SREP 2020: The EBA’s new pragmatic approach in the context of Covid-19

2020 Supervisory Review & Evaluation Process

The European Banking Authority (EBA) made a statement on 22 April 2020 outlining how the principles of effectiveness, flexibility and pragmatism have guided their approach in relation to the 2020 Supervisory Review and Evaluation Process (SREP).

The proposed changes to the SREP guidelines reflect the impact of the Covid-19 pandemic and adapts the existing requirements set out in the Capital Requirements Directive (CRD) to fit the exceptional circumstances of the crisis.

The new approach seeks to ensure that, even in the current climate of uncertainty, the 2020 SREP provides an appropriate assessment of the current risks faced by institutions. It covers:

• Pragmatic aspectsof 2020 SREP, with a particular focus on the operational constraints on banks and supervisors
• Supervisory measures to ensure that supervisors have sufficient flexibility to adapt their supervisory practices to the new and changing circumstances
• Assessment and scoring:
  • A risk-driven assessment focusing mainly on the most material risks and vulnerabilities driven by the crisis
  • Supervisory scrutiny for any additional risks deemed material for a specific institution
  • Focus on institutions’ ability to respond to the challenges brought by the crisis, including operational continuity
  • Possibility to maintain risks and viability scores assigned in the previous cycle, until the impact of the crisis on an individual institution’s risk profile is better understood and captured
• Conduct of 2020 SREP in cross-border contexts

Pillar 2 Guidance

The EBA maintains that drawing supervisory conclusions on the viability of an institution and its ability to meet capital and liquidity requirements, is paramount in a crisis.

The SREP scores can be used as triggers for applying early intervention measures under the Bank Recovery and Resolution Directive (BRRD), as well as for determining whether an institution is ‘failing or likely to fail’.  

In terms of supervisory measures to be applied in the 2020 cycle, here are the revised guidelines:

• Express a preference for qualitative measures in the first instance
• Recommend that Pillar 2 requirements should remain stable, if appropriate. Indeed, the EBA appreciates the uncertainty over the adverse scenarios that could materialise, as well as individual institutions’ sensitivity to it. Therefore, it allows competent authorities to leave Pillar 2 Guidance (P2G) unchanged in 2020 where possible.
• Recognise that additional own funds can still be required by competent authorities to address risks not adequately covered
• Confirm that Pillar 2 requirements should be met by the institutions at all times but allow competent authorities to:
  • Tolerate instances where an institution is operating temporarily below the level of capital determined by P2G. However, they should engage in enhanced supervisory dialogue with that institution to understand the timeframe for the restoration of P2G capital
  • Adapt the quality of capital that institutions can use to meet the Pillar 2 requirements while ensuring a sound coverage of risk

Identification of key risks

In the context of the Covid-19 crisis, the identification of risks and vulnerabilities still remains dependent on institutions’ ICAAP and ILAAP. Both processes support competent authorities’ assessment of institutions’ soundness and viability.

Competent authorities may request updated ICAAP/ILAAP information with a particular focus on:   

-       Credit risk; in particular credit risk management and trends and coverage of provisioning

-       Liquidity and funding risk

-       Operational risk with a focus on information security and business continuity

-       Profitability, the wider business model framework, governance arrangements and management’s ability to ensure prompt implementation

2020 SREP in cross-border contexts

For cross-border assessments, the consolidating supervisor and the relevant competent authorities (supervisory college) should:

• Agree if the 2020 SREP should be performed with or without the application of the new guidelines for all group entities. Indeed, applying different approaches across jurisdictions is allowed
• Discuss the joint decision timetable used for the 2020 cycle
• Clarify the focus of the capital and liquidity risk assessment, taking into account the main risks and vulnerabilities

For more information on how to prepare for 2020 SREP, please get in touch.