• Banks and credit unions
  • Financial market supervision
  • Legislation

FAQs – the Capital Requirements Directive (CRD IV) and the Capital Requirements Regulation (CRR)

What are CRD IV and CRR? Why were they created and when do they apply from?

CRD IV (the Capital Requirements Directive), aka Directive 2013/36/EU of the European Parliament and of the Council of 26 June 2013 on access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms, is one of the key EU rules governing credit institutions (in the Czech Republic this means banks and credit unions). It also partly regulates the activities of non-bank investment firms.

CRD IV was published in the Official Journal of the European Union on 27 June 2013 and entered into force on 17 July 2013. Member States are obliged to adopt and publish legal rules necessary to comply with the Directive by 31 December 2013. Those legal rules should take effect on 1 January 2014.

CRR (the Capital Requirements Regulation), aka Regulation (EU) No 575/2013 of the European Parliament and of the Council of 26 June 2013 on prudential requirements for credit institutions and investment firms, was published in the Official Journal of the European Union on 27 June 2013 and entered into force on 28 June 2013. It is a directly applicable legal rule effective from 1 January 2014, with the exception of a few provisions which apply from 1 January 2015 or 1 January 2016.

CRD IV and CRR are a result of actions to strengthen the financial system taken at G-20 level in April 2009 and subsequently developed into a number of measures to strengthen the regulation of the banking sector endorsed by the G-20 leaders at their Pittsburgh Summit of September 2009 and reflected in the outputs of the Basel Committee on Banking Supervision (Basel III).

What is the subject matter of CRD IV?

CRD IV lays down rules primarily concerning:

  • authorisation to carry on business in the credit institutions sector,
  • the acquisition of qualifying holdings in credit institutions,
  • the exercise of the freedom of establishment and the freedom to provide services (the establishment of branches in another Member State, and the cross-border provision of services without establishing a branch),
  • the powers of the supervisory authorities of home and host Member States, including the powers to impose penalties,
  • exchange of information and cooperation between the supervisory authorities of Member States,
  • the requirements imposed on supervisory authorities concerning the supervisory review and evaluation process,
  • the requirements imposed on credit institutions and non-bank investment firms concerning management and control systems, i.e. governance and remuneration, and requirements concerning risk management systems and internal control systems,
  • the requirement to maintain capital buffers, i.e. the capital conservation buffer, the countercyclical capital buffer, the capital buffer for global or other systemically important institutions and the systemic risk buffer,
  • the initial capital of non-bank investment firms.

What is CRR and what are its objectives?

CRR is a set of prudential requirements that forms the basis of a single European rulebook for all institutions, i.e. credit institutions and investment firms (in the Czech Republic this means banks, credit unions and selected non-bank investment firms).

In respect of these institutions, CRR lays down:

  • the scope of application of prudential requirements on an individual and consolidated basis,
  • capital and capital ratio requirements,
  • the method of calculation of capital requirements,
  • rules to limit risk, e.g. rules for large exposures and rules for the transfer of risk,
  • liquidity rules,
  • rules for the calculation of the leverage ratio,
  • requirements concerning information disclosure,
  • requirements concerning reporting to supervisory authorities.

The bulk of these requirements are based on the Basel Committee on Banking Supervision’s Basel III recommendations.

CRR will be gradually supplemented by directly applicable EU implementing rules. The European Banking Authority (EBA) is currently drafting proposals for a large proportion of these implementing rules in the form of regulatory or implementing technical standards.

How are CRD IV and CRR related?
CRD IV and CRR together form the legal framework governing access to the relevant activities, the supervisory framework and the prudential rules for institutions. The general prudential requirements set out in CRR are supplemented by individual arrangements that are decided by supervisory authorities as a result of their ongoing supervisory review of individual institutions. CRR should be read together with CRD IV.

How will CRD IV and CRR affect national law (will anything be added, amended or repealed)?

CRR is a directly applicable legal rule and national law has to be adapted so that it does not conflict with the Regulation. The provisions of CRD IV have to be transposed into national law.

As regards legislation, adaptation to CRR and transposition of CRD IV will be implemented in an amending act that is currently in the legislative process (an act amending certain laws in connection with the stipulation of access to the activities of banks, credit unions and investment banks and the supervision thereof). The amending act also contains amendments to the Act on Banks, the Act on the Czech National Bank, the Building Savings Schemes Act, the Act on Credit Unions, the Capital Market Undertakings Act and the Act on Financial Conglomerates.

Changes in implementing decrees will also be required. Besides affecting the legal rules governing the regular submission of information by institutions to the Czech National Bank (decrees on reporting), CRR and CRD IV will also have an impact on Decree No. 123/2007 Coll., stipulating the prudential rules for banks, credit unions and investment firms. This decree will be repealed and replaced with a new decree on the pursuit of business of banks, credit unions and investment firms and with provisions of a general nature issued by the Czech National Bank.

Will the implementation of CRR and CRD IV impair financial stability in the Czech financial sector?

No, quite the reverse. The Czech banking sector is stable and the primary intention of the Czech National Bank is to implement European legislation and international banking standards in such a way that the sector remains stable in the long run and maintains its current level of capitalisation with high-quality capital. The new European standards bolster the CNB’s powers to ensure that domestic banks are resilient to risks arising in connection with their business, thereby helping the CNB to fulfil one of its objectives, namely to maintain financial stability. The CNB will be able to require banks to hold a larger amount of capital relative to risk-weighted assets and to require that such capital be mostly of high quality, i.e. that it can genuinely be used to cover unexpected banking business losses. The new rules will thus enable banks to maintain their existing level of capital, which has been relatively high in recent years. They also require banks to hold enough highly liquid assets. This is currently another strength of the Czech banking sector.

From when will it be possible to require the relevant institutions to hold capital buffers?

Banks can be required to create and maintain three of the new buffers – the capital conservation buffer (see the next question for details), the systemic risk buffer and the countercyclical capital buffer – as from 2014. Banks will have to maintain those buffers at the prescribed level using common equity Tier 1 capital (i.e. not additional Tier 1 or Tier 2 capital). The overall amount of capital the bank is required to set aside to maintain these buffers is called the combined buffer requirement. Where a bank fails to meet in full the combined buffer requirement, it will be subject to capital conservation measures (restrictions on dividend payments etc.) designed to ensure that it restores its combined buffer to the required level.

Will the CNB require the relevant institutions to create capital buffers as from 2014?

CRD IV enables Member States to require banks to create and maintain three types of buffers – the capital conservation buffer, the systemic risk buffer and the countercyclical capital buffer – as from 2014. The CNB decided to implement these buffer requirements already during 2014. It will adopt a differentiated approach to the individual buffers. As regards the capital conservation buffer, the CNB intended to apply it to all institutions in the full amount of 2.5% of common equity Tier 1 from the start. The systemic risk buffer is applied to only four institutions. With regard to the countercyclical capital buffer, the CNB Bank Board decided in late 2014 to set it initially at zero, with banks applying the zero rate for the next two years.

Will the buffer requirement force the relevant institutions to significantly increase their capital or restrict lending to clients?

We expect no such thing. The CNB carefully analysed the ability of banks to meet the new buffer requirements and concluded that banks should not experience any problems with them, as the vast majority of banks will be able to cover them using existing capital. Taking into account banks’ financial results in 2013, the new requirements will not generate any need for shareholders to provide additional capital. From the CNB’s perspective, moreover, the existing capitalisation and liquidity of banks implies no restrictions on lending to clients.

Won’t the requirement to create capital buffers lead to capital shortages in part of the banking sector?

According to the CNB’s analyses, domestic banks currently have enough capital to cover the new buffer requirements. If an institution fails to comply with the new buffer requirements immediately, the CNB will not consider this to be a significant shortcoming requiring immediate rectification. The institution will merely be subject to certain capital conservation measures (in particular a requirement to restrict dividend payments for a period of time). The new rules foster confidence in the stability of the sector, as they allow the CNB to impose stricter capital requirements on credit institutions.

How does the CNB determine whether or not a bank has to create a capital buffer to cover systemic risk?

The CNB determines the amount of the systemic risk buffer for each bank depending on the bank’s contribution to overall systemic risk and does not order this buffer for banks that do not exceed a certain level of systemic importance. The CNB estimates the contribution of each bank to overall systemic risk based on a set of around 20 indicators of (1) the size of the bank, (2) the complexity of the bank, (3) the interconnectedness of the bank with the rest of the financial sector, and (4) the substitutability of the bank. When determining the amount of the required buffer, the CNB also takes into account any important subsidiaries of the bank in the Czech financial sector.

If an obligation to maintain a systemic risk buffer is imposed on a bank, does it mean that the bank is so important for the stability of the whole system that the state can never let it fail?

The fact that an obligation to maintain a systemic risk buffer is imposed on a bank due to its systemic importance has no direct connection with any future decision on the action to be taken by the CNB and the Czech government in the event of that bank running into a crisis. The obligation to maintain a relevant buffer is a preventive measure designed to reduce the probability of a bank experiencing a crisis. Crisis resolution decisions will always have to take into account the current situation of the bank and the financial sector as a whole, and so cannot be anticipated. The crisis management and resolution rules that are currently being prepared at international and EU level will make it possible to apply numerous alternative resolution procedures even to systemically important banks in the future.

What will happen if an institution lacks the capital to meet the buffer requirement? Will the CNB have to impose penalties on this institution or even administrative proceedings to revoke its licence?

A bank’s capital does not have to comply constantly with the applicable capital requirements reflecting the prescribed capital buffers. Even if the total capital requirement were to exceed the current disposable level of capital in some institutions after the new buffers are introduced, it would not imply a need to top up the capital immediately. These institutions would merely have to take the new situation into account when managing their capital. For example, they would have to observe certain capital conservation measures (restrictions on dividend payments, etc.) designed to ensure that they restore their capital buffers to the required level. The greater a bank’s actual non-compliance with the buffer requirement is, the stricter these rules are.

Some banking sectors in Europe ran into difficulty due to excessive and ill-considered lending for property buying and building. Will the new rules prevent a repeat of this?

The new rules for the regulation of financial institutions allow the CNB to select from a set of instruments to slow any excessive growth in property prices and related ill-considered lending for property buying and building. The new rules allow the CNB to tighten the rules for the calculation of capital requirements where it judges that the situation on the property market and housing loan market is posing a risk to financial stability. The CNB will be able to order institutions to apply a higher risk weight in the capital requirement calculation, to set a higher loss given default, or to reduce the share of an exposure to which a reduced risk weight can be applied. Another instrument – also recommended by the European Systemic Risk Board (ESRB) – is regulation of the maximum loan-to-value (LTV) ratio. For more details on the risks associated with exposures to the property market, see section 5.5 of Financial Stability Report 2012/2013 (pdf, 627 kB) (pp. 86–88).
 

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