[Banking] The PRA’s proposed new liquidity regime

In October 2014, the European Commission published the Delegated Act to supplement EU Regulation 575/2013 (CRR) on the liquidity coverage ratio (LCR) and on the circumstances under which specific inflow and outflow levels should be imposed to cover institutions’ specific liquidity risks. This legislation will become effective on 1 October 2015 in the UK and will be applicable to all firms under Capital Requirements Directive IV (CRD IV). In November 2014 the PRA issued a consultation paper (CP27/14) to explain its proposed changes to the rules to align the existing liquidity regime with the Delegated Act. A policy statement inclusive of final rules will be published by the PRA in the second quarter of 2015.

In CP27/14 the PRA proposes that full implementation of the LCR is phased in as follows: 80% requirement from 1 October 2015; 90% requirement from 1 January 2017; and 100% requirement from 1 January 2018. The LCR applies to all European institutions in a standardised way and seeks to ensure the adequacy of a bank’s stock of unencumbered High Quality Liquid Assets (HQLA) – that is cash or assets that can be converted into cash at little or no loss of value in private markets to meet liquidity needs for a 30 calendar day liquidity stress scenario¹. Therefore, the LCR could fail to capture some firm’s specific liquidity risks and it does not provide any information on the adequacy of systems and processes for managing liquidity risk. For these reasons, institutions will be required to continue to comply with the PRA’s Overall Liquidity Adequacy Rule (OLAR) which demands banks to ensure that their liquidity and funding risks are comprehensively identified and managed.

In revising the approach to liquidity regulation, the PRA proposes to revoke its current Prudential sourcebook on Liquidity Standards for banks, building societies and investment firms (BIPRU 12). As a consequence, the simplified Individual Liquidity Assessment Standards regime and the standardised stress tests requirement outlined in BIPRU 12 will be switched off. The rules on OLAR, liquidity risk management, stress tests, Internal Liquidity Adequacy Assessment (ILAA) and asset encumbrance, which are included in BIPRU 12, will be addressed in the new part of the PRA’s Rulebook focused on liquidity. Existing individual liquidity guidance (ILGs) and liquidity add-ons that cover firm-specific risks will be maintained at the same absolute amounts as at 30 September 2015. They will be considered as interim Pillar 2 fixed add-ons until the PRA carries out an individual liquidity review of each firm. The Pillar 2 fixed add-ons should be covered by HQLA whose specific types are defined in Title II of the Delegated Act. Pre-positioned assets at the Bank of England not eligible for inclusion in the HQLA buffer cannot be used to comply with the PRA’s liquidity guidance.

In terms of reporting, the European Banking Authority (EBA) is currently revising the COREP LCR templates to implement the Delegated Act requirements. Tight deadlines might be faced in completing them. In the new liquidity regime, the PRA proposes that firms have systems and controls in place to submit all liquidity COREP returns daily in case of stressed conditions. In order to facilitate the supervision of liquidity, the PRA’s proposition is also to maintain the existing regulatory returns after the introduction of the full suite of COREP templates:

• FSA047 (daily flows) and FSA048 (enhanced mismatch) for up to two years; and
• FSA051 (wholesale funding) and FSA 053 (financial services compensation scheme coverage) for up to six months.

After the new regime is applied, the following waivers will cease to have effect:

• intragroup liquidity modification, which allows UK-incorporated, PRA-regulated firms to rely on liquidity support from elsewhere in their group;
• whole firm liquidity modification, which allows the UK branches of overseas banks to rely on available liquidity from elsewhere in the firm; and
• simplified ILAS waiver, which allows firms with relatively simple business plans to calculate the size and content of their liquid assets buffer with the simplified approach.

However, since the EU regulation on liquidity will apply from 1 October 2015, institutions that rely on the Intragroup Liquidity modification can apply for a similar permission under CRR Article 8 ².

Following the application of the LCR, the PRA will no longer be responsible for the supervision of branches of EU credit institutions. The proposal is to stop collecting liquidity reports in relation to these branches from 1 October 2015. It is also proposed that UK branches of third-country firms and of EEA firms with a head office outside the EU will report on liquidity on a whole firm basis. However, this will apply to them after a six-month transitional period from the introduction of COREP LCR returns. During the transitional period, they will be required to comply with the current regulatory requirements and to continue submitting their existing regulatory returns. 

The consultation period for CP27/14 ended in February 2015. Additional information will be provided once the final rules are published by the PRA.

^{1. The LCR is calculated as the ratio of the liquidity buffer (HQLA) and the net liquidity outflows over a 30  calendar day stress period.}

^{2. CRR Article 8 allows competent authorities to supervise an institution and all or some of its subsidiaries in the EU as a single liquidity sub-group under certain conditions.}