Opinion

CEBS publishes its proposals for a common EU definition of tier1 hybrids

Date: 03/04/2008

The Committee of European Banking Supervisors (CEBS) publishes today its proposals for a common EU definition of Tier 1 hybrids.  CEBS proposals respond to a letter by the European Commission of April 2007.

Their objective is not to create a new definition for eligible Tier 1 hybrid capital instruments but to provide guidelines for a common EU interpretation of the eligibility criteria and to advise the European Commission with regard to the implementation of these criteria into EU legislation.

The proposals are based on eligibility requirements set out in the "Sydney Press Release" issued by the Basel Committee for Banking Supervision in 1998 ("the Sydney Press Release"), the current supervisory practices across the EU as well as information provided by market participants during the public consultation of the draft proposals CP 17 whcih had been also published on CEBS website.

CEBS proposes that hybrid capital instruments should only be eligible as Tier 1 capital if they meet all of the following requirements: they must be issued and fully paid up, publicly disclosed and easily understandable. They must be permanent, able to absorb losses in liquidation and on a going concern basis and allow the cancellation of payments. In stress situations, the instrument should help prevent its insolvency and make the recapitalisation of the issuer more likely.

CEBS also believes that regulatory capital requirements should be met without undue reliance on hybrid instruments and puts forward two options for the limitation of Tier 1 hybrids. The objective of both options is to strengthen the quality of an institution's regulatory capital.

Option 1 refers to the required Tier 1 capital and requests that Tier 1 hybrids may not at any time represent more than 30% of the required Tier 1 capital. If an institution operates above the required Tier 1 capital, Tier 1 hybrids may not at any time represent more than 50% of the total Tier 1 capital after deductions. Option 2 sets out two limits (25%/50% of total Tier 1 capital) for the eligibility of Tier 1 hybrids relating to the quality of the individual instrument.
In addition, hybrids with incentives to redeem must not at any time exceed 15% of the total Tier 1 after deductions (this limit is included in the overall limit on hybrids in both options).

With regard to Tier 1 hybrids already issued that would not comply with the above requirements, CEBS proposes that they should be "grandfathered," and their eligibility to meet Tier I capital requirements should be gradually reduced to zero over a period of 30 years.