The European Banking authority (EBA) published the second part of its technical advice to the European Commission on the implementation of the Basel IV standards into EU law including:

  • an impact assessment of the new Credit Valuation Adjustment (CVA) risk frameworkand of the new market risk/FRTB as well as an assessment of the overall macroeconomic impact of the full package and;
  • the associated policy recommendations.

Initially expected in September this year, the publication of the second part of the EBA advice was delayed to pre-empt adjustments at the Basel Committee for Banking supervision (BCBS) level regarding both the CVA framework and FRTB disclosure requirements, on which the Committee launched consultations respectively on 28 November and 14 November, but has not come out with final guidance.

The EBA notes that the new CVA risk framework and a potential removal of the EU-specific exemption from CVA charges for exposures to notably NFCs and pension funds would lead to significant increases in capital requirements, while stressing that the revisions suggested by the BCBS in its November consultation would reduce the impact. It recommends a phased removal of the CVA exemptions, stressing that not requiring EU institutions to hold capital for CVA risk stemming from the exempted transactions is inconsistent with a risk-based capital requirements framework.

Despite this strong language against the CVA exemption, at the moment there seems to be little appetite in the EU institutions to consider removing the exemption that was originally introduced in the 2013 CRR.

The EBA underlines that taking into account the final 2019 FRTB revisions, the overall reform increases the tier 1 minimum required capital (MRC) amount by 23.6%, lower than the 24.4% estimated in the first part of its advice to the EC published in August. In addition, it now estimates that the package would reduce the average total capital ratio of the banks in the sample to 14.4% and trigger a shortfall in total capital of EUR 124.8 billion, compared to the EUR 135.1 billion shortfall it had quoted in its August 2019 advice.

On FRTB, it concludes that the impact is heterogeneous across banks and driven mostly by a few banks with important trading books.

Regarding the macroeconomic impact of the new standards, the EBA stresses that bank lending would be adversely impacted in the short run but that higher capitalisation would eventually outweigh these short-term adaptation costs and allow banks to reduce their funding costs, improve their profitability and expand their balance sheet.