Finance Watch response to FSB’s consultation on Adequacy of Loss-Absorbing Capacity of Global Systemically Important Banks in resolution
Key points include:
- TLAC is based on an assumption that critical banking functions are identified and structured in a way that allows appropriate loss absorbency distribution, but this assumption will not hold for European G-SIB’s with complex structures and activities hence ex ante structural reform is also needed,
- Risk Weighted Assets are not the best predictor of G-SIB resilience. We welcome the idea of a loss absorbency requirement based on the leverage ratio, which is not dependent on risk weights and internal models, however basing the TLAC requirement on a combination of RWA and leverage might distort incentives, so there is a need to keep the Basel I floor and to effectively benchmark the internal models against a standard portfolio,
- There is a general concern that basing the loss absorbency concept on debt might in effect replace implicit subsidies with expectations that banks will be ‘bailed out’ by creditors (by parent entity’s creditors in case of Single Point of Entry strategy). As long as market confidence remains, the G-SIB’s will have an incentive to take on more risks. When the first G-SIB instruments are bailed-in and market confidence in them disappears, the effectiveness of TLAC instruments will evaporate.
- Without addressing the macroprudential issues, the TLAC proposal is unlikely to succeed in a case of G-SIB’s joint defaults. Therefore there is a need to address the G-SIBs’ contribution to systemic risk resulting from their balance sheet correlation and procyclical leverage creation.