The Final Basel III Standard from December 2017 sets out revised international standards for banking regulation. The European Commission has recently published a proposal, outlining how the reform could be implemented in a European context. Here, the concept of an output floor is introduced, impacting the minimum level of capital that banks are required to hold for each type of asset. The motivation behind this is to create a backstop for excessively low modelled capital requirements.
Implementing the output floor according to the proposal will de facto entail a significant increase in capital requirements for low-risk assets, such as the Danish mortgage portfolio. Further, banks bound by the output floor will lose the risk sensitivity of their capital requirements as underlying risks of assets are no longer reflected.
If the reform is implemented according to the EU Commissions proposal, we find that:
Making the temporary exemptions permanent, i.e., the application of lower RW’s to the residential real estate portfolio could neutralise the effect from the output floor, resulting in much smaller increases in capital requirements for countries with low-risk portfolios like Denmark, thereby leading to a uniform impact across Europe.
The study has been commissioned by Finance Denmark.Download