First introduced in 2016, MREL aims to protect customers in the event of a non-G-SIB financial institution failing, but things have moved on. A few years after its introduction, is MREL a help or a hindrance?

The minimum requirement for own funds and eligible liabilities (MREL) aims to absorb losses and potentially supports recapitalisation if an institution is on the point of failing. It also aims to ensure that the risks to depositors, the financial system and to public finances that could arise due to the failure of a bank are reduced.

When MREL was originally introduced, the collapse of smaller banks drove a clear need to improve customer protection and minimise the impact of any one bank's failure on the wider financial system. Increases in coverage of the Financial Service Compensation Scheme (FSCS) introduced protection for deposits up to £85,000, and banks were required to hold more capital and comply with ring-fencing requirements. Nonetheless, it is difficult to conclude that MREL is potentially overly punitive on smaller banks.

Getting to grips with the MREL calculation

There are three distinct resolution strategies, which will determine MREL requirements:

• Modified insolvency - for banks with less than 40,000 transactional accounts. MREL is 100 per cent of minimum capital requirements.
• Partial transfer - for banks with 40,000-80,000 transactional accounts, less than £15-25 billion on the balance sheet, subject to stabilisation and potentially providing other critical economic functions. MREL is 100?200 per cent of minimum capital requirements.
• Bail-in - for banks with more than 40,000 transactional accounts, more than £15-25 billion on the balance sheet, subject to stabilisation and providing other critical economic functions. MREL is 200 per cent of minimum capital requirements.

At a glance, this seems proportionate. However, in reality the move between categories can be rapid and potentially doubles a bank's MREL requirements overnight. This has required newly in scope banks to issue debt at relatively short notice and at higher cost than larger banks.

Challenger banks are particularly vulnerable and may feel the impact following a period of growth, limiting future scope for development. This is exacerbated by the immediate need to raise hold MREL once a threshold is crossed, which could impact competition in the long term if banks deliberately hold themselves below the threshold that doubles MREL requirements.

For some, including many building societies, leverage can be the binding constraint leading to dramatically higher MREL requirements.

Meeting MREL requirements

Taking a broader look at the financial sector, MREL is one of many post-crisis reforms that raises capital requirements. While this undoubtedly protects against bank failure, it comes with a societal cost and may limit economic growth. This is potentially damaging when the UK is finding its footing post-Brexit and starting the long road to recovery post-Covid-19.

This summer's expected MREL consultation is an opportunity for a simpler, more proportionate approach, without diminishing customer protection. In the meantime, firms may want to examine their expected growth and consider how to raise the necessary MREL capital.

To stay up to date with new developments, download the Grant Thornton Regulatory Handbook 2021.