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MB Issues Framework for Systemic Domestic Banks

10.21.2014

The Monetary Board (MB) approved guidelines for determining so-called “D-SIBs” or those banks which are deemed systemically important within the domestic banking industry. This is in line with initiatives pursued under the Basel 3 reform agenda.

Global reforms on the treatment of systemically important financial institutions (FIs) have been initiated in light of the socio-economic costs arising from the financial crisis. This includes the government bailout of failed FIs particularly in advanced economies. In an effort to strengthen financial markets and remove the moral hazard of publicly-funded bailouts, the Basel 3 reform agenda requires systemic FIs to set aside more funds as buffer for potential losses.

D-SIBs are characterized as banks whose distress or disorderly failure would cause significant disruptions to the wider financial system and economy.

BSP Governor Amando M. Tetangco Jr. noted that the “new regulation is a major initiative which is designed to ensure that our banking industry further builds upon the strength that it has already achieved.”

Banks will be evaluated based on measures for (a) size (b) interconnectedness (c) substitutability/financial institution infrastructure and (d) complexity. Although these measures are largely quantitative, supervisory judgment may also be applied as warranted in determining a bank’s systemic importance. Based on their composite score, each bank will be slotted into one of three “buckets” of systemic importance.

Systemically important banks will be required to increase their minimum Common Equity Tier 1 (CET1) ratio by 1.5 to 3.5 percentage points depending on which bucket they are classified. This will be on top of the existing CET1 minimum of 6 percent and the capital conservation buffer of 2.5 percent.  DSIBs whose capital ratio falls below their corresponding regulatory minimum will be subject to constraints in the distribution of their income.

Governor Tetangco clarified the requirement to limit the distribution of profits for those D-SIBs whose capital ratios fall below the regulatory minimum should not be interpreted as a ‘hard penalty’.

Instead, the Governor pointed out that “D-SIBs will be given enough time to meet the higher capital ratio but should banks be unable, limiting the distribution of profits is the way for these banks to build up their capital position by re-channeling their profits.” The Governor adds that “once the capital ratios are brought back to their required minimum, this restriction would be lifted.”

To remove any uncertainty, D-SIBs will likewise be required to include in their Internal Capital Adequacy Assessment Process (ICAAP) concrete and reasonable recovery plans which shall be implemented in case the bank breaches the capital requirements.  They are also subject to more intensive supervision.

In facilitating the transition into the new rules, the BSP will adopt a phased-in approach for the higher CET1 ratio requirement for D-SIBs.  The BSP will inform each bank if they are classified as a D-SIB by mid-2015 (as well as their specific bucket). However, the D-SIB status of a bank will not be publicly announced. It will be treated as a confidential matter between the BSP and the bank concerned to minimize potential moral hazard. D-SIBs are required to have put the necessary incremental CET1 by 01 January 2019. To provide further guidance, the new BSP regulation sets a step-ladder type threshold for the CET1 of D-SIBs starting 01 January 2017.

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