneedformorespecifieddefinitions.

  • Forexample,issuessuchascredit activities,creditguarantees,leasingorfinancecompaniesprovidingcreditorcreditguaranteesshouldbeusedin amoreconsistentmanner,atleastatEuropeanlevel.

  • Ontheotherhand,somerespondentscommentedthatadefinitionforshadowbankingneedstobesufficientlyflexibletobeadaptable tofuturedevelopmentsintheareaofshadowbanking.

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Otherstakeholderssuggestedthatthescopeofshadow bankingneedstobefurtherspecified.

TheFinancialStabilityBoard(FSB)hasputforwardadefinitionwhichisacceptable tomanystakeholders(inshort:non-banksperformingcreditintermediation),althoughsomeofthemarguethatitshouldeitherbemorecomprehensiveorshouldprovideabetterdistinctionbetweenentitiesand activities.

Stakeholderscommentedthatshadowbankingshouldonlyincludeentitiesandcreditactivitieswhicharecurrentlynot(ornotsufficiently)regulatedandposeasystemicrisk tothefinancialsystem.

Accordingto themcreditintermediationandmaturitytransformationarekeyfeaturesofshadow bankingactivities.

Morefocusshouldbeontheissueofsystemicallyrelevantactivities.

Representativesofcertainindustries(e.g.investmentfunds,leasingcompanies,Factoringcompaniesorcreditinsuranceundertakings)arguedthattheir activitiesshouldnotbewithinthescopeofshadowbankingeitherbecausetheydon’tmeetthedefinition,orbecausetheyarealreadysubjecttoregulationanddoubleregulationshouldbeavoided.

Generalprinciplestofollow

Manystakeholdersunderlinedthatshadow bankingactivitieslargelyservetherealeconomy.

Existingchannelsoffinancingshouldbepreserved.

However,someexpressedconcernsabouttheusefulnessofcertainactivitiesinviewoftheircontributiontotheoverallsocialwelfare.

StakeholdersingeneralexpressedsupportformeasuresalreadytakenatEUlevel,althoughsomerespondentssuggestedthatnon-bindingmeasuresmightnotbesufficienttoaddressexistingshortcomingsofregulation.

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Thepointwasmadethatnewregulationshouldtakecurrentdevelopmentsinotherareaswhereexistingregulationiscurrentlybeingrevised(CRDIV,SolvencyII,etc.)intoaccount,sincetheymayalterthestructuralcharacteristicsoftheEUfinancialsystem.

Stakeholdersremindedthatbankandnon-bankactivitiesareintertwined.

Severalstakeholdersasked foracarefulassessmentofthepotentialconsequencesofanynewinitiativesandtheircumulativeimpactswithotherfinancialregulations tobeimplemented.

Anylegalmeasureshouldbeproportionateandprimarilytargetedatentitiesand activitiesthatposesignificantsystemicrisktothefinancialsystem.

Supportwasexpressedforthegeneralprinciplesforthesupervisionofshadowbanking, includingthatitshould:

Beperformedattheappropriatelevel,i.e.nationaland/orEuropean

Beproportionate

Takeintoaccountexistingsupervisorycapacityandexpertise

Be integratedwiththemacro-prudentialframework

OtherrespondentsproposedtheeliminationofexistingdifferencesinEUsupervisioninordertoreduceregulatoryarbitrage,atleastinEurope,butalsointernationally.

Ideally,stakeholderswouldliketoseeanyresponseto"shadowbanking"activitiestobecoordinatedonagloballevelinacoherentwayandstressedthatcoordinationisneededbetweenexistingworkstreamsatthelevelofFSB,IOSCO, ECB,ESMAandtheBaselCommittee.

Somestakeholdersexpressedconcernswhethertraditionalbankingregulationpersemaybeappropriate to addresstherisks inherentintheshadowbankingsystem.

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However,theyunderlinedthatactivitiesthatinvolvecreditriskshouldbesubjecttosimilarsolvencyandliquidityrequirementsascreditinstitutionsstartingfromacertainthreshold,i.e.similaractivitiesshould besubject tosimilarregulations.

In addition,respondents totheconsultation(calledfor?)improvedconvergenceandequivalenceintheareaofrelatedinternationalstandards,suchasBaselrequirementsorInternationalFinancialReportingStandards(IFRS),whichcouldresultin improvedtransparencyforexampleregardingoff-balancesheet activities.

Manystakeholdersexpressedsupportforanenhancementoftheexistinglegalframework,(e.g.UCITs,AIFMD,EMIR,CRD,etc.),ratherthanthedevelopmentofaseparateregulatoryregimefocusingonshadowbankingactivities.

Theyfearedthatthis wouldavoiddistortionofthecompetitivenessoftheEUfinancialsector.

Keypriorities

TheGreenPapersuggestedfiveprioritiesfor investigation,whichwerebroadlyinlinewiththeFSBworkplan:

Bankingregulationandinteractionswithshadowbanking

Assetmanagementregulationissueswithaspecific focusonMoneyMarketFunds

Securitieslendingandrepurchaseagreements

Securitisationpracticesintermsofincentivesalignmentandtransparency

Othershadow bankingentitieswhichmayconstituteasourceofsystemicrisk.

Stakeholdersexpressedgeneralsupportforthefiveproposedkeyareas

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wheretheCommissionisfurther investigatingoptions.However,anumberofothersuggestionshavebeenprovided.

Somestakeholdersarguedforanextensionofthescopeoftheexistingbankingsupervisoryregimeasfarasappropriate.

SomestakeholdersarguedthatMoneyMarketFunds(MMFs)andExchangedTradedFunds(ETFs)shouldnotbesubject to furtherregulationinviewoftheexistingregulationonassetmanagementandtheESMAguidelines,whereasotherspreferredtheseareasbeingsubjecttostricterregulation.

Onsecuritieslendingandrepurchaseagreementsrespondentsarguedforaholisticregulationaddressingdirectlytheissueofincreasedleveragebutexpressedalsoconcernsregardinghaircutrequirementsduetothepotentialriskofincreasedpro-cyclicality.

Instead,thegenerationof"safeassets"wouldbecritical,assomerespondentsstressed.

StakeholdersdidnotinsistonregulationonsecuritisationgiventhattheEUregulatoryframeworkhasalreadybeenstrengthened todealwithsomeoftheissues.

Onotherfinancialentities(e.g.financialcompaniesorbroker-dealers),whicharenotexplicitlytargetedbytheGreenPaper,itwasstronglyrecommendedtowaitforthefinaloutcomeoftheworkconductedbytheFSB inordertoensureaconsistentinternationalapproach.

Monitoringandtransparency

Therewasbroadagreementamongststakeholdersthattransparencyshouldbeenhancedwithaviewtoimprovesupervisionandmarketdiscipline.

Data collectionwasseenbymanyrespondentsasaprerequisitefora

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betterunderstandingofshadowbankingactivitiesandtheirimplicationsin ordertofacilitatemonitoringsolutions,whichwouldallowforbettertargetedinterventions.

Indirectregulationwasregardedbyanumberofrespondentsasanefficient toolto capturesomeoftherisksposedbyshadowbanks.

Itwassuggestedthatforexamplethelargeexposuresregimeshould actasabackstopregimealsotoshadowbankingactivitiesandtackletheriskofinterconnectivitybyensuringproperidentificationofinterconnections.

Stakeholdersdidnotobjecttotheidea ofregularmonitoringanddatacollectioningeneralandwelcomedtheworkoftheEuropeanCentralBank(ECB)in thisareasofar.

In addition,theysuggestedthattheroleoftheEuropeanSystemicRiskBoard(ESRB)regardingmonitoringmacroeconomicrisksbycollectingandbundlingEUwideinformationshouldbefurtherclarified.

Conclusionandnext steps

Theanalysisofcommentsreceivedsuggeststhatthereissupportforregulatorymeasuresin theEUsubjecttokeyprinciples,i.e.theyhave toimprovefinancialstability,theyareproportionate,theyreduceregulatoryarbitrage,theyreflecttheglobalcharacteristicsofshadowbanking,theyimprovetransparencyandtheyfacilitatelong-termgrowth.

FollowingtheGreenPaperconsultationandthepublicconferenceinApril2012,theEuropeanCommissionhasinitiatedanumberof discussionswithstakeholdersandhaslaunchedspecificandtargetedconsultations,e.g.onUCITSandontheresolutionofnon-banks.

The objectivewas togainadditionalinformationinviewofthepreparationofappropriatepolicyreactions.

Allinformationavailablewillbetakenintoaccountforthedevelopmentofpolicy proposals,whichshouldbecompatiblewithrecommendationsputforwardbyinternationalorganisations.

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  • ACommunicationbytheEuropeanCommissionisplannedforQ12013andwillprovidefurtherdetailsregardingareasforwhichlegalproposalsmightbedevelopedandtheirrespectivetiming.

  • FeedbackStatement

    • Introductionandinternationaldevelopments

  • The2008globalfinancialcrisiswascausedbyregulatorygaps,ineffectivesupervision,opaquemarketsandoverly-complexproducts.

  • TheEuropeanUnionhasshowngloballeadershipinimplementingtheG20commitmentsandhasundertakenthebiggestfinancialregulatoryreform ever.

  • However,thereisstillanincreasingareaofnon-bankcreditactivity,orshadowbanking,whichhasnotbeentheprimefocusofprudentialregulationandsupervisiontodate.

  • Althoughshadowbankingperformsimportantfunctionsinthefinancialsystem,thereisacommonunderstandingthatit canalsoposepotentialthreatstolong-termfinancialstability.

  • Againstthisbackground,theCommissionconsidersitaprioritytoexamineindetailtheissuesposedbyshadowbankingactivitiesandentities.

  • Theobjectivesaretorespondactivelyandfurthercontributetotheglobaldebate;tocontinuetoincreasetheresilienceoftheUnion’sfinancialsystem;and,to ensurethatallfinancialactivitiescontributetoeconomicgrowth.

  • TheEuropeanCommissionGreenPaperdescribedshadowbankingas"thesystemofcreditintermediationthatinvolvesentitiesandactivities(fullyorpartially)outsidetheregularbankingsystem."

  • ThisdefinitionisinlinewiththedefinitionproposedbytheFinancialStabilityBoard(FSB).

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  • Developmentsatinternationallevel

  • In November2011,G20Leaders adoptedtheFSBreportShadowBanking:StrengtheningOversightandRegulationwhichsetoutaworkplan todeveloppolicyrecommendationsin2012.

  • On18November2012theFSBpublishedforconsultation(until14January2013)aninitial integratedsetofpolicy recommendationstostrengthenoversightandregulationoftheshadowbankingsystem.

  • Thesetofdocumentspublishedincludesthefollowingreports:

  • AnintegratedOverviewofPolicyRecommendations

  • PolicyFrameworkforStrengtheningOversightandRegulationofShadow BankingEntities

  • PolicyrecommendationstoAddressShadow BankingRisksinSecuritieslendingandRepos

  • GlobalShadow BankingMonitoringReport2012

  • TheseconsultationswillfeedintotheFSB'sworktofinaliseacomprehensiveandintegratedsetofpolicyrecommendations to addressshadowbankingissues.

  • ThesearethenduetobeendorsedbytotheG20leadersattheSt.PetersburgSummitplannedinSeptember2013.

  • Tofinalisethesepolicy measures,theFSBisalsoinvolvingwithotherinternationalstandard-setters.

  • In2013theBaselCommitteeonBankingSupervision(BCBS)willdeveloppolicyrecommendationstomitigatethespill-overeffectsbetweentheregularbankingsystemandtheshadowbankingsystem.

  • TheInternationalOrganisationofSecuritiesCommissions(IOSCO)hasalreadysetoutfinalpolicy recommendationsinitsreportsentitled

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"PolicyRecommendationsforMoneyMarketFunds"and"GlobalDevelopmentsinSecuritisationMarkets".

Two specificareasaredirectlyinvestigatedby theFSB:

Theregulationofothershadowbankingentitiesposingsystemicrisks;and

Theregulationsofsecuritiesfinancingtransactions.

Onthesetwo topics,publicconsultationshavebeenlaunched.

DevelopmentsattheEUlevel

On20November2012theEuropeanParliamentadoptedanowninitiativereport(MotionforResolution)onshadowbanking, inwhichitputforwardtheneedforadditionalregulationoftheshadowbankingsystem.

Itmentionsthatshadowbanks,suchashedgefundsortradinghouses,benefittherealeconomybylendingto riskyventuresthatregularbanksavoid.

However,iftheirloansturnbad,theymaycollapse,takingregularbankswiththem,becausetheylackacapitalcushion.

Thereportarguesthatbetterprudentialoversightisneededtoreduceshadowbanking'ssystemicrisks,withoutstiflingitsbenefitstotheeconomy.

In response totheEuropean CommissionGreenPapertheEuropeanEconomicandSocialCommittee(EESC)adoptedon15November2012areport,whichconcludesthatmeasuresneedtobetaken to addressrisksposedbytheshadowbankingsystem.

Thesizeoftheshadowbankingsector

TheFSB's2012GlobalShadowBankingMonitoringReportissuedon18November2012highlights3keydevelopments:

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  • Theglobalshadowbankingsystemgrewrapidlybeforethecrisis(in paralleltotheregularbankingsystem),risingfromUSD26trillionin2002 toUSD62trillionin2007.

  • Thesizeofthe totalsystemdeclinedslightlyin2008butincreasedsubsequently,althoughataslowerpace,toreachUSD67trillion(basedon2011figures)

  • Thereisconsiderablediversityintherelativesize,compositionandgrowthoftheshadowbankingsystemacross jurisdictions

  • Thegranularityofavailabledataisimprovingwiththeshareof unidentifiednon-bankfinancialintermediarieswithinoverallnon-bankintermediationfallingfrom36%intheyear2010 to 18%intheyear2011.

  • However,furtherimprovementsareneededtobettercapturethesizeand natureofrisksintheshadowbankingsystemonaglobalbasis.

  • Stakeholdersexpressedconcernsthattheon-goingreformoffinancialregulationofthebanking(andinsurance)sectormaylead toafurthergrowingmarketfornon-regulatedfinancialintermediaries.

  • Therefore,measuresneed tobedevelopedandhavetobecomeeffectiveintime.

  • GlobalcoordinationbasedonrecommendationspublishedbytheFSBiscrucial.

    • ResponsestotheConsultation

      • SummaryofResponsesGeneralComments

  • ConsultationrespondentsprovidedverydetailedresponsestothespecificquestionsraisedbytheGreenPaper.

  • Manyofthemalsoprovidedgeneralcommentscoveringabroad rangeofareas.

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Somerespondentsregardedthetermshadowbankinginappropriatesinceitseemstosuggest– inparticularwhentranslatedintootherlanguages-thatactivitieswithinthescopeoftheshadow bankingdefinitionareregardedasharmfulandthatthereisalackofregulationoutsidethebankingsector inEurope.

AlthoughalargenumberofrespondentsagreedwiththedefinitionofshadowbankingusedintheGreenPaper,somestakeholdersarguedthat thedefinitiondevelopedbyFSBisgenerallytoobroad.

Asaconsequencecertainsectors,entitiesoractivitiesshouldnotbecapturedby thedefinition,e.g.factoring,certaininsuranceactivitiesandinvestmentfundssincetheyarealreadysubjecttoregulation.

Ontheotherhandotherstakeholdersarguedthatthedefinitionshouldbebroadenoughtocatchasmanyactivitiesaspossible.

Manystakeholdersemphasisedtheneedforglobalcoordinationinordertomakesurethatexistingorfutureincentivesforregulatoryarbitragearelimited, inparticularin viewofthestricterregulationforbanksandinsuranceentitiescurrentlyundernegotiation.

StakeholdersstressedthatanEUapproachshouldnotcontradictrecommendationsdevelopedbyinternationalorganisationssuchasFSB,BaselorIOSCO.

Somestakeholderswarnedthatthebenefits comingfromtheshadowbankingsystemshouldbeidentifiedandconservedandtheystressedtheimportanceofconsideringthenegativeeffectsposedbyanynewregulationondifferentmarketparticipants.

Otherstakeholdersarguedthatanyfutureregulationshouldbeproportionateandfocusedonentities/activitiesposingsystemicrisks tothefinancialsystem.

Thepreferenceshouldbeforenhancementoftheexistinglegalframeworkinsteadofissuingaseparateshadow bankingregulationregime.

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Partofthepolicyreactionshouldbetolookatthenonhomogenoussupervisoryarchitecture inEuropeandincreasethelevelof harmonisation.

Existingandfuturepolicyproposalsshouldbecoherent.

Thepointwasmadethattheinterconnectednessbetweenthebankingandthenonbankingsectorwasregardedassubstantial.

Thereforemoretransparencyisneededinthebankingsector.

Itwashighlightedthatthereisaneedforbetterinformationcollectionprocesses,greatermarkettransparencyandregularmonitoringtoidentifyareasofsystemicrisk.

Questiona-Doyouagreewiththeproposeddefinitionofshadowbanking?

Althoughmostconsultationrespondentsagreedwiththeproposed definitionandexpressedgeneralsupport,someconcernswereraisedastowhetherthedefinitionisappropriate.

Thoserespondentsraisingconcernsarguedthattheproposedtermis toobroadandwouldtherefore catchavarietyofactivitieswhichshouldnotberelatedtotheshadowbankingdebate.

Theyarguedthattheproposeddefinitionwouldalsocovercertainactivitiesalreadysubjecttoregulationandwhichshouldnotbetreatedthesamewayasnon-regulatedactivities.

Insteadthefocusshouldbemoreonsystemicandpotentiallysignificantrisksrelated toshadow banking.

Itshouldbemorespecificallylookingatnonregulated activities.

Otherrespondentstotheconsultationexpressedtheviewthattheproposeddefinitionisagoodbasismainlybecauseitcoversentitiesaswellasactivities,whichseemedtobeacriticalissue.

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Somestakeholderssuggesteddefiningentities/activitiesthatshouldnotbeinthescopeofshadowbankingratherthanthe otherwayaround.

Thiswouldavoidthattheapproachbecomestoobroad.

Otherssuggestedthatthedefinitionshouldbeoperational,openandasbroadaspossibleinorder tobeadaptable to changingmarketrealitiesandentitiesand activitiesthatshouldbeincluded.

AnumberofrespondentsstressedtheneedforcompliancewiththeFSBdefinitionandmadeastrongcaseforusingacommonglobaldefinitioninorder to limitthepotentialroomforarbitrageandtoensureglobalconsistency.

Questionb-Doyouagreewiththepreliminarylistof shadowbankingentitiesandactivities?Shouldmoreentitiesand/oractivitiesbeanalysed?Ifso,whichones?

Theresponsestothequestionweremixed.

Althoughanumberofconsultationrespondentsexpressedagreement,othersraisedstrongconcerns,inparticularinviewofthepotentialimpactsofnewregulationoncertainsectorsandbusinessmodels.

Asageneralremarksomerespondentsemphasisedthatshadow bankingsystemicrisksoughttobeassessedbasedonactivitiesratherthanalistofentities.

Itwashighlightedthattocomeupwithaconclusivelistwouldnotbeoperationalsincethereisnota"onesizefitsall"solution.

Otherconsultationrespondentsagreed,butaddedthatshadow bankingshouldcoverspecificqualitiesofthefinancialsystemaswhole,notjustparticularsectorsofthefinancialindustry,thusarguingforamoreholisticapproach.

Theyarguedthatmostentitiesandactivitiesarealreadyorshouldbesubjecttomonitoringandregulation.

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Ultimatelytheobjectiveshouldbetofocusontheapplicationof"samebusiness,samerules".

Thepointwasmadethatthefocusshouldbeonconduitsandvehicleswhicharenotconsolidatedinthebalancesheetsofbanks.

Securitieslendingandreposbetweenregulatedcounterpartsaremostlycarriedoutthroughcentralcounterparts.

Additionalentitiestobescrutinisedarethoseperforming"sociallending"activities(e.g.peer-to-peercredit).

Otherssuggestedaddingentitieswhicharenotonlydeposit-taking,e.g.treasuryorriskcapitalfunds,CCPs,securitieslendingandalloperationsinvolvingcollateralre-use,althoughwarningthatnotallinstitutionsleveragingtheirfinancialactivitiesshouldbeincluded.

Theinsuranceindustryarguedthatinsuranceandreinsuranceundertakingsthatissueorguaranteecreditproductsshouldnotbeclassifiedasshadowbanking.

Anumberofstakeholderssuggestedthatcertainactivitiesshouldnotbeinthefocusoftheshadow bankingdebate.

Theargumentwasmade,mainlybyindustryrepresentatives,thatactivitiesforexampleinthearea ofsecuritieslendingandrepoactivitiesshouldbeconsideredasshadow bankingonlywithsupplementary criteria(e.g.useofrepotogainleverageinexcessofacertainhurdle).

OthersarguedthatthedefinitionofMMF typefundswithinthesectorofshadowbankingisnotsatisfactory,asitsuggestsalinkbetweenriskrunanddeposit-like characteristics.

TheargumentwasmadethattheriskbornbyMMFsstemsfromthediscrepancybetweenmark-to-marketandpublishedNAVinthespecificcaseofMMFsmeasuredataconstantvalue(C-NAVs).

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Anotherviewexpressedwasthatshadowbankingshouldincludeallcreditintermediationactivitiesthatareimplicitlyenhanced,indirectlyenhancedorunenhancedbyofficialguarantees.

Theseactivitiesincludedebtissuedorguaranteedbygovernment-sponsoredenterprises,whichbenefitsfromanimplicitcreditbornebythetaxpayer;theoff-balancesheetactivitiesofdepositary institutions,suchasunfundedcreditcardloan commitments;and,linesofcredits toconduitsandbank-affiliatedhedgefunds.

AnumberofrespondentsstressedthatETFsdonotconstituteperseshadowbankingentities,becauseexcessiveleverageisonlyusedbyasmallnumberofthem,whichseems tobealreadyaddressedbyexistinglegislation.

ThepointwasmadethatmostETFsprovidingcreditforbankingcounterpartiescanbebetteraddressedthroughbankingregulationortheUCITSframework.

SinceETFsintheshadow bankingsectorrepresentonlyafractionofinvestmentsfundsingeneral,theyshouldnotbedistinguishedfromotherinvestmentfundsinthetreatmentofshadowbankingentities.

Otherrespondentsarguedforanarrowerapproach,comprisingonlyentitieswhichareunregulatedorinadequatelyregulated.

Questionc-Doyouagreethatshadow bankingcancontributepositivelytothefinancialsystem?Arethereotherbeneficialaspectsfromtheseactivitiesthatshouldberetainedandpromotedinthefuture?

Thepositionsexpressedbyrespondentsto theconsultationweremixedonthisquestion.

Anumberofstakeholdersacknowledgedthattherearebenefitscreated bytheshadowbankingsector,e.g.theenhancementofinnovationandcompetitionordiversificationofinvestments.

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  • Theysuggestedthatshadowbankingalsocontributedtothewidereconomybyprovidingcredible,soundandalternativeinvestmentopportunitiesandvitalsourcesoffinancingforbusinesses.

  • Otherbenefitsmentionedincludedthefollowing:

  • Shadowbankingincreasesthenumberoffinancialfirmsandthuscan reducethesizeofmarketparticipants.In thissenseitcanhelpaddresstherisksof‘toobigtofail’financialinstitutions.

  • Shadowbankingprovidesadditional diversityinthefinancialecosystem,helpingtoensurethatitdoesnotbecomewidelyormainlydependentonthebehaviourofbanks.

  • Itisimportantnottocreateasysteminwhichallormostoftheplayers actlike banks.

  • Shadowbankingcanprovidefinancialservicesnotnecessarilyofferedbyregularbanks,suchasmarketmaking,therebyimprovingmarketliquidity.

  • Shadowbankingcanhelpclosingafundinggapandreinforcethestabilityofthefinancialsystem(adecentralisedfinancialsystemavoidsconcentrationofbusiness;lesstransmissionofsystemicrisk).

  • Theemergenceofalternativefundingsolutionsshouldnotbedeterredbyheavyregulation.

  • Otherstakeholdersweremore cautiousintermsofthepotentialbenefitsandexpressedsupportonlyifshadow bankingfacilitateslong-terminvestmentandthusweredoubtfulaboutbenefitoffinancialinnovationtogrowth.

  • Ontheotherhandseveralstakeholdersarguedthattherearenobenefitsrelatedtoshadow bankingactivities,sincetheirsuccessappearsonlytobelinkedtothefactthattheyrelyonalackofregulationandarebasedon unfaircompetition.

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Itwasdoubtedthatunregulated activitiescouldbeseenascontributingtoamorestablefinancialsystemandaddsocialwelfaretothesocietyasawhole.

Somestakeholderswerealsoconcernedaboutaccesstofinanceforcompanies, inparticularSMEs.

Theysuggestedthatanynewlegislationshouldnotworkagainsttheinterestandneedsoffirms.

Asregardsthepossiblerisk diversification,somerespondentsexpressedtheviewthatshadowbankingactivitiescanevenincreasetherisksfortherealeconomy,sinceitisquestionablewhetherthey canprovideanalternativesourceoffundingduringaperiodofcrisis.

Overall,stakeholdersexpressedaclearviewthat,notwithstandingthebenefits,theinherentrisksofshadow bankingjustifyanappropriatepolicy response.

Questiond-Doyouagreewiththedescriptionofchannelsthroughwhichshadowbankingactivitiesarecreating newrisksortransferringthemtootherpartsofthefinancialsystem?

Althoughtherewasgeneralsupportforthedescriptionofthechannelsthroughwhichshadow bankingsystemsarecreatingnewrisks,mostrespondentsexpressedreservations.

Onerespondentexpresseddisagreementwiththeimplicitassumptionthatinstitutionsthatfacilitateorsupportshadowbankingaredoingthisonly to avoidregulatoryintervention.

Othersarguedthatthedescriptionisonlyapplicabletocertaintypesofshadowbankingactivities,sincetherearemanyothernon-bankactivitieswhichsimplysupplythemarketwithadditionalliquidity,withoutusingexcessiveleverage,e.g.assetmanagementfunds.

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In thesamecontext,anumberofrespondents,mainlyfromthefinancialsector,arguedthat, in contrast to generalassumptions,certainentitiesoractivities,suchasinvestmentfunds,donotposesystemicrisks.

Forexample,MMFscreatelessliquiditytransformationthanbanks;asset-liabilitymaturitymismatchisverylimited;creditqualityishigh;and,therearealreadyhighstandardsforliquidityriskmanagementensuringthatredemptionrequestsaremet.

Theargumentwasmadethatinsomeareasthelevelofregulationisalreadyhigh,suchasriskmanagementandleverage,ascoveredby theUCITSandAIFMregime.

In addition,fundmanagers can temporarilysuspendredemptionsoruse"gates"tomanageredemptionrequests.

Thehighdegreeofexistingregulationandsupervisionpreventsinvestmentfundsfrombeingusedtocircumventbankingregulation.

Otherareasofrisk(forexamplehiddenleverage,regulatoryarbitrage,disorderlyfailures,massivesalesandruns)whereregardedbysomerespondentsasoverstatedornotlimitedtotheshadowbankingsectoralone,andthusspecific regulationaimedatshadowbankingactivitieswasnotregardedasthepreferredresponse.

AnumberofrespondentsexpressedsupportfortherisksmentionedintheGreenPaperandstressedthatfourriskgroupsshouldinparticularbeaddressed:

Amore focusedmonitoringsystemshouldbeputinplace;

Atighterandbettercoordinatedregulationfocussingonstability/healthoffinancialsystemisneeded;

Convergencewithotherinternationalregulatorysystems,e.g.theUSDodd-FrankAct,mightbeuseful;and

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(iv)Enhancedtransparencyandquantificationoftheimpactofshadowbankingactivitiesisnecessary.

Anothersuggestionmadewastoinvestigatetheseparationbetweencommercialbankingactivitiesandotheractivitiesofthebankinggroup.

Thiswouldbeinfollow-up tothereportissuedbytheHighLevelExpertGroupchairedbyErkkiLiikanen.

Questione-Shouldotherchannelsbeconsideredthroughwhichshadowbankingactivitiesarecreatingnewrisks ortransferringthemtootherpartsofthefinancialsystem?

Anumberofrespondentstotheconsultationstatedthatadditionalchannelsshouldbeconsidered.

Somerespondentsunderlinedthatinadditiontothegeneralsizeofshadowbanking,whichcan causesystemicrisks,thereputationalriskthatshadowbankingmayentailforregularbanks shouldbeconsidered.

Anotherissuementionedwascalledthe“Paradoxofdiversification”,meaningthatthemorefinancialinstitutionsstarttobehavesimilarlyintheirdiversificationstrategytoreduceindividualrisks,themorethe correlationofassetsclasseswillincreaseresultinginhighersystemicrisk.

Alsotheriskofshadowbankinginstitutionsbeingusedasinstrumentstohideillicitactivities(e.g.taxfraudormoneylaunderingstrategies)wasmentioned.

Manyrespondentsconfirmedthatasignificant amountoftherisk islinkedtothecomplexityandlackoftransparencyofproducts,structuresoractivitiesinthearea ofshadowbanking.

Itwasmentionedthatmisalignmentsorevenconflictsofinterestsmayariseinsecuritisation-basedcreditintermediation,whichdonotexistforatraditionalbanklendingfromits ownbalancesheet.

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Thismayresultin asupplyofpoorlyunderwrittenloansandstructuredsecurities,whichcouldthreatenthecollapseofentiremarkets.

Complexitywasmentionedbysomerespondentsasanotherchannelthroughwhichriskscanbecreated,sincethelongerthechainoffinancialintermediationinshadowbankingis,themoreentitieswillbeexposedtotheknock-oneffectsofdislocationatsomepointfurtherupthechain.

Moreover,thecomplexityofthelinksthatmayformbetweenshadowbankscouldhavedestabilisingnetworkeffects.

In addition,thelowerthequalityoftheloan,thelongerthechainthatmayberequired to enhancethequalityoftheassetstothestandardsneeded to sellto moneymarketmutualfundsandotherendinvestors,therebycreatingmorerisks.

Somerespondentscommentedthatcomplexityreducestransparency,which canbemisleadingfor intermediaries, investorsandregulatorsintermsofriskallocation.

Thismayallow “risks to accumulateunnoticedandunchecked”givingrise tothepossibilitythat,“whenhiddenriskssuddenlybecomeapparent,marketparticipantseffectivelypanic”.

Opacitymayalsospawn“fraud,misconduct,and otheropportunisticbehaviour”.

Otherssuggestedthattherelianceofshadowbankingoncollateralisedwholesalemarketfundingmayamplifyeconomicandmarketcyclesbyfacilitatingleveragewhenassetpricesarebuoyantandmarginsand haircutsarelow.

This cantriggerrapidanddeepdeleveraging whenconfidenceispuncturedbyashock,causingassetpricestofallandmarginsandhaircutstorise.

Pro-cyclicalityismadeworseby theinterconnectednesswith

thetraditionalbankingsector,whichcreatesnegativefeedback loops.

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  • Questionf-Doyouagreewiththeneedforstrictermonitoringandregulationofshadowbankingentitiesandactivities?

  • Themajorityofstakeholdersagreedwiththeneedforstrictermonitoringandregulationoftheshadowbankingsystem.

  • However,in mostcasesitwaslinkedtoconditions,suchas:

  • Itshouldbebasedontheprincipleof"samebusiness,samerules" andhas tobecoherentandbasedonthecapacityandexpertiseofthesystemofsupervision;

  • Anynewregulatoryframeworkshouldnotpenalisethe"good"sideofshadowbanking;

  • AccesstofinanceforSMEs shouldnotbeimpeded;

  • TheopinionsofFSB,ESRB,IOSCO,BaselCommittee,EIOPA,ESMA,EBAshouldbetakenintoaccount;

  • Itshouldbebasedonsolidanalysisoftherealneedsandtheimpacts;

  • Regulationneedstobetargetedandproportionate;

  • Regulatoryactionneedstobecoordinatedongloballevel;and

  • Theimpactofon-goingregulatoryinitiativesshouldbetakenintoaccount,e.g.intheareaofEuropeaninvestmentfunds.

  • In additiontostricterregulationitwasmentionedthatmoredetaileddisclosurerequirementsandenhancedmonitoringsystemscouldbeseenasafirststepforimprovingtheunderstandingoftheshadowbankingsector.

  • Thus,thereisnoneedtoexclusivelyfocusonregulation.

  • Itwassuggestedthatamonitoringprocessshouldbeputinplace,includingmapping, identificationanddetailedanalysisofaspectsposingsystemicrisk androomforregulatoryarbitrage.

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ManyrespondentsstressedthattheEUshouldnotmissthisopportunity todemonstrateleadershipandsettheglobalagendaforfutureshadowbankingregulation.

AnEU-wideshadowingbankingdatagapanalysisshouldbecommissionedtocompletetheworkalreadystartedbytheECBandshouldincludetheinputofEUpractitioners,ifpossible.

TheEuropeanCommissionshouldcreateashadowbankingdatamanagementtaskforcetoaidinthedevelopmentofpotentialtarget-operatingmodels tomeetshadowbankingpolicyobjectives,includingcost-benefitanalyses.

QuestiongDoyouagreewiththesuggestionsregardingidentificationandmonitoringoftherelevantentitiesandtheiractivities?DoyouthinkthattheEUneedspermanentprocessesforthecollectionandexchangeofinformationonidentificationandsupervisorypracticesbetweenallEUsupervisors,theCommission,theECBandothercentralbanks?

TherewassupportforanEUcentraldatabasebuildingonajointeffortbypublicauthoritiesandthefinancialservicesindustry.

TheproposedEUpermanentprocessesforthecollectionandexchangeofinformationshouldbecentralisedandcoordinatedtolimitreportingburden.

Itwasproposed to consideranexemptionforentitieswhoseactivitiesdonotexceedcertainthresholdsorarenotofashadow bankingnature.

Themonitoringatnationallevelandinformalexchangeofinformation betweenEUsupervisorswasregardedassufficientbyotherrespondents,whoarguedagainstanexchangeofinformationatthegloballevel.

Othercommentsweremorecriticalandsuggestedthatidentificationandmonitoringmustbecarriedoutonthebasisofthesystemicrisks.

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TheyconsideredthattheproposedapproachintheGreenPapergenerallydoesnot achievethis;anentity/activityspecificapproachisnecessary.

SomestakeholdersproposedthattheESRBshouldbegivenamandatetocoordinatetheregularmonitoringoftheshadowbankingsector,in linewiththestepbystepapproachfollowedbytheFSB.

Furthermore,theroleoftheESRBshouldbeclarified.

Forthepurposesofmonitoring,dataandinformationfromvarioussourceswillbeneeded,bothaggregateandentity-specific aswellascoveringallfinancialsector.

Questionh-Doyouagreewiththegeneralprinciplesforthesupervisionofshadowbankingsetoutabove?

Therewasalargedegreeofsupportfortheproposedprinciples(GreenPaper,page6).

However,concernswereraisedthatfurtherdetailswouldberequiredfortheirimplementation,e.g.regardingwhatwouldbedeemedtobethe'appropriatelevel'and'proportionate',andhow supervisionwillbe'integratedwithinthemacroprudentialframework'.

Furthermore,somerespondentsreferredtotheconsolidationrulesunderIFRSasanimportantelementofsupervisingnon-bankactivities.

Thepointwasmadethat,ingeneral,supervisionshouldbecarriedoutonEuropeanlevelinordertogetabetterunderstandingofexistingcreditintermediation chains.

In contrast,somerespondentspreferredamorenationalapproach.

Otherscommentedthatitisimportanttodevelopamechanismthat allowsforthemeasurementofthelevelofimplementationandappropriatenessofthesuggestedprinciples.

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Somerespondentshighlightedthat,sincetheshadowbankingsystemwillcontinuetoevolve,itisimportantthatregulation canbeadapted tonewdevelopments.

Othersstressedtheneedforregulationandprinciples tobedeliverableandoperational.

In addition,newpolicy shouldonlybeadoptedsubjecttoEUwideconsultationandcostbenefitanalysis.

Somerespondentsexpresseddisagreementwiththeprinciples,unlessamoreextensivemappingofshadowbankingwithanindicationofthecorrespondinglevelofriskforeachactivityandentityisundertaken.

Furthermoreaclearerdefinitionofprioritiesandexemptionsshouldbedevelopedbeforetheprinciplesareapplied.

QuestionI-Doyouagreewiththegeneralprinciplesforregulatoryresponsessetoutabove?

Stakeholdersbroadlyagreedwiththegeneralprinciplesforregulatory responses(GreenPaper,page7),butexpressedsomepreferencesand nuances totheapproach:

Stakeholderssuggestedthatshadow bankingentitiesandactivitiesthatincurcreditrisk(eventhosethatdonotcollectcustomerdeposits)should besubject tosimilarsolvencyandliquidityrequirementsascreditinstitutionsoncetheirlevelofactivitypassesacertainthreshold.

However,thedifferentstagesofdevelopmentindifferentcountriesshouldberecalledinthiscontext.

Otherswarnedthattheextensionofexistingbankingregulation toshadowbankingentitiesshouldbecarefullyconsidered,inordertodeterminewhethertheprovisionssuitableforthebankingsectorwillhavethesameeffectontheshadow bankingsector.

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  • In additiontherehas to becleardistinctionbetweenbanks andshadowbanks,sothatcreditinstitutionsarenotsubjectedtodoubleregulation.

  • Itwassuggestedbysomerespondentsthataregulatoryresponseshould beappropriatelycalibrated, in ordertocarefullyconsiderhowmarketactivitiesareperformed;avoidunintendedconsequences;preservethebenefitsofshadowbanking;and,ensurealevelplayingfieldbetweentheregulatedbankingandnon-regulatedfinancialsectorsperformingsimilaractivities.

  • AnyregulatoryproposalshouldcomplywiththepolicyrecommendationsdevelopedbyFSB,IOSCOortheBaselCommittee.

  • Stakeholdersstressedthat,intheirview,themosteffectiveapproachwouldbetofocusontheextensionorrevisionofexistingmechanisms.

  • Theyarguedthatanynewmeasureswouldsufferfromstaticdefinitionsandthatindirectregulationmightnotsufficientlytargetshadow bankingconcerns.

  • Aspectssuchastaxavoidanceschemesshouldalsobetakenintoaccount.

  • Anapproachbasedoneconomicsubstanceandactivity,ratherthanonfixedandnarrowly-definedentities,wasregardedasmoreeffective.

  • Instrumentsforaddressingthelinksbetweenregulatedentities/activities

  • andtheshadowbankingsectorwereregardedasnecessary.

  • Itwassuggestedthatforthispurposeanumberofmicro-prudentialinstrumentscouldbeused to addressmacro-prudentialaims,forexample:

  • Bankcapitalbuffers;

  • Sectorialcapitalrequirements,suchasspecificrisk weightsonintra-financialsystemexposures;

  • Largeexposuresandactivitylimits;

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  • Fundingconcentrationlimits;and

  • Minimumand"throughthecycle"marginandhaircutrequirementsforsecuredlendingandfinancingtransactions.

  • Somerespondentswereconcernedthatthesupplyof"safeassets"willhavetoincreaseinordertobalancetheeffectsofotherregulatoryreforms,suchastheOTCDreformortheeffectsofthecrisis,includingdeleveraging.

  • Withthecurrentgeneralshortageofsafeassets,theshadowbankingsystem canplayarole to fillthisvacuum.

  • Fromaregulatoryperspectiveregardshouldalwaysbehadtothesourceofsafeassetsandthewayinwhichtheyareprovided(suchaswhetherthereisatitletransfer inwhich ownershipchangeshands).

  • Otherrespondentssuggestedthatthefirstpriorityshouldbetoestablishacompleteoverviewoftheinterconnectednessbetweenallentitiesandactivitiesandthebankingsystemandtohaveanunderstandingoftheunintendedconsequencesforaccesstofinancefortherealeconomy.

  • Theyhighlightedthatthereisno"one-sizefitsall"approach,underliningtheimportanceofflexibilityandadaptabilityofnewregulation todevelopmentsinthesector.

  • Theneedfordetailedimpactassessmentswasmentioned.

  • Otherprinciplesmentionedincludedsafeandefficientmarketstructures;non-distortionofcompetitionor interferenceinprice-buildingmechanism;andfinancialinnovationandscrutinyofunintendedconsequences.

  • SomestakeholdersstressedtheneedformoreconsistentenforcementandaclarificationofthepowersoftheESRB,aswellastheneedforaclosecoordinationbetweenmacroandmicroprudentialauthoritiesandconduct-of-businessregulatorstoavoidpolicyconfusion.

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Othersraisedtheissueoffollow upandthereforetheneedforperiodicassessmentandreviewofeffectivenessdue totheinnovativenatureofshadowbanking.

Questionj-Whatmeasurescouldbeenvisagedtoensureinternationalconsistencyinthetreatmentofshadow bankingandavoidglobalregulatoryarbitrage?

Thisissuewasregardedbyalmostallstakeholdersaskey,inorder toavoidthecreationofloopholesorincentivesforregulatoryarbitrageattheinternationallevel.

Mostrespondentsthereforearguedforconsistentregulatoryguidelinesacrosscountries.

InparticulartheFSBandIOSCOwerementionedasorganisationswhich shouldensure internationalcoordination.

Forexampletheadoptionofaninternationally-consistentdefinitionforshadowbankingsystemswasregardedasacrucialelement.

ItwassuggestedthattheEUshouldcomplywiththeFSB'srecommendationsasfaraspossibleanditshouldestablishanintegratedframeworkformacroandmicroprudentialsupervisionalongsideglobalinformationanddataexchangeframeworkatgloballevel.

AregularexchangeandsharingofinformationanddatabetweenauthoritiescouldbeachievedbytheimplementationoftheGlobalLegalEntityIdentifier(LEI).

Certainrespondentshighlightedthattheexistingregulatoryframework,

i.e.Basel2and2.5,alreadycontainsufficientregulatoryinstrumentsthatwouldallow forastrongerfocusoninternationalconsistency.

Theimportantroleofpeerreviewswasmentionedinthiscontext.

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Otherssuggestedthatmoreharmonisationthroughtheremovalofmaterially-unjustifieddifferences(e.g. in accountingandconsolidationrules)shouldbe achieved.

Theystressedthatrisksrelated totheshadowbankingsectorarecurrentlyheightened to avaryingextentacrosstheEU,notonlyduetodifferencesinregulationbutalsobecauseofdifferencesininterpretationandenforcement.

Tothisend,agreateruseofregulationsinstead ofdirectivesinEUlegislationanddirectsupervisionatEUlevelwerementionedasappropriatemeasures.

Ontheotherhand,somestakeholderswarnedthatfullharmonisationandcoordinationattheinternationallevelmaynotbe achievableduetothedifferentstructuresofdifferentmarkets,e.g.MMFs.

Othersweremore cautiousandwarnedthatglobalharmonisationwould beunrealisticatthisstage.

However,theywereoptimisticthatrelianceontheFSBframeworkandmoreextensiveuseofpeerreviews(e.g.bytheIMFFSAPandFSB)could bebeneficial.

Questionk-WhatareyourviewsonthecurrentmeasuresalreadytakenattheEUleveltodealwithshadow bankingissues?

StakeholderssummarisedmeasuresalreadytakenatEUlevel, inparticularlegislationinthearea ofAIFMD,MiFID,UCITSorCRAs.

Thesewerebroadlywelcomedandregardedasappropriatemeasuresforaddressingkeyconcerns.

However,somerespondentsexpressedconcernsregardingthecumulativeimpactofthemeasuresandcommentedthattheeffecton

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particularareasoffinancialmarkets(e.g.thesustainabilityofsecuritisationmarket)iscurrentlyneglected.

Thus,anyadditionalregulation to addressrisksposedbyshadowbanksshouldnotoverlapwithexistingregulation.

Furthermore,potentialexistingloopholesincurrentlegislationshouldbeidentified.

Itwasalsomentionedthatindirectregulationviathebankingandinsurancesectorsisacrucialelementofaregulatoryresponse to shadowbanking.

However,enlargingthescopeofexistingregulationshouldbedonecarefully.

Othersstressedtheneedforfurtherevaluationof"softrules"(LevelII)developedbyESMA.

Oneconclusionmightbe tomakethemlegallybindinginordertoimproveconsistentapplication.

Somecommentatorsasked forcautionregardingnewproposals,sincetheytooktheviewthatcertainentities,e.g.MMFs andETFs,arealreadysufficientlyregulatedintheEU.

ConcernswerealsoexpressedregardingextendingprovisionsofCRDIVtonon-deposittakingfinancialcompanies.

Questionl-DoyouagreewiththeanalysisoftheissuescurrentlycoveredbythefivekeyareaswheretheCommissionisfurtherinvestigatingoptions?

Stakeholdersbroadlyagreedwiththefiveareasmentioned(GreenPaper,pages11-13),whichlargelyreflectthefiveworkstreamssetupbytheFSB.

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Hence,mostrespondentsstressedthatthefinaloutcomeoftheFSBworkshouldbetakenintoaccount.

Thefollowingspecificcommentsweremade:

Bankingregulation

MostrespondentsbelievethatCRD/CRRIVwillimprovetheregulation ofshadow banksandwillprovidepowers to set capitalandliquidityguidanceviaamacro-prudentialtool-kit.

Asregardsthelinksbetweenthebankingandunregulatedsectors,consolidationpolicycanplayaroleinensuringthe"samebusiness,samerules"principle.

FinancialreportingrequirementsaccordingtoIFRSandcapitalguidanceunder CRDII/III,ifappliedconsistently,provideagoodbasisformanagingrisksarisingfrombanks' interactionwiththeshadow bankingsector.

Assetmanagementregulationissues

MostofthecommentswererelatedtoMMFsandETFs.

RegardingMMFstheriskshighlightedbyIOSCO(runs,contagionrisk,andimplicitguaranteeofsponsorsforreturnofcapital,constantNAVfunds,ratingrisk)werementioned.

Viewsregardingvaluation(constantversusvariableNAV)weremixed.

SomerespondentssuggestedthatMMFsarenotvulnerable to massiveredemptionsandshouldnotbeconsideredshadow bankingentities/activities,withtheexceptionofC-NAVMMFs.

TheyconsideredthatMMFs arenotasourceofsignificantmaturity transformationwithinEuropeandrepresentlimitedrisk.

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OtherstooktheoppositeviewandarguedforasubstantialrevisionofMMF regulation.

Othercommentsincludedaproposaltoexcludecertainassetclasses,suchasrawmaterials,fromUCITSsincetheywouldnotprovideaddedvaluetothesociety, RegardingETFstheESMAguidelineswereconsideredtoestablishaharmonizedframeworkonthequalityofcollateral;prohibitedtransactionforre-useofcollateral;preventionofconflictsofinterest;andliquidityofthefund,althoughthereseemedtobeapreferenceformakingthoserulesbinding.

(iii)Securitieslendingandre-purchaseagreements

Moststakeholdersagreedwiththefocusin thisareaandsuggestedthattheissueofincreasedleverageshouldbeaddresseddirectly,ratherthanindirectly,throughregulationofsecuritiesmarkets.

Otherrespondentssuggestedintroducingadequatemeasurestodealwithliquiditymismatches,concentrationandroll-overrisksincollateralisedfundingmarkets.

Europeansupervisorybodiescouldbeallowedtomonitoranassetencumbranceratio.

Somesuggestedexploringtheissueof"whoownswhat"insecuritiesfinancingtransactionsandtoconsiderdifferentpolicy options to addressexistingrisksnotablybylookingataccountingrulesortheintroductionofquantitativelimits.

Onerespondentexpressedconcernsregardingthepotentialconfusionof "re-use"and"re-hypothecation"assynonymswhenin factthereisanimportantdifferenceregardingthetransferoftitles(whichisthecaseforrepos,butnotforre-hypothecation).

Anumberofstakeholderswasnotin favourofminimummarginorhaircutrequirementsandarguedthatmandatoryhaircutsappliedtothesecuritieslendingmarketarelikelytoincrease,ratherthanreduce,

pro-cyclicality.

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Oneconcernexpressedwasthatifinvestmentmanagerswerenotable toprotecttheirinvestorsbyincreasinghaircuts(andamandatoryminimumhaircutmayineffectbecomeamaximum),theymaystoplendingaltogethertocertaincounterparties.

Manycommentatorsagreedwiththeideaofincreasedtransparencyandthesettingupoftraderepositoriesforrepos.

Fromamacro-economicperspective,regulatorymeasuresshouldbehorizontalandfocuson collateralmanagement.

Securitisation

Onlyafewstakeholderscommentedonthisbystatingthatsecuritisationissuesarealreadycoveredbyexistingregulation(CRDII/III/IV,BaselTradingBookreview).

Arenewedassessmentofaneedforreviewshouldwaituntiltheimplementationiscompleted.

Overalltherewasnotastrongpushforfurtherregulationinthisarea.

Othershadowbankingentities

ThisareaisstillunderconsiderationbytheFSB(workstream 3).

Mostrespondentstherefore askedforfurtherclarificationandsuggestedwaitingfortheoutcomeoftheFSBwork.

BasedoninitialresultsoftheFSBwork,mappingofentities,risksandregulationwasregardedastherightapproach,withaclearfocusonactivitiesandnotentities.

In additiontothefivekeyareas,anumberofrespondentsarguedforimprovementsregardingtheoveralltransparencyoftheshadow bankingsectorandinparticularinthearea ofreposandsecuritieslendingtransactions.

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  • Thesettingupoftraderepositorieswasbroadlysupported,mainlybecausethiscouldhelptrackingcounterpartyrisk andpotentialconflictsofinterest.

  • However,thisshouldideallybepursuedin paralleltoharmonisedreportingand accountingrequirements.

  • Questionm-Arethereadditionalissuesthatshouldbecovered?Ifso,whichones?

  • AlthoughmostconsultationrespondentswelcomedthescopeandrangeofquestionsraisedbytheGreenPaper,somelistedanumberofadditionalissues,including:

  • Theintroductionofamandatoryclearingobligation(TriParty-Repo),aswellasanobligationtotradeonregulatedmarketsforstandardizedoutside-grouptransactions;

  • Aclearfocusoncontingentliabilitiesingeneral,includingnotonlythosefrombanks,butfromallpotential"guarantors"andnotlimitedtoMMF-relatedstep-inliabilities.Thisisbecausethehighlevelofindebtednessofsovereignsandmoralhazardcreatedbygovernmentguaranteesisarisk factor;

  • Regulatorsshouldlookmoreintointerconnectionsbetweenshadowbankingandtheinsurancesector.

  • ThecoreprinciplesofSolvencyIIregimeshouldbeconsistentwithCRDIV;

  • Some techniques(darkpoolsandHFT)donotrelatedirectlytoshadowbankingbuttheyshouldbemorein thefocus,subjecttomonitoringandregulationifneeded;and

  • ThePrimeCollateralisedSecurities(PCS) initiativelaunchedatEUlevelintheareaofsecuritisationshouldbepromoted.

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  • ForexampleitcouldbeassessedbyEBAandrecognisedaseligibleassetinthecontextofCRDIV.

  • Questionn-WhatmodificationstothecurrentEUregulatoryframework,ifany,wouldbenecessaryproperlytoaddresstherisksandissuesoutlined above?

  • Stakeholdersprovidedanumberofideasregardingmodifications tothecurrentEUregulatoryframework,including:

  • Itshouldbeinvestigatedifandhowcurrentrulesforbankliquiditycouldbeextendedtoallnon-regulatedbankentities,includingshadowbankingentities;

  • Moreattentionshouldbepaidtonakedshortsellingandinvestmentinrawmaterials;

  • The own capitalrequirementsandfutureliquidityrequirements,foreseenundertheCRRforcreditinstitutionsengaging in securitiesloanstransactions,shouldalsoapplyincasesofchaintransactionwhenoneormoreintermediariesarenotcreditinstitutions;

  • Thereshouldbesupportforthedevelopmentanduseofeffectivemacroprudentialoversighttomonitorrisksemerginginthesystemasawholeandthetargetedandproportionateuseofmacroprudentialpolicytools.

  • Instead ofnewregulation,thefocusshouldbemoreonincreaseddisclosure,transparency,datacollectionandmonitoringsystems;and

  • Existingandwell-functioningregulation,e.g.UCITS,shouldremainunchanged.

  • AnumberofrespondentsarguedthattherearegoodreasonsforareformofMMFsintheareaofminimumliquidity,valuation techniques,andcreditratings.

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  • Othersarguedintheoppositedirection,maintainingthatthecurrentregulationofMMFsappropriatelyaddressesinherentrisks.

  • Questiono-Whatothermeasures,suchas increasedmonitoringornon-bindingmeasuresshouldbeconsidered?

  • Stakeholderssuggestedanumberofothermeasuresthatshouldbeconsidered:

  • Aconstantreassessmentofrisk mappingexerciseshouldbeconductedbyrelevantauthorities;

  • Theregulatorysystemneedstobesuitablydynamicinordertoaddressnewregulatoryissuesrelatedtotheinventivenessofshadowbankingsector;

  • Transparencyofsupervisorysystemscanbeimprovedbythepublicationofcoreindicators,suchassupervisorypersonnelperemployeeinthefinancialsectoretc.;

  • Whilethe"singlerulebook"issupported,aframeworkshouldbesetupallowingmacro-prudentialauthoritiessome"constraineddiscretion"(withsafeguards)insettinghigherstandards todealwithfinancialstabilityrisks in theirjurisdictionarisingfromSB.

  • Inaddition,subjecttothesafeguards,itisnecessarytoallowforaflexibleandtargetedapplicationofmacro-prudentialinstrumentstosectors,entitiesand activities(includingaprocessenabling newinstruments tobe activatedswiftlywhenneedarisestoaddressspecific systemicrisksconcerns);

  • Moretransparencyisneeded,e.g.aEuropeantraderepositoryforrepos;and

  • AbetterexchangeofdataandinformationbetweensupervisorsandthecreationofEUdatabaseswithoutduplicationofdataoroverburdenregulatedintermediarieswouldbebeneficialinorder toreducesystemicrisks.

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2.2.2.GeneralOverviewoftheConsultation

In ordertodevelopadeeperunderstandingoftheissues,theEuropeanCommissionlaunchedaGreenPaperandconsultationfrom19Marchto15June2012.

ThekeyobjectiveoftheGreenPaperwas to consultstakeholdersonshadowbankingissues:definition,risksandbenefits,theneedforstrictermonitoringandregulation,outstandingissuesandpossiblenextsteps.

TheCommissionreceivedin total140contributions,ofwhich24fromPublicAuthorities,47fromregisteredorganisationsand64fromindividualorganisations.

Fiveorganisationsaskedfortheirsubmission to remainconfidential.

ThelargestnumberofresponseswassubmittedfromstakeholdersintheUK,France,andGermanyandfromEUbasedfirmsorassociations.

In termsofprofessionalbackground,themostsubmissionscamebyfarfromthefinancialsector,includingfinancialinstitutionsandassociations.

Aconsiderablenumberofsubmissionscamefromthepublicsector,governments,nationalbanks andregulators.

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2.2.3.Listofparticipants

NationalBankofRomania

AXAInvestmentManagers

ABIAssociazioneBancariaItaliana

Confidentialityrequested

NomuraInternational plc

CNMVAdvisoryCommitteeoftheSpanishSecuritiesMarketLaw

MarkitInc

EIOPA– EuropeanInsuranceandOccupationalPensionsAuthority

HFSB– HedgeFundStandardsBoard

MFA– ManagedFundsAssociation

EuropeanNetworkofCreditUnions

VGF-VerbandGeschlosseneFonds

EBG-EuropeanBankingGroup

DIHK– DeutscherIndustrie-undHandelskammertage.V.

RollsRoyceplc

LeaseEuropeAISBL

CLLS -CityofLondonLawSociety

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IFCR-InternationalCentreforFinancialRegulation

Confidentialityrequested

ESBG-EuropeanSavingsBanskGroup

BBA-BritishBankers'Association

Dansk Aktionaerforening

EurofinasAISBL

GenworthInc

FinanceWatchAISBL

EBF -EuropeanBankingFederation

GovernmentofPoland

CentralBankofIreland

VÖB- BundesverbandÖffentlicherBankenDeutschlands

VNO-NCWandMKBNetherlands

ASFAssociationFrançaisedesSocietesFinancieres

TamarJouliaParisandCaseyCampbell

TradeUnionProFinland

CliffordChance

FLA-FinanceandLeasingAssociation

MinistryofFinanceFinland

VVDGroup–VolkspartijvoorVrijheidenDemocratie

TSITrueSaleInternationalGmbH

MBIAUKInsuranceLimited

AFGIAssociationofFinancialGuarantyInsurers

GCAE -GroupConsultatifActuarielEuropean

ZIA -ZentralerImmobilienAusschusse.V.

LithuanianFreeMarketInstitute

RoyalMinistryofFinanceNorway

FMA– FinancialMarketAuthorityAustria

GroupeGTI–GestionetTitrisationInternationales

BdB– BundesverbandDeutscherBanken

APB -PortugueseBankingAssociation

TiberiuTudorSalantiu

UniCreditGroup

ABFA–AssetBasedFinanceAssociation

Mazars

AMUNDIAssetManagement

BBF-BelgianAssociationofFactoringCompanies

FinancialServicesUserGroup

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CGPME

JerseyFinancialServicesCommission

MEDEF– MouvementdesEntreprisesdeFrance

Sciteb

DeutscherFactoringVerbande.V.

NFU-NordicFinancialUnions

BAK- BundesarbeitskammerAustria

Confidentialityrequested

MinistryofFinanceCzechRepublic

af2i– associationfrançaisedes investisseursinstitutionnels

ICMA-ERCEuropean RepoCouncil

ESRB– EuropeanSystemicRisk Board

DSGV– GermanSavingsBanks Association

FAAN– Factoringandasset-basedfinancingAssociationNetherlands

MelanieL.Fein

CNB– CzechNationalBank

UNIEuropa

GovernmentoftheNetherlands

IFCForum

GDV– GesamtverbandderDeutschenVersicherungswirtschafte.V.

RBSGroupplc

KEPKA– ConsumerProtectionCentreGreece

IMMFA– InstitutionalMoneyMarketFundsAssociation

AllianzSE

HSBCGlobalAssetManagement

LMA-TheLoanMarketAssociation

VeblenInstituteforEconomicReforms

ChrisBarnard,Actuary,Germany

MariaNiewiadoma,Poland

ICISA– InternationalCreditInsurance&SuretyAssociation

JeroenSpaargaren

ABI-AssociationofBritishInsurers

BancodePortugal

CBI– ConfederationofBritishIndustry

ICI-InvestmentCompanyInstitute

IIF– InstituteofInternationalFinance

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GermanAuthorities–DeutscheBundesbank,BundesministeriumderFinanzen,BaFin

ALFI– associationoftheluxembourgfundindustry

AIMA–AlternativeInvestmentManagementAssociation

UBS AG

ISLA– International SecuritiesLendingAssociation

IMA– InvestmentManagementAssociation

afg– associationfrançaisedelagestionfinancière

NATIXISAssetManagement

EACH–European AssociationofCCPClearingHouses

EuroFinuse–EuroInvestors–TheEuropeanFederationofFinancialServicesUsers

MinistryofBusinessandGrowthDenmark

Confidentialityrequested

OFPE– ObservatoiredesFondsdePrèsal'Economie

EFAMA– European FundandAssetManagementAssociation

BARCLAYS

BVI– BundesverbandInvestmentundAssetManagemente.V.

IntesaSanpaolo

EACB– EuropeanAssociationofCo-operativeBanks

IRSG-InternationalRegulatoryStrategyGroup

PricewaterhouseCoopersInternationalLtd

Confidentialityrequested

FBF-FédérationBancaireFrançaise

INVERCO -SpanishAssoc.ofCollectiveInvestmentSchemesandPensionFunds

SOMO -CentreforResearchonMultinationalCorporations

ICIGlobal

FederatedInvestorsInc

ICMA-AssetManagementandInvestorsCouncil

BNPParibas

HMTreasuryUnitedKingdom

CFA Institute

ifia-IrishFundsIndustryAssociation

StateStreetCorporation

afme -AssociationforFinancialMarketsinEurope

BlackRock

AFTE-AssociationFrançaisedesTrésoriersd'Entreprise

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ItalianMinistryofeconomyandfinanceandItaliansupervisoryAuthorities

JWG

FidelityInvestments

SwedishAuthorities

InsuranceEuropeAISBL

FrenchAuthorities

LSEG-LondonStockExchangeGroup

GovernmentofIreland

BundesratGermany

SwedishParliament

EBA-EuropeanBankingAuthority

ECB-EuropeanCentralBank -Eurosystem

BusinessEurope

ESMA-EuropeanSecuritiesandMarketsAuthority

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EuropeanUnion:FinancialSectorAssessment,PreliminaryConclusionsbytheIMFStaff

AFinancialSectorAssessmentProgram(FSAP)teamledbytheMonetaryandCapitalMarketsDepartmentoftheInternationalMonetaryFund(IMF)visitedtheEuropeanUnion(EU)duringNovember27–December13,2012,toconductafirst-everoverallEU-wideassessmentofthesoundnessandstabilityoftheEU’sfinancialsector(EUFSAP).

TheEUFSAPbuildsonthe2011EuropeanFinancialStabilityExercise(EFFE)andonrecentnationalFSAPsinEUmemberstates.

Themissionarrivedatthefollowingpreliminaryconclusions,whicharesubjecttoreviewandconsultationwithEuropeaninstitutionsand nationalauthorities:

TheEUisfacinggreatchallenges,withcontinuingbankingandsovereigndebtcrisesinsomepartsoftheUnion.

SignificantprogresshasbeenmadeinrecentmonthsinlayingthegroundworkforstrengtheningtheEU’sfinancialsector.Implementationofpolicy decisionsisneeded.

Althoughthebreadthofthenecessaryagendaissignificant,thedetailsoftheagreedframeworksneedtobeputinplacetoavoiddelaysinreachingconsensusonkeyissues.

Thepresentconjuncturemakesmanagementofthesituationparticularlydifficult.

Thecrisisrevealsthathandlingfinancialsystemproblemsatthenationallevelhasbeencostly,callingforaEurope-wideapproach.

InterlinkagesamongthecountriesoftheEUareparticularlypronounced,andtheneed toprovidemorecertaintyonthehealthof bankshasledtoproposalsforestablishingasinglesupervisorymechanism(SSM)associatedwiththeEuropean CentralBank(ECB),initiallyfortheeuroareabutpotentiallymorewidelyintheEU.

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Themission’srecommendationsincludethefollowing:Stepstowardbankingunion

TheDecember13EUCouncilagreementontheSSMisastrongachievement.

Itneedstobefollowedupwithastructurethathasasfewgapsaspossible,includingwithregardtotheinteractionoftheSSMwith nationalauthoritiesundertheprospectiveharmonizedresolutionanddepositguaranteearrangements.

TheSSMisonlyaninitialstep towardaneffectiveBankingUnion—actions towardasingleresolutionauthoritywithcommon backstops,adepositguaranteescheme,andasinglerulebook,willalsobeessential.

ReinvigoratingthesinglefinancialmarketinEurope

HarmonizationoftheregulatorystructureacrossEuropeneeds tobeexpedited.

EUinstitutionsshouldacceleratepassageoftheFourthCapitalRequirementsDirective,theCapitalRequirementsRegulation,thedirectivesforharmonizingresolutionanddepositinsurance,aswellastheregulatoryregimeforinsuranceSolvencyIIatthelatestbymid–2013,thusenablingtheissuanceofsinglerulebooksforbanking,insurance,andsecurities.

Moreover,theEuropeanCommissionshouldincreasetheresourcesand powersoftheEuropean SupervisoryAuthoritiesasneeded tosuccessfully achievethosemandates,whilealsoenhancingtheiroperational independence.

Improvedandexpandedstresstesting

Europeanstresstestingneeds togobeyondmicroprudentialsolvency,andincreasinglyserve to identify othervulnerabilities,suchasliquidityrisksandstructuralweaknesses.

Confidenceintheresultsofstress testscanbeenhancedbyanassetqualityreview,harmonizeddefinitionsofnon-performingloans,andstandardizedloanclassification,whilemaintainingahighlevelof disclosure.

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Experiencesuggeststhatthebenefitsofabold approachoutweightherisks.

Splittingbankandsovereignrisk

Measuresmustbepursuedtoseparatebankandsovereignrisk,includingbymakingtheESMoperationalexpeditiouslyforbankrecapitalizations.

Strongcapitalbufferswillbeimportantforthebanks toperformtheirintermediatingroleeffectively,to stimulategrowth,andsosafeguardfinancialstability.

Effectivecrisismanagementframeworkto minimizecoststotaxpayers

Taxpayers’potentialliabilityfollowingbankfailurescanbereducedbyresolutionregimesthatincludestatutorybail-inpowers.

Acommondepositinsurancefund,preferablyfinancedexantebyleviesonthebankingsector,couldalsoreducethecosttotaxpayers,evenifittakestime tobuildupreserves.

Grantingpreferentialrights todepositorguaranteeschemesinthecreditorhierarchycouldalsoreducecosts,particularlywhileguaranteefundsarebeingbuilt.

TheEuropeanCommissionandmemberstatesshouldassess thecostsandbenefitsofthevariousplansforstructuralmeasuresaimedatreducingbanks’complexityandpotentialtaxpayerliabilitywithaviewtowardsformulatingacoordinatedproposal.

Ifadopted,itwouldbeimportant to ensurethatsuchmeasuresarecomplementarytotheinternationalreformagenda, notcausedistortionsinthesinglemarket,andnotlead to regulatoryarbitrage.

Lastly,themissionwouldlike to extendtheirthankstoEuropeaninstitutionsforclosecooperationandassistanceincompletingthisFSAPanalysis.

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EuropeanCybercrimeCentre(EC3)openson11January

Asfrom11JanuarythenewEuropeanCybercrimeCentre

(EC3)willbeupandrunningtohelpprotectEuropean citizensand

businessesfromcyber-crime.

EUCommissionerforHomeAffairsCeciliaMalmströmwillparticipateintheofficialopeningoftheCentreestablishedattheEuropeanPoliceOffice,EuropolintheHague(theNetherlands).

"TheCybercrimeCentrewillgiveastrongboosttotheEU'scapacitytofightcybercrimeanddefendaninternetthatisfree,openandsecure.

Cybercriminalsaresmartandquick inusingnew technologiesforcriminalpurposes;theEC3willhelpusbecomeevensmarterand

quickertohelppreventandfighttheircrimes",saidCommissionerMalmström.

"In combattingcybercrime,withitsborderlessnatureandhugeabilityforthecriminals tohide,weneedaflexibleandadequateresponse.

TheEuropeanCybercrimeCentreisdesignedtodeliverthisexpertiseasafusioncentre,asacentreforoperationalinvestigativeandforensicsupport,butalsothroughitsabilitytomobiliseallrelevantresourcesinEUMemberStatestomitigateandreducethethreatfromcybercriminalswherevertheyoperatefrom",saidTroelsOerting,HeadoftheEuropeanCybercrimeCentre

Investigationsintoonlinefraud,childabuseonlineand othercybercrimesregularlyinvolvehundredsofvictimsatatime,andsuspectsinmanydifferentpartsoftheworld.

Operationsofthismagnitude cannotbesuccessfullyconcludedbynationalpoliceforcesalone.

TheopeningoftheEuropeanCybercrimeCentre(EC3)marksasignificantshiftinhow theEUhasbeenaddressingcybercrimesofar.

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Aboveall,theapproachoftheEC3willbemoreforward-thinkingandinclusive.

Itwillpoolexpertiseandinformation,supportcriminalinvestigationsandpromoteEU-widesolutions.

TheEC3willfocusonillegalonlineactivitiescarriedoutbyorganisedcrimegroups,especiallyattackstargetinge-bankingandotheronlinefinancialactivities,onlinechildsexualexploitationandthosecrimesthat affect thecritical infrastructureandinformationsystemsintheEU.

TheCentrewillalsofacilitateresearchanddevelopmentandensurecapacitybuildingamonglawenforcement,judgesandprosecutorsandwillproducethreatassessments,includingtrendanalyses,forecastsandearlywarnings.

In ordertodismantlemorecybercrimenetworksandprosecutemoresuspects,theEC3willgatherandprocesscybercrimerelateddataandwillprovideaCybercrimeHelpdesk forEUcountries'lawenforcementunits.

Itwillofferoperationalsupport toEUcountries(e.g.againstintrusion,fraud,onlinechildsexualabuse,etc.)anddeliverhigh-leveltechnical,analyticalandforensicexpertiseinEUjointinvestigations.

Accordingto arecentEurobarometer,Europeansremainveryconcernedaboutcybersecurity.89%ofinternetusersavoiddisclosingpersonalinformation online,and12%havealreadyexperiencedonlinefraud.

Aroundonemillionpeopleworldwidefallvictimtosomeformof cybercrimeeveryday.Estimatesindicatethatvictimslosearound€290billioneachyearworldwideasaresultofcybercriminalactivities(Norton,2011).

Background

TheCommissionannounceditsintention to establishaEuropeanCybercrimeCentre(EC3) inthe'EU InternalSecurityStrategyin Action'(IP/10/1535andMEMO/10/598),adoptedon22November2010bytheCommission.

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Thesettingupofa(EC3)EuropeanCybercrimeCentre(IP/12/317and MEMO/12/221)ispartofaseriesofmeasuresthatseek toprotectcitizensfromonlinecrimes.

ItcomplementslegislativeproposalssuchastheDirectiveonattacksagainstinformationsystems(IP/10/1239andMEMO/10/463)andtheDirectiveoncombatingthesexualexploitationofchildrenonlineandchildpornographyadoptedin2011(IP/11/1255).

TheofficialopeningCeremonyoftheEC3willtakeplaceonthe11JanuaryattheheadquartersofEuropolintheHague,theNetherlands.

Registrationformedia

Pleaseregisterfortheofficialopening intheHaguebyusingthemediarequestformhttps://www.europol.europa.eu/webform/media-requestgivingthenamesofparticipants,theirmediaorganisationandthetypeofmediaorganisation.

Deadlineforregistrationis10January2013,14:00.PleasebringavalidIDandapresscard.

Forfurtherdetailsontheprogramme,pleaseseetheEuropol websitehttps://www.europol.europa.eu/content/news/ec3-opening-european-cybercrime-centre-1933

Formoreinformation

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Frequentlyaskedquestions:TheEuropeanCybercrimeCenterEC

Whataretheobjectives?

Themaintask oftheEuropean CybercrimeCentreis to disrupttheoperationsoforganisedcrimenetworksthatcommitalargeshareoftheseriousandorganisedcybercrimes.

Offencesincludethosegeneratinglargecriminalprofits,those causingseriousharmtotheirvictimsorthoseaffectingourvitalinfrastructureandITsystems.

TheCentrewillgather informationfromavarietyofsources– notonlylawenforcementauthorities– tosupportinvestigationsconductedbyMemberStates'authorities.

Thiswillallow theCentre to identifythemostdangerous,pressingcybercrimethreatsandsingleoutkeycybercrimenetworksintheEU.

TheCentrewillalsoprovideanearlywarningsystem fornationallawenforcementonnewvulnerabilitiescriminalshavestartedtoexploitoronhow tohandlenew,technicallychallengingcases.

TheCentrewillfurtherdevelopacommonstandardforcybercrimereportingsothatseriouscybercrime canbereported tonationallawenforcementauthoritiesinauniformway.

InformationfromacitizeninoneMemberStatereportingacompromiseofhisbankaccountcouldeasilybelinked to othercitizensreportingsimilarincidentsaffectingthesamebank intheirrespectivecountries.

In such cases,theCentrewillbeable toimmediatelyalertallotherMemberStates'authorities.

TheCentrewillalsorespondtoqueriesfromcybercrimeinvestigators,prosecutorsandjudgesaswellastheprivatesectoronspecifictechnicalandforensicissues,andwouldbringtogetherthevariousplayersincybercrimetrainingwiththeaimofincreasingtheoverallofferoftrainingpossibilitiesandexpandingsuchcoursestothejudiciary.

Finally,theCentrewouldassume thecollectivevoiceofEuropean cybercrimeinvestigators,providingaplatformtodevelopcommonpositionsofUnionlawenforcementauthoritiesonkeyissues,for

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exampleonInternetgovernancestructuresor inbuildingtrusted networkswiththeprivatesectorandnon-governmentalorganisations,andprovidingthenaturalinterfacefor international initiativestocurbcybercrime,suchasInterpol'sworkinthisdomain.

Howwillitwork?

Equippedwithstate-of-the-arttechnologyandastrongteamofhighly-qualifiedandspecialisedpersonnelofferingawidespectrumofservices

-fromhelpingMemberStatesanalysecomplexdigitalforensicevidence

toforecastingtrendsandscenarios,theEuropeanCybercrimeCentrewillbecomethefocalpointinthefightagainstcybercrimeintheUnion.

Howisthe EC³staffedandfunded?

SincetheEC³willbelaunchedwithinEuropolitsbudgetwillformpartofthegeneralEuropolbudget(whichamountedtoaround€84millionin2012).

Around7millioneuroswillbeavailablefortheEC³operationalactivitieswithintheEuropol2013budget.

Asforthestaff,30fulltimepositionsarealreadyoperatingwithintheEC³ andinthecourseof2013Europolwillmakeadditional redistributionsoftasks,soastofreearound10additionalposts,bringingthetotal EC³stafftoaround40people.

Asforsubsequentyears,additionalreinforcementswillbenecessary tomeettheincreasedworkload oftheCentre.

TheCommissionisatwork to findwaystoincreaseEuropol'sbudgetaccordinglywiththeAgency'sexpandingmandateinthefieldof cybercrime.

Whatistheextentofthecybercrimeproblem?

Accordingtoarecentstudy,Internetusersremainveryconcernedaboutcybersecurity.

Asmanyas89%ofthemavoiddisclosingpersonalinformation onlineand74%agreethattherisk ofbecomingavictimofcybercrimehasincreasedinthepastyear.

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In fact,aboutonemillionpeopleworldwidefallvictimtosomeformof cybercrimeeveryday.

Someestimatethatvictimslosearound€290billion2eachyearworldwideasaresultofcybercriminalactivities.

Accordingto aMcAfeestudycybercrimeprofitsamount to750billionayear,with150.000computervirusesincirculationeverydayand148.000computerscompromiseddaily

Whattypeofoperationswillbecarriedout?

Inthepastmonths,Europolhasalsosignificantlyincreaseditspracticalsupport to cybercrimeinvestigationsinMemberStates.

Onlylastyearandtociteonlyoneexample,OperationIcarus,coordinatedbyEuropol,identified273onlinechildsexualabusesuspectsand113ofthosesuspectsspreadacross23countrieswerearrested.

ThisisthescaleandcomplexityofoperationstheEuropeanCybercrimeCentrewillfocuson.

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SebastianvonDahlenandGoetzvonPeter

Naturalcatastrophesandglobalreinsurance–exploringthelinkages

Naturaldisastersresulting in significantlosseshavebecomemorefrequentinrecentdecades,with2011beingthecostliestyearinhistory.

Thisfeatureexploreshow risk istransferredwithinandbeyondtheglobal insurancesector

andassesses thefinanciallinkagesthatariseintheprocess.

In particular,retrocessionandsecuritisationallow forrisk-sharingwithotherfinancialinstitutionsandthebroaderfinancialmarket.

Whilethefactthatmostrisk isretainedwithintheglobal insurancemarketmakestheselinkagesappearsmall,theywarrantattentiondue totheirpotentialramificationsandthedependenciestheyintroduce.

Theviewsexpressed in thisarticlearethoseoftheauthorsanddonotnecessarilyreflectthoseoftheBIS,theIAISoranyaffiliatedinstitution.

Wewouldlike tothankAnamariaIllesforexcellentresearchassistance,andClaudioBorio,StephenCecchetti,EmmaClaggett,DanielHofmann,AnastasiaKartasheva,AndrewStolfiandChristianUpperforhelpfulcomments

Thephysicaldestructioncausedbyseverenaturalcatastrophestriggersaseriesofadverseeffects.

Damagedproductionfacilities,shatteredtransportationinfrastructureandbusinessinterruptionproducebothdirectlossesandindirectmacroeconomiccostsin theformofforegoneoutput(vonPeteretal(2012)).

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Beyondtheseeconomiccostsareenormoushumansufferingandahostoflongertermsocioeconomicconsequences,documentedbytheWorldBankandUnitedNations(2010).

By examiningcatastrophe-relatedlossesoverthepastthreedecades,thisspecialfeatureexploresthelinkagesthatariseinthetransferofriskfrompolicyholdersallthewaytotheultimatebearerofrisk.

Itdescribesthecontractsandpremiumsexchangedforprotection,andthewayreinsurersdiversifyandretainrisks ontheirbalancesheets.

In sodoing,thefeaturetraceshow lossescascadethroughthesystemwhenlargenaturaldisastersoccur.

Lossesfrominsuredpropertyandinfrastructurefirstaffectprimaryinsurers,whointurnrelyonreinsurers toabsorbpeakrisks–

low-probability,high-impactevents.

Reinsurers,inturn,usetheirbalancesheetsand,to alesserextent,retrocessionandsecuritizationarrangements,tomanagepeakrisksacrosstimeandspace.

[Retrocessiontakesplacewhenareinsurerbuysinsuranceprotectionfromanotherentity.

Securitisationrefers to thetransferofinsurance-relatedrisks(liabilities)tofinancialmarkets.]

Thisglobalrisk transfercreateslinkageswithintheinsuranceindustryandbetweeninsurersandfinancialmarkets.

Whilesecuritisationtofinancialmarketsremainsrelativelysmall,linkagesbetweenfinancialinstitutionsproducedthroughretrocessionhavenotbeenfullyassessedasdetaileddataarelacking.

Furtherlinkages canarisewhenreinsurersgobeyondtheirtraditionalinsurancebusinesstoengagein financialmarketactivitiessuchas

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investmentbankingorCDSwriting;theimplicationsofthoseactivitiesarebeyondthescopeofthisfeature.

Comprehensiveinformationisneeded tomonitortheentirerisk transfercascadeandassessitswiderrepercussionsinfinancialmarkets.

Physicaldamageandfinanciallosses

Naturalcatastrophesresultinginsignificantfinanciallosseshavebecomemorefrequentoverthepastthreedecades(Kunreutherand

Michel-Kerjan(2009),CumminsandMahul(2009)).

Theyear2011witnessedthegreatestnaturalcatastrophe-relatedlossesin history,reaching$386billion(Graph1,toppanel).

Thetrendinlossdevelopments canbeattributedin largemeasuretoweather-relatedevents(Graph1,bottomright-handpanel).

Andlosseshavebeencompoundedbyrisingwealthandincreased populationconcentrationin exposedareassuchascoastalregionsandearthquake-pronecities.

Thesefactorstranslateintogreater insuredlosseswhereinsurancepenetrationishigh.

At$110billion,insuredlossesin2011cameclosetothe2005recordof$116billion(inconstant2011dollars).

Thereinsurancesectorabsorbedmorethanhalfofinsuredcatastrophelossesin2011.

Thisconsiderableburdenonreinsurersreflectedthematerialisationofvariouspeakrisks,notablyinJapan,NewZealand,ThailandandtheUnitedStates.

Thelevelofinsuredlossesalsodependsoncatastrophes’geographyandphysicaltype.

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ThebottompanelsofGraph1show thatlossesduetoearthquakes(geophysicalevents)havebeenlessinsuredonaveragethanthosefrom storms(meteorologicalevents).

Thehighesteconomiclosses causedbygeophysicaleventsoccurredin2011 in thewakeoftheGreatEastJapanearthquakeandtsunami($210billion),forwhichprivateinsurancecoveragewasrelativelylowat17%(lefthandpanel).

Droughts canbeevenmoredifficult toquantifyandinsure.

Bycontrast,theright-handpanelofGraph1showsthatmeteorologicaleventsproducedrecordlossesin2005,whenHurricanesKatrina,RitaandWilmadevastatedaregionoftheUSGulfCoasthaving50%ormorein insurancecoverage.

Thevolumeofinsuredlossesdifferssubstantiallyacrosscontinents,dependingontheavailabilityofanddemandforinsurance.

Whileoverallaslightupwardtrendcanbediscernedoverthepast10years,thewidedispersionin insurancedensityindicatesthatthestageofaregion’seconomicdevelopmentplaysanimportantrole(Graph2,

left-handpanel).

ResidentsofNorthAmerica,OceaniaandEuropespendsignificantamountsonnon-life(propertyand casualty)insurance,whereasmanypopulouscountriesinLatinAmerica,AsiaandAfricahostunderdevelopedinsurancemarkets.

Poorcountriestypicallylackthefinancialandtechnicalcapacitytoprovideaffordableinsurancecoverage.

Forexample,lessthan1%ofthestaggeringeconomiclossesduetoHaiti’s2010earthquakewereinsured.

Thepatternofinsuredlossesthusonlypartlyreflectsthegeographyof naturalcatastrophes.

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Sources:Centre for Research on theEpidemiologyof DisastersEM-DATdatabase;MunichReNatCatSERVICE; authors’calculations.

NorthAmericaaccountsforthelargestinsuredlossesassociatedwithnaturaldisasters(Graph2,right-handpanel).

In 23ofthe32yearssince1980,morethanhalfofglobalinsuredlossesoriginatedintheregion,thoughpartofthisvolumewasredistributedthroughglobalreinsurancecompanies.

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Asia,Oceaniaand,toalesserextent,LatinAmericasawincreasesincatastrophe-relatedlossesonthebackofrisinginsurancedensityoverthepast10years.

Correspondingly,thesethreeregionsaccountforarisingshareofinsuredlosses.

Risktransfer

Naturalcatastrophe-relatedlossesarelargeandunpredictable.

Theinsuredlossesshownin Graphs1and2reflectrecentexperience.

Thissectiondescribesthesequenceofpaymentsbasedoncontractualobligationsthatistriggeredwhenaninsuredeventmaterialises.

Onecanthinkoftheinsurancemarketasorganisingrisk transferinahierarchicalway.

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Lossescascadedownfrominsuredpolicyholders totheultimatebearersofrisk (Graph3).

When catastrophestrikes,theextentofphysicaldamagedeterminestotaleconomiclosses,alargeshareofwhichistypicallyuninsured.

Theinsuredlosses,however,mustbeshoulderedbytheglobalinsurancemarket(Graph3,lightgreyarea).

Thepublicsector,whenitinsuresinfrastructure,oftendoessodirectlywithreinsurersthroughpublic-privatepartnerships,althoughmoredatawouldbenecessarytopindowntheexactscopeworldwide.

Themajorityofthelossesrelatetoprivateentitiescontractingwith primaryinsurers,thefirmsthatlocallyinsurepolicyholdersagainstrisks.

Claimsforreimbursementthusfirstaffect primaryinsurers.

Butthey absorbonlysomeofthelosses,havingceded(transferred)ashareoftheirexposuretoreinsurancecompanies.

Reinsurersusuallybear55–65%ofinsuredlosseswhenalargenaturaldisasteroccurs.

Theydiversifyconcentratedrisksamongthemselvesandpassafractionoflosseson to thebroaderfinancialmarket,whileultimatelyretainingmostcatastrophe-relatedrisk (seesectionbelow).

Beforedisasterstrikes,however,thereisacorrespondingpremiumflow in exchangeforprotection.

Basedonworldwideaggregatepremiumpaymentsin2011,policyholdersandinsuredentities,bothprivateandpublicsector,spent$4,596billiontoreceiveinsuranceprotection.

Some43%ofthisglobalpremiumvolume($1,969billion)relatestonon-life insuranceandtheremaindertolifeinsuranceproducts(IAIS(2012)).

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P age |164

Primaryinsurers, inturn,paidcloseto$215billiontobuycoveragefromreinsurers.

Thelion’sshare, nearly$165billion,camefromprimaryinsurersactiveinthenon-life business.

Aboutonethirdofthisamount,$65billion,wasgeared towardsprotectionagainstpeakrisks,with$18billionforspecific naturalcatastrophecontracts.

Bywayofcomparison,life insurancecompaniesspent2%oftheirpremiumincome,$40billion,onreinsuranceprotection.

Thiscomparativelylowdegreeofreinsuranceprotectionisduetothefact thatresultsaretypicallylessvolatileinlife insurancethaninnon-lifeinsurance.

Followinganyrisk transfer,insurersremainfullyliablevis-à-visthepolicyholderbasedontheinitialcontractualobligations,regardlessofwhetherornotthenextinstancepaysuponthecededrisk.

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P age |165

Reinsurancecompanies,inturn,buyprotectionagainstpeakrisksfromotherreinsurersandfinancialinstitutions.

In thisprocessofretrocession,reinsurersspent$25billionin2011tomitigatetheirowndownsiderisk.

InternationalAssociationofRiskandComplianceProfessionals(IARCP)www.risk-compliance-association.com


P age |166

Thebulkofthisamountrepresentsretrocededriskstransferredto otherreinsurancecompanies($20billioninpremiums),whilearelativelysmallshareiscededtoothermarketparticipantssuchashedgefundsand banks($4billion)andfinancialmarkets($1billion).

Animportantaspectofthisstructureistheprefundingofinsuredrisks.

Premiumsarepaidexanteforprotectionagainstaneventthatmayormaynot materialiseoverthecourseofthecontract.

Thesepaymentsbypolicyholdersandinsurersgenerateasteadypremiumflow to insurersandreinsurers,respectively.

OnlyifandwhenaneventwiththespecifiedcharacteristicsoccursaretheclaimspaymentsshowninGraph3triggered.

Atallothertimes,premiumflowsareaccumulatedintheformofassetsheldagainsttechnicalreserves(seenextsection).

Reinsurancecontractscomeintwobasicformswhichdifferinthewayprimaryinsurersandreinsurersdeterminepremiumsandlosses.

Proportionalreinsurancecontractssharepremiumsandlossesin apredefinedratio.

Sincethe1970s, nonproportionalcontractshaveincreasinglybeenusedasasubstitute.

Insteadofsharinglossesandpremiumsinfixedproportions,bothpartiesagreeontheinsuredrisksandcalculateaspecificpremiumonthatbasis.

Thetypicalnon-proportionalcontractspecifiestheamountbeyondwhichthereinsurerassumeslosses,uptoanagreeduponceiling(firstlimit).

Dependingontheunderlyingexposure,aprimaryinsurermaydecidetobuyadditionallayersofreinsurancecover,forexamplewith otherreinsurers,on topofthefirstlimit.

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P age |167

“Excessofloss”agreementsarethemostcommonformofnon-proportionalreinsurancecover.

Fornaturalcatastrophes,thesecontractsareknownasCatXL(catastropheexcessofloss)andcoverthelossexceedingtheprimaryinsurer’sretentionforasingleevent.

Amajorearthquake,forexample,islikelytoaffecttheentireportfolioofaprimaryinsurer,leadingtothousandsofclaimsindifferentlinesof business,suchasmotor,businessinterruptionandprivatepropertyinsurance.

Asaresult,primaryinsurersoftenpurchaseCatXLcoveragetoprotectthemselvesagainstpeakrisks.

Peakrisksandthereinsurancemarket

Areinsurer’sbalancesheetreflectsitscurrentandpastacceptanceofrisksthroughitsunderwritingactivity.

Dealingwithexposuretopeakrisks,whichrelatetonaturalcatastrophes,isthecorebusinessofthereinsuranceindustry.

Naturalcatastrophesarerootedinidiosyncraticphysicaleventssuchasearthquakes.

Whenunderwritingnaturalcatastropherisks,reinsurerscanrelytoalargeextentonthefactthatphysicaleventsdonotcorrelateendogenouslyinthewayfinancialriskdoes.

Toachievegeographicaldiversification,reinsurersofferpeakriskprotectionnotjustforonecountrybutideallyonaworldwidebasis.

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P age |168

Anotherformofdiversificationtakesplace overtime.

Premiumsareaccumulatedoveryears,andclaimspaymentsareusuallypaidoutoverthecourseofmonthsorsometimesyears.

Graph4(left-handpanel)showstheaveragepayoutprofileforCatXLcontracts.

Statisticsonreinsurancepaymentsshowthatclaimsaretypicallysettledoveranextendedperiod.

Onaverage,63%oftheultimateobligationsarepaidwithinayearand82%withintwoyears,andittakesmorethanfiveyearsafteranaturaldisasterstrikesforthecumulativepayout to reach100%.

Thepremiuminflowsnotimmediatelyusedforpayingoutclaimsareinvestedinvariousassetsheldformeetingexpectedfutureclaims.

In thisway,reinsurersbuildspecificreservescalledtechnicalprovisions.

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P age |169

Theseconstitutethelargestblockofreinsurers’on-balancesheetliabilities(Graph4,right-handpanel).

Insuredlossesaremetbyrunningdownassetsinlinewiththesetechnicalreserves.

Lossesinanyoneyeartypicallylead to lossratios(incurredlossesasashareofearnedpremium)ofbetween70and90%.

Todeterminewhetherareinsurercanwithstandsevereand unprecedented(yetplausible)reinsuredevents,regulatorslookforsufficienttechnicalprovisionsandcapitalon thereinsurer’sbalancesheet.

Theoccurrenceofamajornaturalcatastrophedentsreinsurers’underwritingprofitability,asreflectedinthecombinedratio.

Thisindicatorsetscostsagainstpremiumincome.

Acombinedratioabove100%isnotsustainableforanextendedperiod.

Bycontrast,temporaryspikesinthecombinedratioareindicativeofoneoffextremeeventswhich canbeabsorbedbyanintertemporaltransferofrisk.

Thecombinedratiospikedintheyearsfeaturingthemostcostlynaturalcatastrophes todate(Graph5,blueline):2005,theyearofmajorhurricanesintheUS,and2011,followingearthquakesandflooding inAsiaandOceania.

Bothoccasionsalsoreducedthestockofassetsreservedformeetingclaims.

Yetthesetemporaryspikesinthecombinedratiodidnotcutthrough toshareholderequitytoanysignificantextent.

Catastrophesaffectequityonlyiflossesexceedthecatastrophereserve.

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P age |170

Recentmarketdevelopmentscausedshareholderequitytodecreasemorethaninsurers’coreunderwritingbusinesseverhas.

Duringtheglobalfinancialcrisisof2008–09,shareholderequity(bookvalue)declinedby15%(Graph5,redline),andinsurancecompanies’sharepricesdroppedby59%(yellow line),morethanafteranynaturalcatastrophetodate.

In contrast,shareholderequityremainedresilientin2005and2011, whenreinsurersweatheredrecordhighcatastrophelosses.

In dealingwiththeconsequencesofpeakcatastropherisks,theindustryhasgravitatedtowardsadistinctivemarketstructure.

Oneimportantelementisthesizeofreinsurancecompanies.

Assessingandpricingalargenumberofdifferentpotentialphysicaleventsinvolvesriskmanagementcapabilitiesandtransactioncostsonalargescale.

Balancesheetsizeisthereforeanimportanttoolforareinsurertoattainmeaningfulphysicaldiversificationonaglobalscale.

Partlyasaresult,the10largestreinsurancecompaniesaccountformorethan40%oftheglobalnon-lifereinsurancemarket(Graph6,right-hand panel).

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P age |171

In spiteofthereinsurancemarket’ssizeandconcentration,failuresofreinsurancecompanieshaveremainedlimitedinscope.

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P age |172

Thelargestfailurestodate,comprisingtwo bankruptciesin2003,ledtoanessentiallyinconsequentialreductioninavailablereinsurancecapacityof0.4%(Graph6,left-handpanel).

Thatsaid,anyfailureofareinsurerleadsto alossofreinsurancerecoverablesbyprimaryinsurers,andcould causebroadermarkettensionsintheeventofadisorderlyliquidationoflargeportfolios.

In thisrespect,thedegreeofconnectednesswithintheglobalinsurancemarketplaysanimportantrole.

Basedontheirbusinessmodel,reinsurersenterintocontractswithalargenumberofprimaryinsurancecompanies,givingrisetonumerousverticallinks (Graph3).

In addition,risktransferbetweenreinsurersleadstohorizontallinkages.

Weestimatethat12%ofnaturalcatastrophe-relatedrisk acceptedbyreinsurersistransferredwithinthereinsuranceindustry,whichimpliesthattheindustryasawholeretainsmostoftherisksitcontracts.

In 2011,reinsurerspaid3%ofearnedpremiumstocede catastropherisktoentitiesoutsidetheinsurancesector.

Judgingbypremiumvolume,theglobalinsurancemarkettransfersasimilarlysmallshareofacceptedrisk tootherfinancialinstitutionsandthewiderfinancialmarkets.

Linkageswithfinancialmarkets

Arrangementsdesignedtotransferriskoutoftheinsurancesectorcreatelinkageswith otherfinancialmarketparticipants.

Retrocessiontootherfinancialinstitutionsusescontractualarrangementssimilartothosebetweenreinsurers,andcommitsbanks andotherfinancialinstitutionsto payoutiftheretrocededrisk materialises.

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P age |173

Securitisation,ontheotherhand,involvestheissuanceofinsuranceliabilitiestothewiderfinancialmarket.

Thecounterpartiesaretypically otherfinancialinstitutions,suchashedgefunds,banks,pensionfundsandmutualfunds.

Among insurance-linkedsecurities,catastrophebondsarethemaininstrumentfortransferringreinsureddisasterrisks to financialmarkets.

Theexogenousnatureoftheunderlyingriskssupportstheviewthatcatastrophebondsprovideeffectivediversificationunrelatedtofinancialmarketrisk.

Forthesereasons,industryexpertshadhighexpectationsfortheexpansionofthecatastrophebondmarket(egJaffeeandRussell(1997),Froot(2001)).

Theissuanceofcatastrophebondsinvolvesfinancialtransactionswithanumberofparties(Graph7).

Atthecentreisaspecialpurposevehicle(SPV)whichfundsitselfbyissuingnotes to financialmarketparticipants.

TheSPVinveststheproceedsinsecurities,mostlygovernmentbondswhichareheldinacollateraltrust.

Thesponsoringreinsurerreceivestheseassetsincaseanaturaldisastermaterializesasspecifiedinthecontract.

Verifiablephysicalevents,suchasstormintensitymeasuredontheBeaufortscale,serveasparametrictriggersforcatastrophebonds.

Investorsrecoupthefullprincipalonlyifnocatastropheoccurs.

In contrasttootherbonds,thepossibilityoftotallossispartofthearrangementfrominception,andiscompensatedexantebyahighercoupon.

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P age |174

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P age |175

Despiteexperts’highexpectations,thecatastrophebondmarkethasremainedrelativelysmall.

Bondissuancehasneverexceeded$7billionperyear,limitingtheoutstandingcapitalatrisk to$14billion(Graph8).

Veryfew catastrophebondshavebeentriggered todate.

The2005GulfCoasthurricanesactivatedpayoutsfromonlyoneof ninecatastrophebondsoutstandingatthetime(IAIS(2009)).

Likewise,the2011Japanearthquakeandtsunamitriggeredoneknowncatastrophebond,resulting in apayoutoflessthan$300million.

Payoutstoreinsurersfromthesebondsaresmall whencomparedtothesumofinsuredlosses($116billionin2005and$110billionin2011).

Theglobalfinancialcrisishasalsodealtablow tothismarket.

Theyear2008sawarapiddeclineincatastrophebondissuance,reflectinggeneralisedfundingpressureandinvestorconcernoverthevulnerabilityofinsuranceentities.

Thecrisisalsodemonstratedthatsecuritisationstructuresintroduceadditionalrisk throughlinkagesbetweenfinancialentities.

AcaseinpointwastheLehmanBrothersbankruptcyinSeptember2008.

Fourcatastrophebondswereimpaired–notduetonaturalcatastrophes,butbecausetheyincludedatotalreturnswapwithLehmanBrothersactingasacounterparty.

FollowingLehman’sfailure,thesesecuritizationarrangementswerenolongerfullyfunded,andtheirmarketvalueplunged.

Investorsthuslearnedthatcatastrophebondsarenotimmuneto“unnatural”disasterssuchasmajorinstitutionalfailures.

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P age |176

Afurthersetoffinanciallinkagesariseswith otherfinancialinstitutionsthroughcross-holdingsofdebtandequity.

Insurancecompaniesholdlargepositionsinfixedincomeinstruments,includingbankbonds.

Atthesametime,otherfinancialentitiesown bondsandstocks in insurancecompanies.

Forinstance,thetwolargestreinsurancecompaniesstatedintheirlatest(2011)annualreportsthatWarrenBuffettandhiscompanies(BerkshireHathaway Inc,OBHLLC,NationalIndemnityCompany)ownvotingrightsinexcessofthedisclosurethreshold(10%inonecaseand3.10%inanother).

Additionalshareholderswithdirectlinkagestothefinancialsectorhavebeendisclosedbyanumberofreinsurancecompanies.

Theramificationsofsuchlinkagesin thispartofthemarketaredifficult toassess.

Conclusion

Theupwardtrendinoveralleconomiclossesinrecentdecadeshighlightstheglobaleconomy’s increasingexposure to naturalcatastrophes.

Thisdevelopmenthasledtounprecedentedlossesfortheglobalinsurancemarket,wheretheycascadefromthepolicyholdersviaprimaryinsurerstoreinsurancecompanies.

Reinsurerscopewiththesepeakrisksthroughdiversification,prefundingandrisk-sharingwith otherfinancialinstitutions.

Thisglobalrisk transfercreateslinkageswithintheinsuranceindustryandbetweeninsurersandfinancialmarkets.

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P age |177

Whilesecuritisationtofinancialmarketsremainsrelativelysmall,linkagesbetweenfinancialinstitutionsarisingfromretrocessionhavenotbeenfullyassessed.

Itisimportantforregulatorstohaveaccesstothedataneededformonitoringtherelevantlinkagesintheentirerisktransfercascade,asnocomprehensiveinternationalstatisticsexistinthisarea.

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P age |178

MortenBech,ToddKeister

Ontheliquiditycoverageratio andmonetarypolicyimplementation

(ImportantParts)

BaselIIIintroducesthefirstglobalframeworkforbankliquidityregulation.

Asmonetarypolicytypicallyinvolvestargeting

theinterestrateoninterbankloansofthemostliquidasset–centralbankreserves– itisimportanttounderstandhowthisnewrequirementwillimpacttheefficacyofcurrentoperationalframeworks.

Weextendastandardmodelofmonetarypolicyimplementationin acorridorsystemtoincludethenewliquidityregulation.

Basedonthismodel,wefindthattheregulationdoesnotimpaircentralbanks’ability toimplementmonetarypolicy,butoperationalframeworksmayneed to adjust.

In response totherecentglobalfinancialcrisis,theBaselCommitteeonBankSupervision(BCBS)publishedanewinternationalregulatoryframework,knownasBaselIII, in December2010(BCBS(2010)).

In additiontostrengtheningtheexistingbankcapitalrules,BaselIIIintroduces– forthefirsttime– aglobalframeworkforliquidityregulation.

Akeypartoftheframeworkistheliquiditycoverageratio(LCR),whichrequiresbankstoholdasufficientstockofhighlyliquidassetstosurvivea30-dayperiodofmarketstress.

TheLCRisscheduledtobeimplementedinJanuary2015.

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P age |179

Thenewliquidityregulationislikelytoimpacttheprocessthroughwhichcentralbanksimplementmonetarypolicy.

Inmanyjurisdictions,thisprocessinvolvessettingatargetfortheinterestrateatwhichbankslendcentralbankreservestooneanother,typicallyovernightandonanunsecuredbasis.

Becausethesereservesarepartofbanks’portfolioofhighlyliquidassets,theregulationswillpotentiallyalterbanks’demandforreserves,changingtherelationshipbetweenmarketconditionsandtheresultinginterestrate.

Centralbankswillneedtotakethesechangesintoaccountwhendecidingonmonetarypolicyoperations.

In thisspecialfeature,westudy theinteractionsthatmayarisebetweenliquidityregulationandmonetarypolicyimplementation.

Ourdiscussionisbasedonastandardeconomicmodelforanalysingtheprocessofimplementingmonetarypolicy,whichweextendtoincorporatealiquidityrequirementintheformofanLCR.

Thekeytakeawayfromouranalysisisthat,whiletheLCRwillnotimpaircentralbanks’ability to implementmonetarypolicy,theprocesswherebythisisdonemayneed to adjust.

OncetheLCRisinplace,centralbankswillneed to considernotonlyhowthesizeofanopenmarketoperationaffectsinterestrates,butalsohowthestructureoftheoperationaffectsbankbalancesheets.

In certaincircumstances,centralbanksmaychoose to adjusttheiroperationalframeworks to betterfitthenewenvironment.

Ataminimum,theywillneed to monitordevelopmentsthatmaterially affect theLCRofthebankingsystem–justastheyhavetraditionallymonitoredotherfactorsthataffect reservemarkets.

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P age |180

WebeginwithashortprimerontheLCR– includingitsdefinitionandabriefdiscussionofhow farthebankingsystemcurrentlyisfrommeetingtheregulatorythreshold.

Wealsotouchonhowbothinterbankandlendingfacilityborrowingsaffect abank’sLCR.

Wethenpresentasimpleversionofthetextbookmodelofmonetarypolicy implementation,followedbyanextendedversionthatincludesanLCRrequirement.

Finally,wediscusshow differenttypesofopenmarketoperationsaffectbankbalancesheetsandtheLCR calculationsbeforeofferingsomeconcludingremarks.

Aprimerontheliquiditycoverageratio

AsstatedbytheGroupofCentralBankGovernorsandHeadsofSupervision,“[t]heaimoftheLiquidityCoverageRatiois toensurethatbanks,innormaltimes,haveasoundfundingstructureandholdsufficientliquidassetssuchthatcentralbanksareaskedtoperformaslendersoflastresortandnotaslendersoffirstresort.”

TheLCRbuildsontraditionalliquidity“coverage”methodologiesusedinternallybybanks toassessexposuretostressevents.

TheLCRrequiresthatabank’sstockofunencumberedhigh-qualityliquidassets(HQLA)belargerthantheprojectednetcashoutflows(NCOF)overa30-dayhorizonunderastressscenariospecifiedbysupervisors:

High-qualityliquidassetsincludecentralbankreserves,debtsecuritiesissued(orguaranteed)bypublicauthorities,andhighlyrated

non-financialcorporatebondsandcoveredbonds.

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P age |181

Totalexpectedcash outflowsarecalculatedbymultiplyingthe

sizeofvarioustypesofliabilitiesandoff-balancesheetcommitmentsby theratesatwhichtheyareexpected to runofforbedrawndowninthestressscenario.

Forexample,unsecuredinterbankloansareassumed to runoffcompletelyiftheycomedueduringthestressscenario,whereasdepositsareassumed to runoffby5or10%,dependingonthecharacteristicsofthedeposit.

ThedenominatoroftheLCRisona“net”basis,ascontractualinflowscan bedeductedfromoutflows,subjecttoacap.

TheimpactofthenewregulationwilldependinpartonhowclosebanksaretotheLCRthresholdoncetheregulationisimplemented.

IfmostbankssatisfytheLCRrequirementbyacomfortablemargin,theregulation’seffectontheirbehavior– andhenceontheprocessofmonetarypolicy implementation– willbefairlyminor.

If, however,manybanks fallshortofthenewstandards,theimpactismorelikelytobesignificant.

InsofarasmeetingtheLCRrequirementiscostlyforbanks,itisconceivablethatsomebanksmaynotexceedtheregulatorythresholdbyaconsiderablemargin,whichcouldallow theLCRtoimpacttheimplementationofmonetarypolicy.

However,beforewecan addressthisissue,weneedtounderstandhowinterbankloansandborrowingfromthecentralbankaffectthecalculationoftheLCR.

Conclusions

The introductionoftheliquiditycoverageratiowillinfluencebanks’liquiditymanagementproceduresand,hence,theirdemandforfundsintheinterbankmarket.

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P age |182

Centralbanksthatconductmonetarypolicy bysettingatargetfortheinterestrateinthismarketwill,therefore,need to take thischangeintoaccount.

In thisfeature,weanalysehowtheintroductionofanLCRaffectstheprocessofmonetarypolicy implementationinthecontextofasimple,wellknownmodelofbanks’reservemanagement.

Thisanalysispointstothreebasicconclusions.

First,theLCRwillnotimpairtheabilityofcentralbanks to implementmonetarypolicy,buttheprocessbywhichtheydosomaychange.

Second,correctlyanticipatinganopenmarketoperation’seffectoninterestrateswillrequirecentralbankstoconsidernotonlythesizeoftheoperation,butalsothewaytheoperationisstructuredandhowitimpactsonbankbalancesheets.

Finally,theLCRmayincreasethesteepnessoftheveryshortendoftheyieldcurvebyintroducinganadditionalpremiumforinterbankloansthatextendbeyond30days.

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P age |183

EIOPA–RiskDashboard

  • Systemicrisksandvulnerabilities

  • Onthebasisofobservedmarketconditions,datagatheredfromundertakings,andexpertjudgment,EIOPAassesses themainsystemicrisksandvulnerabilitiesfacedbytheEuropeaninsuranceindustry overthecomingquarterstobe:

  • Macrorisks:

  • RecessionarypressureinanumberofeconomiesintheEUexemplifythemacro-economicrisks whicharestillatanelevatedlevel.

  • AlthoughseveralimportantstepshavebeentakenrecentlybothattheEuropeanandnationallevel,uncertaintyremainswithregardto any remainingimplementationrisks.

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  • P age |184

  • Inaddition,thecombinationofausteritymeasures,risingunemploymentandaprolongedperiodofsubduedgrowthcouldhavenegativeeffectsoninsurancedemand.

  • Creditandmarketrisk:

  • ThetrendofdecreasingCDSspreadshascontinued.

  • However,thisdevelopmentcertainlyisalsodrivenbyexcessliquidity,thedifficultglobalfinancialinvestmentenvironmentandinvestors’riskappetitestrivingforanappropriatebalanceofyieldversusrisk.

  • RecentchangesinassetallocationofEuropeaninsurersratherhintatareducedrisk appetiteconcerningcreditinvestments.

  • Theytend to shiftinvestmentstowardslessriskiercounterparties,reducingtheirEuropeansovereignandbankingexposure.

  • Thisindicatesacontinuationofanegativeoutlook/perceptiononthatcreditcategory.

  • Marketrisksarestilldominatedbythelowyieldenvironmentwith10yearswapratesinWesternEuropehavingagainreachednewlowsin thepastmonths.

  • Stabilisationinlifeinsurancebusiness:

  • Thedecliningtrendinlife grosswrittenpremiumshasbeenreversed,howevergrowthratesarestillrathersubdued.

  • LapseratesinthesamplehaveimprovedfromtheirpeakinQ42011andremainedstablesincelastquarter.

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P age |185

  • Useofexpertjudgment

  • Useofexpertjudgmentafterthemechanicalaggregation:

  • Macrorisk:

  • Slightlyupwardsdue to highheterogeneityingrowthfiguresacrossEUcountriesandgeneraluncertaintyaboutthemediumtermgrowth potentialanditsimplicationsforthedemandofinsuranceproducts.

  • In addition,implementationrisksaroundthevariouscrisismanagement toolsusedinthesovereigndebtcrisisarenonnegligible.

  • Creditrisk:

  • Slightlyupwardsastheobserveddecreaseofthemechanisticscoreisconsideredtoolargegiventheuncertainmacrooutlook,potentiallydistortedbondpricesasaresultofexcessliquiditywhileatthesametimeinvestorshavelimitedalternativestosubstantiallyreducetheircreditriskexposure.

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  • P age |186

  • Marketrisk:

  • Slightlyupwardsdue to thesevereconsequencesaprolongedlow yieldenvironmentcouldhaveontheprofitabilityandsolvencyoftheinsurancesector.

  • Improvementsin other indicators,e.g.equityrisk,arenotconsidered tomakeuptheeffectsofrecentlyobservednewhistoriclowsin10_yearswaprates,giventheonaveragesmallequityinvestmentsofinsurers.

  • Liquidity&funding:

  • Slightlydownwardsas theincreaseofthemechanisticscoreissolelydrivenbylow issuancevolumeofcatbondsinQ3whichisseasonallydrivenandisalreadypickingupsubstantiallyin OctoberandNovember.

  • Other indicatorsremainedstable.

  • Insurancerisk:

  • Slightlyupwardsdue to reducedbuffersofreinsurersforcatastrophelossesafterHurricaneSandyandpotentialpricehikesinupcomingrenewals,whicharenotreflectedinQ3figuresyet.

  • In addition,insurers’businessmodelmightbeimpactedinalow yieldenvironmentwhenlowerinvestmentreturnscannotcounterbalancepotentialunderwritinglosses.

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P age |187

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P age |188

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P age |189

Sovereignrisk–aworldwithout risk-freeassets

PanelcommentsbyMrPatrickHonohan,GovernoroftheCentralBankofIreland,attheBISConferenceon“Sovereignrisk–a worldwithoutrisk-freeassets”,Basel,8January2013.

What’snewaboutsovereignrisk sincethecrisisbegan?

Conceptually,notsomuch,Iwouldsuggest–andnothingthatcannotbefullyexplainedwithinstandardmodelsoffinance.

Butinpractice,andinparticularintheeuroarea,two linkedelementsthatwerealwayspotentiallypresentorimplicithaveleaptintoprominenceinawayandtoanextentthatwasnotforeseen.

Thefirstisthatmarketshavebeguntopricedefaultriskinasovereign’shome-currency;

Thesecondisthecontaminationofthefunctioningandeconomiceffectivenessofbanks bytheweakcreditratingoftheirsovereigns(aswellasviceversa).

Ihavetoadmittothepossibilitythatmyremarksmaybesubjecttosomeprofessionaldeformationhere,inthatmyperspectiveonthesemattersislikelycolouredbymypre-occupationwiththesituationinIreland.

Irelandhascertainlydisplayedthesetwoelementsinadramaticway,but theyareevidentlypresentinhalfadozenothereuroareacountriesalsoandtoanextentwhichhashadimplicationsforthefunctioningoftheEurosystemasawhole,andthereforeontheglobalfinancialsystem.

Letmetakethesetwopointsinturn.

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P age |190

Firstthepricing-inofsovereigndefaultrisk in “homecurrency”.

Whydidthedefaultpremiumsuddenlyemerge?

Evidently,eventhougheveryoneunderstoodtherules,nosuchpricing-inoccurredforthefirstdecadeoftheEurosystem(Figure1).

Risk appetitewashighformuchofthatperiod,butthemarket’sperceptionofsovereignrisk mustalsohaveremainedlow.

(Perhaps,despiteTreatyprohibitions,marketparticipantsassumedthatanysovereignthatgotintotroublewouldbebailed-out).

Indeed,sovereignspreadsintheeuroareawerealmost totallyinsensitivetocreditratingsbeforethecrisis(Figure2).

Oneoften-heardinterpretationofwhathappenedduringthatdecadeisthatthecomplacentmarketenvironmentrelaxedthebudgetconstraintoneuro-areasovereignsandledthemtoborrowrecklessly.

Actually this storydoesn’tfitthefactsverywell.

Afterall,althoughsovereigndebtratiosinmostoftheEurosystemdidnotfallasmuchastheycouldandshouldhaveonthegoodyears,atleastthey didnotincreasedramaticallybeforethecrisis(Figure4).

(Privatedebtratios,andinparticularthesizeofthebankandnear-banksystemsdidincrease,butthatisasomewhatdifferentstory,towhichIwillturnshortly).

It’spossiblealternativelythattherewasamultipleequilibriumhere,withthe“good”orlowinterestequilibrium(withaself-fulfillingdegreeofconfidenceinthecreditworthinessofallthesovereigns)beingselectedby themarketatthestartoftheeuro,andeventsduringthefinancialcrisis– notleastthoseassociatedwithGreece–havingtrippedthesystemintothe“bad”orhighinterestequilibriumwithdefaultrisk premiamovinganumberofsovereignsintoamorechallengingdebtsustainability

position.

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P age |191

Mostlikely,whatwehaveseenisacombinationoffactors:

asharpreductionin riskappetiteresulting in evenlittle-changeddebtratios,asinItaly,lookingmorechallengingandinneedofa

risk-premium;andinaddition(formostcountries)

asharpincreaseindebtratiosasgovernmentsreacted tothecrisis(including,butnotatallconfinedto,thesocialisationinmostcountriesofsomeprivatebankinglossesthroughtheirassumptionbygovernments)(Figure4again).

Theincreasedsensitivityofsovereignspreadstoratings,andtheincreasedrangeofratings themselves–bothillustratedinFigure2– suggestthatbothfactorsareatwork.

(Asspreadswidened in stressedcountries,theirfluctuations– whichwouldnotconcernhold-to-maturityinvestors– addedariskfactorforothersandprobablyratcheteduptheaveragelevelofthespreads.)

In thespecificcaseofIreland,thedepthoftherecessionandtheremarkablyhighelasticityoftaxrevenuesandtheGovernmentdeficit tothedownturn,combinedwiththeunfortunatedecision to lock-inaverycomprehensivebankguaranteebeforethepotentialscaleofthebankinglossescouldatallbeappreciated,meantthatIreland’sactualandprospectivegeneralgovernmentdebtmadeashockingturnaroundfromabout25percentofGDP in2007 to 117percentjustfiveyearslater.

Historianswilldebatetheexacttriggersforthemarket’slossof confidenceintheIrishsovereign.

EvenaslateasApril2010,afterthefirstsampling indicatedthescaleofthebankinglosses,sovereignspreadswerelittlemorethan1percent.

ByNovemberofthatyear(justafewweeksaftertheDeauvillestatementwhichpersuadedthemarketsthatprivatesectorholdersofeurosovereign debtwouldnotbeimmunefromloss-sharing)largebankingoutflowsandspreadsexceedingfivepercentmaderecoursetoofficialassistanceinevitable.

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(Figure3shows theplotwithsomerelevantnewsstoriesflagged).Perhapsthemostsignificanttake-awayfromthesequenceofspikesandtroughsisthefactthatsomeofthemclearlyrelateto newsthatiscountry-specific,someofthemtoeuroareageneralnews.

Thesameisdoubtlesstrueforallofthestressedsovereigns.

Defaultriskvs.devaluationriskvs.redenominationrisk

It’sworthpausingtorecallthatrawsovereignspreadssuchasweareseeingtodayintheeuroareaarenotremotelyunprecedentedin pre-eurohistory.

Onthecontrary,theywerethenormasisillustratedbyFigure1.

Thedifferenceisthatthesespreadsreflectedacombinationofdefaultriskandcurrencyrisk.

Duringthelastfiscalcrisisofthe1980sIrishsovereignspreadsballoonedoutalso.

Butthatwasforlocalcurrencydenominateddebt.

Eurobondborrowingby theIrishGovernmentremainedatfairlytightspreadsdespitethehighoveralldebtratio(higherthan today),andthefactthatalmosthalfofthenationaldebtwasdenominatedinforeigncurrency.

Thehighspreadsreflecteddevaluationexpectationsandcurrencyriskgenerally.

Andthereweredevaluations,thoughlessthanwasbakedintothespreads

–bybetween250and300basispointsonaverageduringthelasttenyearsofthatill-fatedregime,thenarrow-bandEMS.

Itisnotthatdefaultanddevaluationareclosesubstitutes;notatall,andforseveralreasons.

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Foronething,defaulthas potentialreputationalconsequencesfortheissuerqualitativelydifferenttothoseofdevaluation.

Inaddition,though,devaluationaffectsnotonlytheinternationalvalueoftheGovernment’sdebtpromises,butalsothatofallothercontractsdenominatedinlocalcurrency;asaresult,dependingonthespeedof price-resetting(pass-through)itcan affectcompetitivenessthroughout theeconomy.

Thesedifferenceshavenotbeensufficientlyemphasised,Ifeel, in recentdiscussion.

Asanexample,IcouldmentiontheIrishdevaluationofAugust1986.

Themaingoalofthisimportant actionwasrestorationofwagecompetitiveness,notaloweringoftherealvalueofthelocalcurrency-denominateddebt.

(Indeed,Irecallthatsomedomesticpolicymakerswereconfusedonthispointandthoughtthatthedebtburdenwouldactuallyincreaseasaresultoftranslationeffectontheforeigncurrencydebt!)

Suchcurrencyriskcanbesoextremeastomakeitimpossibleforthesovereigntoissueanysizableamountoflocal-currencydenominated debt tointernationallenders.

In theliterature,suchcountries– all in thedevelopingworld(andnotincludingIreland,cf.Figure5)– weresaidtosufferfrom“OriginalSin”.

Happily,thenumberofcountriessuffering“OriginalSin”hasbeen diminishinginrecentyears.

Instead,wehavetoacknowledgetheemergenceinmarket pricingofanewphenomenon,“redenominationrisk”.

Howcanwerecogniseredenominationrisk?

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Thisisnotstraightforward,notleastbecausethe termcouldrefertoanumberofdifferentscenarios.

Onesuggestedwayofapproachingthequestionis touseeconometricestimatesofthecross-sectionaldeterminantsofsovereignspreadsforforeigncurrency-denominatedborrowingto predictcurrentspreadsinstressedeuroareacountries:apositiveresidualmightsuggestaredenominationriskpremium.

Comparisonsofcurrentspreadsofeuroareasovereignsin euroandinforeigncurrency-denominatedborrowingsprovidesforanalternativeapproach.

Myownfavouriteapproachistolookattheco-movementinthetimeseriesofeuroareacountryspreads.

Someofthisco-movement canbeattributedtofluctuationsinmarketrisk-appetite;theremaindercouldbeinterpretedasasystem-wideredenominationpremium.

Thisbriefsummaryalreadysuggeststhecomplexityandambiguityofsomeoftheconceptsinvolvedandtheirmeasurement.

Evidently,redenominationrisk,asimaginedbymarketcommentators,combinesdefaultandcurrencyrisk in anovelwaynotcontemplatedby theTreatythatestablishedtheeuroarea.

TheECBhasmadeclearitsdetermination todowhatisnecessarytopreservetheeuroandremoveunfoundedeurobreak-uppremiainsovereignyields.

The OMT,designedasabackstop to inhibitnegative self-fulfillingmarketdynamics,providesthenecessarytoolstodeliveronthatcommitment.

Theprogrammedoesnotgooverboardinthedirectionofremovingtheincentiveforgovernmentstomanagetheirfinancesinsuchawayastorecoverandretaintheconfidenceofthemarket,butitwillensurethat

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disciplinedgovernmentswillnothavetopayspreadsthatcouldonlyreflectmarketconcernsaboutasystembreak-up.

Asannounced,theECBwillonlybuybondsattheshorterendofthematurityspectrum,buttheOMTcanbeexpectedtohaveaninfluencetransmittedbymarketforcesthroughouttheyieldcurve,andindeedspreadshavetightenedrightacrossallmaturitiessincetheOMTwasannounced.

Still,itisnottobeexpectedthattheOMTwillbyitselfrestorethetightuniformityofspreadsthatprevailedforthefirstdecadeoftheeuro.

Forcingsuchatightuniformitywouldnotbegenerallyconsideredsafeabsentmorereliablealternativemechanismsforensuringdisciplinedfiscalpolicyinthecountriesconcerned.

Morelikely wouldbeapotentiallyextendedperiodofsovereignspreadsthat,albeitnarrowerthanattheirworst,remainmaterial.

Sovereignspreadsandthebanks

Thatbeingso,weneedtoaskwhataretheconsequencesofthesespreadsfortherestoftheeconomy,andinparticularfortheoperationofthebankingsystem.

Regardlessoftheconditionofthebalancesheetandtheprofitandlossaccountofthebanks,experienceshowshowharditisforbanks inajurisdictionwhere thesovereignisunderstress to accessthemoneymarketsonthefinestterms.

In essence,themarketfearsthatastressedsovereigncouldinextremisreachtothebanks asasourceoflastresortfinancing–ifnecessaryusingnationallegislationtodoso.

Fromsuchaperspective,providersoffunds tobankswilltend toprice-inthepossibilitythat,atthemargin,theycouldendupasindirectprovidersoffunds to astressedsovereign.

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Therearemanyexamplesinhistoryofthishappening,andtheconsequencesforbankfundingcostshaveoftenbeensevere.

Inotherwords,whilewehaveallbecomesensitisedtothepressurewhichsocializedbankinglosses canplaceonthesovereign,marketsarealsoacutelyawareofthepotentialdamaginglinks intheotherdirection.

Eitherway,thereareconsequencesforthefundingcostsofboththesovereignandthebanks.

Giventhescaleofbankingintheeuroarea,evenarelativelysmalldifferenceinfundingcosts canbeconsequential.

Onceagain,theIrishsituationdramatiseswhat canhappenwhenthetwo-wayfeedback loopbetweenbanks andsovereigncausesalossofaccess to risk-freerates.

Asiswellknown,theIrishbankshavesufferedsevereloan lossesin theaftermathoftheburstingofthepropertypriceandconstructionbubblewhichtheyhadsoenthusiasticallyfinanced.

Verysizable capitalinjections(about50percentofGNP fromtheIrishGovernmentalone– asumwhichprovedtoogreat tobefinanced

withouttheprotectionofanIMFprogramme)haveensuredthattheIrish

banksmorethansatisfyregulatoryrequirementsonceagain,buttheirfutureprofitabilityisconstrainedbytheemergenceandlikelypersistenceofthesovereignspreads,andtheknock-oneffectofthespreadsonthebanks’fundingcosts.

Euro-arearisk-freeratesarenotnowthemostrelevantindicatorofthemarginalcostoffundstotheIrishbankingsector.

Itis,ofcourse,truethattheIrishbanks(like thosein otherstressedcountries)havebeendrawing heavilyonECBrefinancingfacilitiesduringthecrisis,especiallyfollowingthehugeoutflowoffundsthatoccurredinearly2009andagaininthelastfewmonthsof2010.

Thisaccesstorefinancing hasbeenvitaltothecontinuingoperation

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ofthebankingsystem,andithascomeatthepolicyrate.

(Letmementionasanasideacuriousfeatureofthecurrentmonetarypolicy environmentintheeuroarea.

ThetwokeyECBrates– themainrefinancingoperationsrateandthedepositrate– are75basispointsandzero,respectively.

Accesstoboththerefinancinganddepositfacilitiesarebothclose toall-timehighs.

Butinpractice,thebulkoftherefinancingisgoingtobanksin thestressedcountries,whilethebulkofthedepositsareplacedbybanks in non-stressedcountries.

Totheextentthatthestressedcountrieshave tendedtohaveweakereconomicperformanceduringthecrisis,thispatternmightbeconsidered paradoxical.

Butitisofcourseareflectionandsemi-automaticconsequenceofthefragmentationwhichhasdevelopedintheeuroarea.

Tobesure,theECBpolicyrateisclearlybelowthemarginalcostoffundsinthestressedcountries.)

Butaccess to ECBfundsatthepolicyrateislimitedbytheavailabilityofeligiblecollateralandthehaircutsthatareappliedtosuchcollateral(despitetherelaxationofeligibilitycriteria).

About20percentofthetotalfinancingofthethreegoingconcernIrishcontrolledbanks comesfromthissourceatpresent(16percentofthebalancesheettotal).

Competitionfordepositsthereforeremainsstrongandrateshigh.

It’snotjustthathigherbankfundingcostswillnow bepassedonto newborrowers,addingheadwindstotheeconomicrecovery,thoughthatiscertainlyafactor.

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Indeed,thelowerpolicy interestratessetbytheECBsincethecrisisbeganhaveonlybeenpartlytransmittedtoborrowersinIrelandandintheotherstressedeuroareacountries(Figure6).

(Asisseenbytheresultsofarecursiveregressionexercise,the

pass-throughfrompolicy rate to IrishresidentialmortgageSVRrateshashalvedsincethestartofthecrisis– Figure7.)

Someofthiscanberationalisedasreflectingahighercreditrisk-premiumbeingchargedbythebanks,butsomeisalsoduetothehighermarginalcostoffunds.

Worsestillforthehealthofthebanks,andtheirabilitytocontributetotheeconomicrecovery,is thefactthattheyarestillcopingwiththeconsequencesoftheirmarginalcostoffundshavingdelinkedsosizablyfromtheECB policyrate.

Theseconsequencesarisebecauseofthelong-termmortgagecontractsthebanks madewhentheyassumedthattheirmarginalcostoffundswouldalwaysremainclosetothe(risk-free)policy rate.

Sufficeit tosaythatalargeblock ofresidentialmortgageswasgrantedatinterestrateswhichtracktheECBpolicyrateplusaverylow spread.

Thesetrackermortgages,manyofwhichhaveanaverageremainingmaturityof15–20yearsormore,yieldlessthanthemarginalcostoffunds(Figure8whichisdrawnontheassumption, notstrictlyvalid,thattheaveragespreadofthetrackersoverpolicyratewasunchangedovertime).

In effect,byassumingthattheircostoffundswouldnotdeviatemuchfromtheECB policyrate,thebanks exposedthemselvestoaverylarge“basisrisk”.

In principle,theycouldescapethistrapiftherewereawillingpurchaser(publicorprivate)withaccess to fundingatacostthatisnotcontaminatedbythesovereignstress.

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Untilsuchapurchasercomesforward,thebankswillhave tocontinuetofundthisportfolioataloss,evenonperformingmortgages,whoseeffectswillspilloverontotheircustomersandtheir owners(notleasttheState).

Conclusion

IrishSovereignspreadsmaynolongerbebloatedbyredenominationrisk,butat300basispointsatthelong-end,theydoseemtoreflectacreditriskpremiumthatispoorreward,sofar,forwhathasbeenasizablefiscaladjustmenteffort.

Reflectingonwherewehavegotto,itseemsthattherearedistinctparallelswiththefiscalcrisisoftheEMSperiod.

AsImentioned,spreads(thenreflectingdevaluationrisk)exceededwhatwouldhavebeenneededexposttocompensateforactualexchangeratemovementsbyalmostthesameamount(250–300basispoints).

Thosespreadsweretransmittedtothebankingsystemthenalso.

TheIrishfinancialsituationisrelativelyextreme,andassuchillustratesclearlysomeofthekeyproblemsthathavebeenfacedalsoinotherstressedpartsoftheeuroarea.

Whileithasdeliveredamuchlower inflationrate,theeuroisnolongerinsulatingfinancialmarketsfromtheimpactofexcessivedebtinmembercountries.

Theearlyinsulationofthemonetarytransmissionmechanismfromfiscal problemsofparticipatingcountrieshaswornthrough.

Theperniciousfeedbackloopfrombanks to sovereignandfromsovereigntobanks thatre-emergedinthecrisisremainsstronganddamaging.

Gettingback to the“good”equilibriumwillrequireahealingprocesswhichremovesthemarket’sfearofdefault.

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Itisinevitablyaprotractedprocessneeding notonlyfirmadherencetoconsistentlydisciplinedpoliciesbutalsothecreationofinstitutionsthatcan preventfuturecrises,oratleastcopewiththembetterifthey cannotbeavoided.

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CertifiedRiskandComplianceManagementProfessional (CRCMP)distancelearningandonlinecertificationprogram.

CompanieslikeIBM, Accentureetc.consider the CRCMPapreferredcertificate.Youmayfindmoreifyousearch(CRCMPpreferred certificate) usinganysearchengine.

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Processing,printing,packingandpostingto yourofficeorhome.

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D.TheDoddFrankActandthenewRiskManagementStandards(976slides,includedinthe3285slides)

TheUSDodd-Frank WallStreet Reform andConsumerProtectionAct isthe mostsignificant pieceoflegislation concerning thefinancialservicesindustryinabout80years.

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ItalsoamendsimportantsectionsoftheSarbanesOxley Act.Forexample,itsignificantlyexpandswhistleblowerprotectionsunder the SarbanesOxleyActandcreatesadditionalanti-retaliationrequirements.

Youwill findmoreinformation at:

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