28 Jun 2011

Basel gives guidance on Global Systemically Important Banks

The Basel Committee's overseeing body, the Group of Governors and Head of Supervision, has agreed on measures requiring globally systemically important banks (G-SIBs) to hold additional capital.

According to the announcement, a G-SIB will be required to hold an additional 1% to 2.5% Common Equity Tier 1 (ie. shareholder's equity and retained earnings), depending on its systemic importance. This surcharge will be on top of the minimum 4.5% Common Equity Tier 1 capital requirement for all banks imposed under Basel III. These surcharges will be phased in from 1 January 2016 and will become fully effective on 1 January 2019.

Banks will be assessed on five broad categories to determine their systemic importance: size, interconnectiveness, lack of substitutability, global (cross-jurisdictional activity) and complexity.

According to the Financial Times, approximately 30 banks will be categorised as G-SIBs under the new criteria. JPMorgan, Citigroup, Bank of America, Barclays, HSBC, The Royal Bank of Scotland, BNP Paribas and Deutsche Bank are likely to make up the top category of systemic importance with a 2.5% surcharge, while Goldman Sachs, UBS, Credit Suisse and Morgan Stanley are expected to fall into the second category of systemic importance with a 2% surcharge. Based on these reports, it seems unlikely that Australian banks will be subject to the G-SIB surcharge.

Interestingly, the Basel announcement stated that it wished to prevent banks in the top category of systemic importance from materially increasing their global reach and importance. The way the Basel Committee intends to dissuade the largest banks from becoming too large is to leave open the possibility that the surcharge could be increased in the future by an additional 1%.

Although earlier reports indicated that the Basel Committee was considering whether contingent capital instruments (Cocos) could be used by G-SIBs to satisfy this surcharge, the announcement ruled out the use of Cocos for this purpose. It seems that the Basel Committee may have ultimately rejected including Cocos in the surcharge as they are relatively new instruments without a proven track record of being able to absorb a bank's losses. Nevertheless, the Basel Committee did state it would continue to review Cocos and would support their use by national regulators who wanted to impose additional loss absorbency requirements on their local banks over and above the minimum Basel III requirements.

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Clayton Utz communications are intended to provide commentary and general information. They should not be relied upon as legal advice. Formal legal advice should be sought in particular transactions or on matters of interest arising from this communication. Persons listed may not be admitted in all States and Territories.