Ring out the old, ring in the new

On Christmas Eve I submitted UK Finance?s responses to a couple of consultation papers issued by the PRA.

On Christmas Eve I submitted UK Finance's responses to a couple of consultation papers issued by the PRA. CP25/18 and 26/18 prepare the way for a potential hard Brexit. They do so by onshoring directly applicable EU law into UK law so that financial services firms can continue to operate and be effectively supervised in the event of a no-deal scenario, without an implementation period.

The two consultation papers describe how the PRA will use the powers delegated to it by the EU Withdrawal Act to ensure that all EU-derived rules for which it is responsible - broadly those about the regulatory requirements for banks to hold prudent levels of capital and liquidity - will function post-exit.

UK Finance supports the premise that EU member states and exposures thereto should in the future be treated in the same way as any other third country. We also welcome the PRA's commitment to only use these powers to make onshoring happen, not to change pre-Brexit regulatory requirements or generally mitigate the impact of leaving the EU.

But UK Finance has emphasised that a jump-to-Brexit approach may place undue strain on banks and that a transition period, allowing them to adjust to the new regulatory environment, would be helpful. I am pleased that this need for a selective transition period has been recognised and our responses welcomed this.

In particular I welcome the application of temporary transitional powers to the phasing-in of onshoring requirements. These will allow banks to continue to treat EU27 exposures and assets preferentially, under the applicable capital frameworks, and under the CRR liquidity and large exposure regimes.

Banks in the UK hold significant amounts of European government bonds, issued by countries such as France and Germany, as part of their liquidity buffers, which are currently zero-risk weighted for capital purposes. In the event of a hard Brexit, and in the absence of an equivalence determination (which cannot be guaranteed), banks would likely have to hold many billions of pounds worth of extra capital which could reduce their lending capacity to British customers. Furthermore, without transitional powers the highly liquid government bond markets could be disrupted as UK banks switched from EU 27 bonds to UK gilts to avoid this capital penalty.

But there is one area where UK Finance would welcome the widening of the scope of the transitional powers to avoid operational difficulties, which is in relation to the regulatory requirement to post collateral to support initial and variation margins in the uncleared derivatives market. It is proposed that the range of eligible collateral be narrowed from any specified EU security to UK securities only, reducing significantly the range of eligible collateral.

These changes are likely to require repapering of existing contracts and changes to collateral arrangements. For example, collateral schedules will need to be immediately amended to reflect the changes to collateral eligibility, as will legal documents and collateral agreements between counterparties. For a typical UK Finance bank member, the exercise would involve amending 10,000-20,000 different bilateral derivatives agreements.

I strongly believe that transitional measures should be introduced to give UK Finance members additional time to adapt to the practicalities that a potential hard Brexit would bring, recognising that there would not be any inherent change in the credit quality of EU27 government bonds post-Brexit. I look forward to discussions with the UK authorities this new year to ensure this important transitional period can be introduced if necessary, for the practical benefit of our members in 2019.

Reltated Learning

ILAAP Best-Practice Principles: Stress Testing and Optimum Liabilities Strategy ? 15 March / 21 May / 17 September

The need to ensure an efficient ILAAP process has also been reinforced with the finalisation of the PRA's Pillar 2 liquidity regime. As a resource-intensive process, it is vital for banks to implement firm-wide procedures that ensure an efficient and effective ILAAP process.

ICAAP Best Practice ? 19 March / 23 May / 16 September

Now is the time to review your Internal Capital Adequacy Assessment Process (ICAAP) to maximise process effectiveness and efficiency. This workshop will demonstrate practical steps needed to implement an efficient capital adequacy assessment process.