The CFO Network, sponsored by Jaywing, is a new, informative gathering of chief financial officers who meet to discuss industry best practice and the latest developments affecting the industry.

The inaugural meeting in June 2021 focused on the finalisation of Basel III reforms. These reforms seek to strengthen the banking system further and to support the wider economy, delivering improvements in the calculation of capital requirements across ten key areas including stability, consistency, and sensitivity of calculations and the models associated with them.

As with all major regulatory change, these reforms present a range of issues for lenders to consider. They focus not only on capital and strategic impacts, but also introduce considerations across each business, touching on areas such as governance, operational impacts, data, IT, reporting and resourcing requirements.  To cope with the change inherent in these reforms, lenders are keen to get organised now to meet the requirements.

In a wide-ranging discussion, attendees observed that the recent pandemic had shown that the changes introduced after the 2008 financial crisis (that predate the latest Basel III changes) had been effective. In the midst of a human crisis, the banking system had risen to the challenge by supporting lending to the real economy. Increased capital levels resulted in the sector being able to respond well in the face of the real-life circumstances that industry stress tests had sought to guard against.

IFRS9 during Covid-19 was regarded as volatile, as  the difficulties in accurately identifying 'stage 3? accounts and those subject to a significant increase in credit risk caused inconsistent modelled provision outputs that had to be controlled by management judgement ?However, the early recognition of losses contributed to a ?job well done?, even if the numbers were sometimes called into question at the time.

Nevertheless, the impact of the upcoming changes on future capital levels was less certain. 38 per cent of attendees thought that capital requirement impacts would be minimal, while 35 per cent thought their organisation would have higher capital requirements. In part, this split was influenced by the lending activities of each organisation, where significant changes to the capital treatment for, (for example) retail or buy-to-let mortgages, or the withdrawal of favourable capital treatment for SMEs could have a significant impact. Additionally, it was noted that the impact of the Basel III output floor, which may significantly increase capital requirements for firms operating with an IRB waiver, is being gradually phased in over five years. However, firms measuring capital requirements under the standardised approach will be impacted from day one, with no transitional relief currently proposed.

Only 17 per cent of respondents thought that their business was ready for the 2023 start date, while 50 per cent reported not being ready and the remaining 33 per cent didn't know at this point if they would be ready. There was a strong feeling that at this stage, with 18 months to effect the required changes, there is insufficient certainty from the regulator on what the detail of the requirements looks like. Of particular concern was the Prudential Regulation Authority (PRA)'s approach to the SME supporting factor, whose removal could adversely affect the supply of funding into the SME market at the exact moment they are recovering from the pandemic induced economic stress. As a result, newer lenders were finding it hard to describe to investors what the future shape of their capital requirements might be.

With a consultation scheduled to be issued in Q4, and the final rules not known possibly not until Q1 2022, this will leave firms with very little time to implement the new rules. An accelerated consultation, or delayed implementation would be preferable.

To join us at the next meeting of the CFO Network, please contact UK Finance. For more information about how Jaywing can help with the practical changes regarding Basel III please contact Ben O'Brien, Managing Director on ben.obrien@jaywing.com