These revisions will make it easier for banks to meet the LCR, in particular by:
- Expanding the definition of high quality liquid assets to include lower quality corporate securities, equities, and residential mortgage-backed securities;
- Reducing the assumed outflow rates on some types of liability; and
- Phasing in the minimum LCR so that the required LCR is 60% in 2015, rising by 10 percentage points a year until it reaches 100% from 2019 onwards.
These revisions should also have a positive impact on bank lending and the real economy, through the more generous treatment – and thus lower funding costs – of committed facilities and trade facilities, and by encouraging the securitisation of good quality mortgages.
The Basel Committee re-affirmed its intention to introduce the second liquidity ratio (the Net Stable Funding Ratio), but it was always intended to allow a longer observation period for this second ratio, with implementation in 2018.
Although the EU Commission copied the earlier versions of the two liquidity ratios from Basel 3 into the draft Capital Requirements Regulation it is not yet known whether these revisions to the LCR will be implemented in full in Europe. This should become clearer later this month. In Europe and elsewhere the revisions should make it easier to apply the LCR to all banks, not just to large internationally active banks.
In the US, it is anticipated that the banking regulators will undertake a “horizontal” review of large bank liquidity planning and risk management in 2013 along with the finalisation of the US rules implementing the Basel 3 liquidity standards.
Implications for firms
- The revisions to the LCR will make it easier for banks to meet this ratio. Indeed, the revisions probably went further than many banks had been expecting. This will reduce banks’ funding costs and thereby have a positive impact on bank lending and the real economy.
- The phasing in of the ratio may also give banks more time to make any necessary adjustments to their balance sheets, but their regulators and market analysts may not provide much scope for this in practice. A bank that can achieve only a 60% LCR in 2015 may be judged to be too risky by both regulators and market analysts.
- Banks will need to assess the impact of these revisions on their LCR positions. The haircuts and limits on the inclusion of a wider range of assets in high quality liquid assets may mean that, for many banks, the relaxation of outflow assumptions will have the largest favourable impact on their LCR positions.
Meeting the LCR will remain a major challenge for many banks, and even after these revisions many banks will need to make expensive changes to their balance sheets – by hold.