Enter to open, tab to navigate, enter to select
The Basel III Framework – knocking on Australia's door
Practical Law Legal Update 2-505-9904 (Approx. 3 pages)
The Basel III Framework – knocking on Australia's door
by Stephen Clugston and John Elias, Minter Ellison
| Published on 05 May 2011 • Australia |
This article is part of the PLC Global Finance April 2011 e-mail update for Australia.
Speedread
This article considers various measures that will be implemented in Australia to give effect to the Basel III Framework.
The Basel Committee on Banking Supervision (Basel Committee) has issued comprehensive banking reform measures known as the Basel III Framework (Framework). This is in response to the ongoing debate on the regulation of banking practices in the wake of the global financial crisis. The Framework, released on 16 December 2010, aims to improve the banking sector's ability to absorb shock from financial and economic stress, improve risk management and governance, and strengthen bank transparency and disclosure.
The key features of the Framework are two minimum global liquidity standards, aimed at ensuring banks have an adequate liquidity buffer to absorb liquidity stress:
- The Liquidity Coverage Ratio (LCR) is aimed at promoting short-term resilience of the bank liquidity risk by ensuring that it has sufficiently high-quality liquid assets to survive a liquidity stress lasting for 30 days.
- The Net Stable Funding Ratio (NSFR), a test applied over a period of one year, is aimed at promoting resilience over longer periods by creating further incentives for banks to fund their activities on an ongoing basis, using more stable funds.
The LCR and NSFR requirements come into effect in 2015 and 2018 respectively.
Australia's response to the Basel III Framework
On 17 December 2010, the Australian Prudential Regulation Authority (APRA) and the Reserve Bank of Australia (RBA), issued a joint media release in response to the Framework. In particular, APRA and the RBA observed a limited supply of government securities and a shortage of second level eligible liquid assets including non-bank corporate debt.
To meet the Framework's prescribed global liquidity standard, APRA and the RBA noted that an authorised deposit-taking institution (ADI) will be able to establish a committed secured liquidity facility with the RBA, sufficient in size to cover shortfall amounts between ADI holdings of high-quality liquid assets and prescribed LCR requirements.
Clarifying APRA's response to the Basel III Framework
On 28 February 2011, APRA clarified the treatment of high-quality liquid assets it will apply, when implementing the Basel Committee's global liquidity standards. APRA noted that the Basel Committee defines high-quality liquid assets as:
- Level 1 assets limited to cash, central bank reserves and highest-quality sovereign or quasi-sovereign marketable instrument of undoubted liquidity, even during stressed market conditions; and
- Level 2 assets (comprising no more than 40% of the total stock) limited to certain other sovereign or quasi-sovereign marketable instruments, as well as certain corporate bonds and covered bonds that have a proven record as a reliable source of liquidity even during stressed market conditions.
In particular, APRA noted that as at 28 February 2011, there were no assets that qualified as Level 2 assets.
Reactions to APRA and Basel III
During the lead up to 2015, the scope of Level 1 assets may expand and further instruments may become eligible as Level 2 assets. APRA's statement on 28 February 2011 was nevertheless a surprise.
This is particularly in light of APRA's active role in facilitating the introduction of covered bonds - an exposure draft of the Banking Amendment (Covered Bonds) Bill 2011 (which is intended to formally introduce covered bonds into the Australian market) was released on 24 March 2011 with an invitation for submissions (see Legal update, Covered bonds for Australia). It is possible that APRA is waiting for the 'proven record as a reliable source of liquidity' to emerge, prior to qualifying covered bonds as Level 2 assets. It is unclear at this stage, whether an Australian covered bond market will satisfy this requirement, and if so, when.
Likewise, the exclusion by APRA of Australian dollar denominated debt securities issued by overseas borrowers (also known as 'kangaroo bonds'), was met with surprise. Demand for kangaroo bonds over the last year (according to Bloomberg) rose on the anticipation that these would meet global capital requirements. While the long-term impact on demand for kangaroo bonds is yet to be seen, it is unlikely that yields will respond positively to APRA's announcement.