CRD4 - Maximum Harmonisation But Minimal Harmony?


On 20 July 2011, the EU Commission published a provisional draft of its much-awaited legislation to implement the proposals of the Basel Committee on Banking Supervision, known as "Basel III,"1 into EU law. It is not, however, light reading. At nearly 700 pages of detailed text, it is likely to be a helpful addition to known cures for insomnia. For those not needing assistance in this area, we have sought to condense the main features of the proposals into just a few (all right, slightly more than a few) pages, focusing particularly on the material differences between Basel III and CRD4.

Scope and Structure

Whereas Basel II and Basel III focus only on internationally active banks, the Capital Requirements Directive in Europe currently applies to all European banks, as well as to European investment firms in general. The proposed CRD4 directive and regulation retain this approach and this gives rise to certain required adaptations of the Basel III proposals.

In addition to implementing Basel III, the Commission's draft proposals (known generally as CRD4) will replace the existing Capital Requirements Directive,2 along with its subsequent amending directives (known generally as CRD23 and CRD34). The Commission proposes to achieve this with the combination of a new directive (which would need to be separately implemented into the national laws of the EU member states in order to have direct effect in those countries) and a new regulation (which would have direct effect on EU regulators and institutions covered by the regulation).

The stated aim of the Commission in presenting the majority of its CRD4 prudential proposals in the form of a regulation is to create a "single banking rule book" for Europe. Unlike the process of implementing a directive into national terms, which can allow individual member states to diverge in their implementation approaches, the regulation mechanism does not allow for any divergence in approach by member states. This therefore means that additional, or more onerous, provisions can generally not be added by individual member states.

However, this approach has proved highly politically controversial, with certain member states, including the UK, expressing strong concerns about their lack of ability to impose more onerous requirements on their own national institutions in certain areas—notably minimum capital requirements.

In the UK, the Independent Commission on Banking is due to deliver its final proposals in September 2011 as to restructuring the UK's banking sector, and on the basis of its interim report,5 the ICB looks likely to recommend minimum capital requirements for the UK retail banking operations of universal banks which are higher (minimum core equity tier one ratio of 10%) than the equivalent Basel III/CRD4 proposals. If the proposed CRD4 regulation were adopted in its current form, it could effectively remove the ability of the UK to implement such higher minimum capital requirements.

In response to the objections raised, Commissioner Barnier has suggested that the countercyclical capital buffer proposals (which are contained in the proposed CRD4 directive, rather than the regulation) could be adjusted by member states to respond to the "potential emerging macroeconomic risks in a flexible manner." However, this is unlikely to represent an adequate solution to the UK's concerns, given that the ICB looks set to recommend a permanent uptick in the minimum capital requirements for UK retail banking. In contrast, the countercyclical capital buffer was always intended by Basel III to be used as a temporary additional buffer to react to certain economic conditions prevailing at a particular time in one or more member states.

The proposed CRD4 directive retains the provisions of the current CRD concerning the freedom of establishment and movement of services and general principles of supervision (such as exchange of information and division of responsibilities between "home" and "host" member state supervisors) and corporate governance. It also contains certain new provisions regarding increased sanctioning powers against institutions and individuals for breach of the CRD4 provisions and enforcing sanctions across different member states, as well as measures aimed at reducing reliance on external credit ratings.

All of the general prudential provisions of Basel III, with the exception of the capital conservation buffer and the countercyclical capital buffer, are proposed to be included in the draft regulation and are to be supplemented by the provisions in the directive regarding supervisory review of each institution. These would therefore take direct effect in member states.

There are, however, a few specific areas where member states will retain some powers to implement national laws and regulations where these do not conflict with directly applicable EU-level laws. These include the ability of national regulators to disapply prudential requirements for subsidiaries within a consolidated regulatory group of companies where certain conditions are fulfilled, such as there being no legal or practical obstacles to the parent of the group transferring capital promptly if required.

More specifically, national regulators will for the first time have the power to increase the risk-weighting of exposures to real estate assets (currently 35% and 50% for...

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