Recently, I submitted UK Finance’s response to the Prudential Regulatory Authority’s Consultation Paper 9/24. This sets out its approach to Streamlining the Pillar 2A capital framework and the capital communications process.

We agreed with the more minor changes proposed in the CP but did not agree that the refined methodology approach (RA) should be retired.

The RA provides eligible firms with a reduction in Pillar 2A while ensuring that the capital held by them exceeds the amount necessary to ensure a sound management and coverage of risks. 

There is a significant differential between Internal Rating Based (IRB) and Standardised Approach (SA) risk weights that undermines competition, particularly for various low risk asset classes. The RA, to a limited extent, mitigates part of this differential so we are concerned that the proposed withdrawal will conflict with the PRA’s growth and competition remits to the detriment of smaller and mid-sized banks.

The PRA states that the RA was a temporary measure introduced to partly compensate for overly conservative SA risk weights that will be corrected with the introduction, at the beginning of 2026, of Basel 3.1. The cost benefit analysis (CBA) in the CP suggests that, if the RA was retained, the Pillar 2A adjustment that it would deliver would only be on average 1/12^th of the current adjustment.  But the PRA acknowledged too that the CBA was difficult to undertake because of the many moving parts involved. These include the introduction of Basel 3.1 and its differential impact on firms with different business models as well as the Small Domestic Deposit Takers regime. 

In our response we challenged the applicability of the Basel 3.1 risk weights, particularly for UK mortgages lending, which has a far better credit loss record than implied in the Basel 3.1 risk weight calibration. This continuing over conservatism could be corrected by retaining the refined approach, even once Basel 3.1 is implemented.

But if the PRA is committed to the policy of removal, then a transitional withdrawal should be considered. This could be implemented with little complexity if current credit-offsets are reduced on a transitional basis over a four-year period. This approach would remove a cliff edge effect and transition on a similar timeline to the introduction of the output floor for IRB banks, introducing an element of ‘symmetrical fairness’. 

The strength of feeling across the smaller and mid-tier  sector on this matter is significant and should be addressed robustly and transparently by the PRA. UK Finance looks forward to working it and members to find a solution that is acceptable to both the industry and the regulator.