Revised Net Stable Funding Ratio published to complete Basel III reforms

Out-Law News | 04 Nov 2014 | 5:15 pm | 2 min. read

Global banks will be required to hold enough 'stable' assets to cover their expected liabilities over a one-year period, according to the final part of the Basel III international regulatory regime.

The Basel Committee on Banking Supervision's final rules on the new Net Stable Funding Ratio (NSFR) (17-page / 230KB PDF), which will take effect from 1 January 2018, will give national regulators more scope to exempt a particular asset from the general funding requirement if that asset is linked to a particular funding source. It has also adjusted rules for funding short-term interbank loans, derivatives trades and assets posted as initial margin on derivatives contracts.

"A key lesson from the crisis has been the need to prevent overreliance on short-term, volatile sources of funding," said Stefan Ingves, chair of the Basel Committee. "The NSFR does this by limiting the use of volatile short-term borrowings to fund illiquid assets."

"In finalising the standard, the committee has essentially completed its regulatory reform agenda, undertaken to promote a more resilient banking sector following the financial crisis," he said.

Separately, the Financial Policy Committee (FPC) within the Bank of England has confirmed the minimum core capital it will require UK banks to hold from 2019 (41-page / 453KB PDF). Its basic leverage ratio of 4.05%, which could rise to 4.95% in specified circumstances, is slightly higher than the interim 3% set by the Basel Committee.

The Basel Committee brings together regulators from around 30 countries to coordinate rules for their banks. Its members include the Bank of England, US Federal Reserve, European Central Bank and the China Banking Regulatory Commission.

The Basel III agreement introduces new baseline requirements for capital, leverage and liquidity. It will require banks to increase both the quantity and quality of capital they hold, while accounting for higher levels of risk-weighted assets. The liquidity coverage ratio (LCR), which is one of two measures of short-term capital under the new regime, will require banks to hold enough liquid assets to cover a shock loss of access to funding markets over 30 days; while the NSFR will require them to cover risk-weighted long-term assets with stable sources of funding such as cash and high-quality deposits. The leverage ratio is a standardised measure of bank capital holdings as a proportion of their total assets, without weighting for risk.

The final NSFR broadly follows that set out in a consultation published by the Basel Committee in January, but adds new requirements that interbank loans with residual maturities of less than six months be backed with at least 10% of their value in stable funding. The draft included no such requirement. It also requires the initial margin on a derivative contract to be 85% backed by stable funding, and reduced the allowed amount of offsetting of derivative assets by derivative liabilities.

The Basel Committee still has to finalise the exact leverage ratio that banks subject to its rules will be required to implement, and has committed to doing so before the end of 2017. The leverage ratio is considered less vulnerable to manipulation than traditional measures of the loans and other assets on banks' books as it requires them to state their value without weighting for risk. UK banks will be subject to a minimum 3% leverage ratio from 2019, plus an additional buffer of at least 1.05% for the largest 'systemically important' lenders, according to the FPC.

The FPC was expected to set a leverage ratio considerably higher than the Basel Committee's interim 3% for UK-based banks, and so its recommendations were welcomed by the chancellor of the exchequer in a letter to Bank of England governor Mark Carney. However, he will require further consultation on the systemic risk buffer (SRB) supplement for the largest banks. The government will legislate to give the FPC the power to add an extra 'counter-cyclical capital buffer' of up to 0.9% depending on economic conditions.