The European Banking Authority (EBA) published today its updated ad-hoc impact study on the implementation of Basel III in the EU in response to the EU Commission’s call for advice (CfA). The study is based on a sample of 99 banks and has a reference date of December 2019. Under the full implementation of Basel III and conservative assumptions, the updated impact is meaningfully lower than previously estimated, using June 2018 data and a consistent sample.  In addition, the Report presents some qualitative reflections on the potential interactions between different elements of Basel III framework and the estimated adverse impact of the COVID-19 crisis. The EBA reaffirms its policy recommendations put forward in its previous advice and supports the full implementation of the final Basel III standards in the EU, which will contribute to the credibility of the EU banking sector and ensure a well-functioning global banking market.

Key findings of the quantitative analysis

The overall impact is presented under two implementation scenarios: the first one, called “Basel III scenario”, updates the impact presented in the previous CfA Reports; the second one, called “EU-specific scenario”, considers the additional features requested by the European Commission in its CfA..

The updated impact in terms of Tier 1 minimum required capital (MRC) is +18.5% under the Basel III scenario, which is meaningfully lower than previously estimated using June 2018 data for the consistent sample (24.1%). The lower impact is due to a reduction in the impact of CVA risk (+2.1% compared to +4.3%) as a result of the introduction of the revised CVA framework and the lower impact of the output floor (now +6.7%, compared to +9.5% using 2018 data). The estimated total capital shortfall is about EUR 52.2 billion (EUR 30.2 billion in terms of CET1), down from the EUR 109.5 billion shortfall in total capital (EUR 74.6 billion in CET1), using June 2018 data for the consistent sample. The reduction in shortfall is driven by a combination of institutions’ improved capital positions and lower MRC. Under the EU-specific scenario, the MRC impact would reduce further to +13.1%, resulting in a total capital shortfall of EUR 33.0 billion, of which EUR 17.4 billion of CET1.

The impact differs significantly across the sample. Large and systemically important institutions experience a materially higher impact than medium-sized and small ones and account for almost the entire total capital shortfall.  The main drivers of the impact remain the output floor, followed by credit risk and operational risk.

Table 1: Percentage change in T1 MRC (relative to current T1 MRC) and total capital shortfall (EUR bn), by implementation scenario 

The main results presented in this Report are based on the implementation approach for the output floor recommended by the EBA. As requested by the Commission, the Report also presents results under different implementation approaches, which, however, according to the EBA have significant drawbacks or are not considered compliant with the Basel agreement.  

This Report also provides an update of the EBA’s previous impact of the Basel III framework on MREL. Bearing in mind the limited size of the sample and the difficulty to estimate future MREL decisions laid down in the revised Bank Recovery and Resolution Directive (BRRD2), under the Basel III scenario, the total estimated MREL shortfall, attributable to the final Basel III framework, is within the range of EUR 7bn to EUR 8.6bn. Under the EU-specific scenario, the MREL shortfall would account for around EUR 2 billion. 

Complementary analysis on the potential effects of Covid-19 on Basel III

There is still uncertainty around how banks’ balance sheets will change as a result of the Covid-19 crisis. A complete assessment of how the Basel III reforms interact with the effects of the crisis is not possible in the absence of data that illustrate the actual impacts once these effects materialise. Therefore, the Report includes an analysis that is mainly qualitative in nature and reflects on the potential interactions between the different elements of Basel III framework and the expected shocks.

Note to the editors

1. The “EU-specific” scenario considers the application of SME supporting factors on top of the Basel SME preferential risk weight treatment; maintains EU CVA exemptions and exercises the jurisdictional discretion contemplated in the Basel III framework to exclude the bank-specific historical loss component from the calculation of the capital for operational risk (ILM=1). In addition, this scenario considers two measures that have been frontloaded to mitigate the effect of Covid-19: the change in prudential treatment of software assets and the change in Pillar 2 composition rules.
2. The methodology used in this Report is based on the previous CfA methodology. However, some differences with previous CfA methodology exist mainly due to data availability. The main differences include the different (reduced) sample and the use of proxies for selected impacts (e.g. revised CVA framework). In addition, the impact for market risk in this report is based on a ‘reduced bias estimation’ in line with the baseline scenario analysis in the regular EBA Basel III monitoring exercise.
3. The results should be read in conjunction with a set of conservative assumptions, in particular the assessment does not consider any adjustments in banks’ balance sheets nor authorities’ response to the implementation of Basel III.
4. On 10 December 2020, the EBA also published its regular Basel III monitoring report, based on the same reference date (December 2019). The cumulative results of the present CfA Report are not directly comparable to those of the Basel III monitoring report, as they are based on slightly different samples by composition and size and on two key methodological differences. The more important methodological difference relates to the application of different buffers. Another, less significant, difference is the sequence of estimating the capital requirements for the output floor and leverage ratio, respectively. The latter difference has an impact on the minimum required capital assigned to these two categories, but not on the cumulative impact.