PRA’s strong and simple regime: What might the future hold?

In April 2021, the PRA published a discussion paper on their plans to implement a “strong and simple” regime for less systemically important banks. In December 2021, they shared the feedback statement on the responses they have received. We have studied the feedback statement and outlined below some of the PRA’s key proposals that we believe could be implemented in the future:

1. The diversity of PRA-regulated firms that are not considered systemically important suggests it may not be feasible to have a single set of strong and simple prudential rules applying to them all. Therefore, it is more appropriate to have requirements that “expand” and become more sophisticated as the size and/or complexity of firms increase. The PRA is therefore working to have a layered framework in the future. Additional layers of regulation and supervision will apply as banks increase in size and/or become more complex with time.
2. The PRA can be expected to keep the components of its eligible capital intact. CET1, AT1 and T2 capital instruments can continue to be counted for as eligible capital even for the bottom-most regulatory and/or supervisory layer.
3. The PRA is likely to use firms’ balance sheet size to determine the boundaries of the aforementioned layers. The regulator plans to apply exceptional treatment to those banks that use the IRB approach, have a trading book (no matter how small) and have multiple critical functions.
4. In the context of capital adequacy, the PRA can be expected to implement the Basel 3.1 Standardised Approach in its new regime. Interestingly, based on the feedback we expect Pillar 2A requirements to be somewhat simplified for smaller/non-complex banks. The PRA can be expected to introduce defined calculations and templates on this topic. There is also a possibility that Pillar 2 add-ons could be set as fixed, nominal amounts, rather than percentages of risk weighted assets to improve clarity and reduce variability. Similarly, for liquidity, the PRA can be expected to retain LCR and NSFR but amend Pillar 2 requirements.
5. We would reasonably expect the PRA to simplify the ICAAP and ILAAP documents. It is also possible that the PRA might be pushed towards combining the two documents into one. This is not entirely impossible given the extent of overlap between the two documents. In fact, the FCA has already implemented a combined approach to ICAAPs and ILAAPs through the ICARA process for investment firms. It is possible that the PRA might adopt some elements of the FCA’s ICARA into build of its own regime.
6. We believe that it is too early to make a call on what to expect the PRA to change in the context of solvent wind down, recovery and resolution planning as well as on the matter of governance, remuneration and risk management. We can however, reasonably expect the PRA to provide more guidance on these matters in due course.
7. The feedback statement suggests that there is overwhelming support for Pillar 3 disclosure requirements to be dropped altogether, and such disclosures being combined with annual audited accounts. However, there could be a number of issues with implementing this change – not least the absence of subject-matter expertise on regulatory matters in external auditors. We therefore expect the UK’s Pillar 3 disclosure regime will be simplified.