United States: Financial Regulatory Developments Focus - Mar 8, 2018 Issue 9/2018


Final EU Standards on Cooperation Among National Regulators Under the Market Abuse Regulation

On February 27, 2018, a Commission Implementing Regulation providing Implementing Technical Standards on the procedures and forms for exchange of information and assistance between national regulators under the Market Abuse Regulation was published in the Official Journal of the European Union. MAR, which entered into force on July 3, 2016, requires national regulators to cooperate with each other in investigations and on supervision and enforcement matters by exchanging information, taking statements from individuals, conducting on-site inspections or investigations and in the recovery of monetary sanctions. The new ITS describe the procedures to be followed by national regulators when making, acknowledging, processing and replying to requests for assistance and when unsolicited assistance is provided and contain standard forms for national regulators to use when doing so.

The ITS enter into force on February 28, 2018 and apply directly across the EU.

The Commission Implementing Regulation is available at: http://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32018R0292&from=EN.


US Federal Reserve Board Vice Chairman for Supervision Discusses Regulatory Agenda for Foreign Banking Organizations

On March 5, 2018, Randal Quarles, U.S. Board of Governors of the Federal Reserve System Vice Chairman for Supervision, discussed the need to examine post-crisis reforms. Focusing on post-crisis regulations that impact foreign banking organizations operating in the U.S., he noted that regulations should be reviewed to ensure not only efficacy, but also efficiency and transparency. Quarles noted that the Federal Reserve Board will consider additional tailoring and flexibility in light of the impact of regulations on foreign banking organizations. He highlighted two key regulatory examples: enhanced prudential standards and the Volcker Rule. With respect to enhanced prudential standards, Vice Chairman Quarles noted that the Federal Reserve Board has been sensitive to the unique features of non-U.S. financial institutions operating in the United States, noting specific circumstances where the Federal Reserve Board has exercised flexibility to accommodate these differences, including allowing the global risk committee to serve as the risk committee for U.S. operations and recognizing that effective home country stress testing regimes can take many forms.

Further, Quarles noted that the Federal Reserve Board has retained flexibility in the implementation of the intermediate holding company requirement, and just recently approved an application for a foreign banking organization to establish a second intermediate holding company. Vice Chairman Quarles also discussed perceived shortcomings with the Volcker Rule, stating that while the premise is simple, the regulation itself is very complex and "not working well." Vice Chairman Quarles stated that the Federal Reserve Board is actively working with the other Volcker Rule regulatory agencies to find ways to simplify and streamline the Volcker Rule, particularly for institutions that do not have large trading operations, and that the agencies are working on a proposal for public comment that would make "material changes" to the regulation. Specific areas of focus include making definitions of key terms such as "proprietary trading" and "covered fund" as well as the exemption for market-making and the so-called "RENT'D" test as simple and clear as possible.

With respect to the Volcker Rule's impact on non-U.S. financial institutions operating in the United States, Vice Chairman Quarles noted that the agencies are considering changes to the complexity of the exemptions available to foreign banking organizations for trading and engaging in covered fund activities solely outside the United States and the Volcker Rule compliance regime. He also stated that he would expect the enforcement action stay that the agencies granted to foreign funds that are organized outside of the U.S. and offered solely to foreign investors last summer to be extended.

The full text of Vice Chairman Quarles's remarks is available at:

US House of Representatives Votes to Pass Bill on Operational Risk Capital Requirements for Financial Institutions

On February 27, 2018, the U.S. House of Representatives voted 245-169 in favor of passing H.R. 4296. The bill prohibits federal financial regulators from establishing operational risk capital requirements for financial institutions unless the requirements are based upon, and appropriately sensitive to, the risks posed by the institution's current business and operations. The requirements also must be forward-looking, rather than focused on historical losses of the financial institution, and provide for adjustment to capital requirements based upon the operational risk mitigating activities of the financial institution. The bill was originally part of the larger Financial CHOICE Act, which passed the House in June 2017. The bill was read in the U.S. Senate and referred to the U.S. Senate Committee on Banking, Finance, & Urban Affairs.

The full text of the bill is available at: https://www.congress.gov/115/bills/hr4296/BILLS-115hr4296rfs.pdf.

European Central Bank Consults on Draft Guides to Assessing Adequacy of Internal Capital and Liquidity

On March 2, 2018, the European Central Bank published two consultations on draft guides on the Internal Capital Adequacy Assessment Process (ICAAP) and the Internal Liquidity Adequacy Assessment Process (ILAAP). The draft Guides, which will be relevant to institutions within the Single Supervisory Mechanism, are designed to assist institutions in strengthening their ICAAPs and ILAAPs and encourage the use of best practices by explaining in greater detail the ECB's expectations.

The draft ICAAP and ILAAP Guides each set out seven principles that have been derived from the relevant provisions of the Capital Requirements Directive and that will be considered, among other things, by the ECB in the assessment of each institution's ICAAP or ILAAP as part of the Supervisory Review and Evaluation Process. Frequently Asked Questions have also been published alongside the draft guides.

In addition to the draft Guides and relevant EU law and national law, the ECB also encourages institutions to take into account other relevant publications from the European Banking Authority and international fora such as the Basel Committee on Banking Supervision and the Financial Stability Board.

Feedback on the draft guides is requested by May 4, 2018. The ECB also proposes to hold a public hearing on the consultations on April 24, 2018.

The draft ECB Guide to ICAAP is available at:

https://www.bankingsupervision.europa.eu/legalframework/publiccons/pdf/icaap_ilaap/ssm.icaap_guide_201803.en.pdf, the draft ECB Guide to ILAAP is available at: https://www.bankingsupervision.europa.eu/legalframework/publiccons/pdf/icaap_ilaap/ssm.ilaap_guide_201803.en.pdf and the Frequently Asked Questions are available at: https://www.bankingsupervision.europa.eu/legalframework/publiccons/pdf/icaap_ilaap/ssm.ilaap_guide_201803.en.pdf.

Basel Committee Proposes Revisions to Pillar 3 Disclosure Framework

On February 27, 2018, the Basel Committee on Banking Supervision published a consultation on its proposals for the third phase of the Pillar 3 Framework. Pillar 3 comprises a set of quantitative and qualitative disclosure requirements applicable to banks in relation to capital, risk exposures and risk assessment processes, which are designed to allow other market participants to assess each bank's capital adequacy.

The Pillar 3 framework was last updated in March 2017, following a Basel Committee review. The Basel Committee now proposes some revisions and additions to the Pillar 3 framework which result from the finalization of the Basel III framework in December 2017. The consultation sets out revised disclosure requirements for: credit risk (including disclosures for prudential treatment of problem assets); operational risk; leverage ratio; credit valuation adjustment (CVA); and for overview templates on risk management, risk- weighted assets (RWA) and key prudential metrics. The consultation also sets out new disclosure requirements to benchmark the RWA outcomes of banks' internal models with RWA calculated according to the standardised approaches.

The Basel Committee believes disclosure of information by banks on encumbered and unencumbered asset breakdowns is meaningful to users of Pillar 3 data, as this information enables a preliminary overview on the extent to which a bank's assets remain available to creditors in the event of insolvency. To capture this information, the Basel Committee proposes to introduce a new template for banks to disclose information on their encumbered and unencumbered assets.

The Basel Committee is also proposing new disclosure requirements to provide users of Pillar 3 data with information on the capital ratio of a bank that would result in national supervisors imposing constraints on capital distributions. The template for this disclosure will provide that the disclosure would be mandatory for banks only when required by their national supervisors.

Finally, Template CC1, which was introduced in March 2017 to provide for disclosures on the composition of a bank's regulatory capital, currently applies at the level of the consolidated group. The BCBS seeks feedback on the advantages and disadvantages of expanding the scope of application of Template CC1 to resolution groups.

Comments on the consultation are invited by May 25, 2018.

The consultation is available at: https://www.bis.org/bcbs/publ/d432.pdf and the feedback form is available at: https://www.bis.org/bcbs/commentupload.htm.

European Systemic Risk Board Final Report and Opinion on Use of Structural Macroprudential Instruments in the EU

On February 27, 2018, the European Systemic Risk Board published a final report setting out proposed amendments to the ESRB Handbook on Operationalising Macro-prudential Policy and policy proposals on the legal framework of the systemic risk buffer and the structural buffers for global systemically important institutions (G-SIIs) and O-SIIs.

O-SIIs are institutions that fall short of classification as G-SIIs, but whose failure would have a significant negative effect on the financial system, either at EU level or at the level of an EU Member State. Institutions identified as O-SIIs attract stricter regulatory treatment under the Capital Requirements Directive and Capital Requirements Regulation, in particular being subject to the "O-SII buffer," an institution-specific buffer which focuses on reducing the institution's probability of default.

The ESRB's final report has been prepared by the Expert Group of the ESRB's Instruments Working Group, which has analyzed the use of the macroprudential buffers in the EU over the past three years. The final report sets out the results of a stock-take of the use of the buffers and an evaluation of their effectiveness and efficiency and how the buffers interact. It then goes on to examine the macro-economic impact of the structural buffers and the cyclical buffers (namely, system-wide capital requirements and the counter-cyclical buffer) and how structural and cyclical buffers interact. Finally, it sets out the ERSB's recommendations on guiding principles that could be used for the application of the O-SII and systemic risk buffers and on interaction between the buffers.

The ESRB has a mandate under CRDIV and the CRR to adopt Opinions on the appropriateness of certain macroprudential policy measures before their adoption by EU Member States or the European Central Bank. Alongside the final report, the ESRB has also published an Opinion to the European Commission on structural macroprudential buffers, which builds on the response it provided in October 2016 to a European Commission consultation on the review of the macroprudential policy framework. The Opinion reaffirms the ESRB's view that the CRDIV/CRR legislation provides the essential elements for a sound EU macroprudential framework, but the ESRB makes a number of proposals to enhance the macroprudential toolkit.

The ESRB notes in the Opinion that there is no current consensus on the optimal level of capital requirements and has regard to a recent G20 statement recommending that further significant increases in bank capital requirements should be avoided. Accordingly, the proposals focus on improving the flexibility and transparency of how the structural buffers are applied, rather than on increasing their level.

In relation to the O-SII buffers, the ESRB proposes: (i) an increase in the O-SII buffer cap; (ii) a substantial increase in the additional O-SII buffer cap for subsidiaries; and (iii) an ESRB recommendation providing additional guidance for the calibration of the O-SII buffer, including the scope of the buffer's application.

With regard to the systemic risk buffer (the SRB), the ESRB proposes that mandatory sequencing for its activation (known as the "pecking order") be abolished and the SRB be upgraded to the status of a dedicated instrument to address system-wide structural systemic risks not covered by the CRR. The ESRB also proposes adapting the framework to: enable national regulators (or other designated authorities) to use the SRB to target specific sources of risk; limit the application of the SRB to risks stemming from the systemic importance of individual institutions; and simplify and clarify the notification and approval procedure.

As regards the interaction between the structural buffers, the ESRB notes that the current CRDIV "accumulation rule" means that, if applied on a consolidated basis, only the higher of the G-SII buffer, O-SII buffer and the SRB is currently applicable to an institution. The ESRB considers that, instead, capital requirements related to measures that target different systemic risks should be cumulative. Measures targeting different risks should be accumulated, but—to avoid the double counting of risks—measures targeting the same risks should not.

The ESRB does not expect that adoption of its proposals would lead to significant impact on existing capital requirements for credit institutions. The final report is available at:


the Opinion is available at: http://www.esrb.europa.eu/pub/pdf/other/esrb.opinion180227_macroprudentialinstruments.en.pdf and the ESRB Handbook on Operationalising Macro-prudential Policy is available at: https://www.esrb.europa.eu/pub/pdf/other/esrb.handbook_mp180115.en.pdf.

The European Commission consultation on review of the EU macroprudential framework is available at: https://www.esrb.europa.eu/pub/pdf/other/esrb.handbook_mp180115.en.pdf and the ESRB's response to the European Commission consultation is available at: https://www.esrb.europa.eu/pub/pdf/other/20161024_ESRB_response_EC.en.pdf?9f455bfff182f9e0a5ea8024dcd41cf8.

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Barnabas W.B. Reynolds
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