UK Basel 3.1: Credit risk standardised approach – exposures to institutions
On 12 September 2024, the Prudential Regulation Authority (PRA) published the second part of its near-final rules on the implementation of Basel 3.1 standards through Policy Statement 9/24 (PS9/24) which offers feedback on the responses received on Consultation Paper 16/22 (CP16/22) published on 30 November 2022.
PS9/24 covers inter alia the near-final rules on credit risk, disclosures, and reporting as well as minor clarifications and corrections to the previous near-final rules published within PS17/23. The implementation date for Basel 3.1 standards has also been postponed to 1 January 2026.
A summary of the changes relating to ‘exposures to institutions’ under the credit risk standardised approach is provided below.
Key changes to exposures to institutions, under the standardised approach, include:
A reduced risk weight of 30% (currently 50%) has been introduced for Credit Quality Step (CQS) 2 rated institutions.
Reference maturity changed from ‘residual’ to ‘original’ maturity.
Due diligence^ requirements are added to ensure external rating prudently reflects the creditworthiness of institutions, if not, at least one step higher risk weight is to be applied.
A new more risk-sensitive approach^^ has been introduced to assign risk weight for unrated exposures to institutions.
The following two conditions are removed:
exposures to institutions of a residual maturity of three months or less that are denominated and funded in the national currency of the borrower shall be assigned a risk weight that is one category less favourable than the preferential risk weight assigned to exposures to the central government; and
no exposures with a residual maturity of three months or less that are denominated and funded in the national currency of the borrower shall be assigned a risk weight of less than 20%.
A summary of the revised classifications and applicable risk weights is given below:
* The risk weight for an unrated institution must match its home government’s if the exposure isn't in local currency or isn't a short-term, trade-related item.
** A risk weight of 30% may be assigned if a the exposure is Grade A and the Common Equity Tier 1 Ratio >= 14%, and a Leverage Ratio >= 5%.
Existing and revised risk weights
* Or, an original maturity of 6 months or less and arose from the movement of goods, including within the UK
^ As explained in the ‘exposures to corporates’ section.
^^ Exposures to unrated institutions shall be classified into Grade A, Grade B or Grade C as given below:
Grade A
Repayment capacity - ability is robust against adverse changes in the economic cycle and business conditions, and
meet or exceed the minimum financial regulatory requirements (Pillar 1 & Pillar 2A) and buffers (combined buffer & the counter-cyclical leverage ratio buffer, if applicable)
Grade B
Repayment capacity is dependent on stable or favourable economic or business conditions, and
meet or exceed the minimum financial regulatory requirements (excluding buffers)
Grade C
Material default risks observed, or
does not meet the criteria for being classified as Grade B with respect to minimum regulatory requirements, or
the external auditor has issued an adverse audit opinion or has expressed substantial doubt about the ability to continue as a going concern.
Note: Risk weights assigned to unrated institutions cannot be less than the risk weight applicable to the central government where the unrated institution is incorporated, if:
the exposure is not in the local currency of the jurisdiction of the debtor institution (e.g., a US Dollar placement with a bank incorporated in China); and
the exposure is not a self-liquidating, trade-related contingent item arising from the movement of goods with an original maturity of less than one year
How We Can Help
Banks may face a variety of challenges when preparing for Basel 3.1. At Katalysys, we have a deep understanding of prudential regulatory requirements both from the perspective of rules and practical implementation. Our team is already supporting a range of clients in this area, and includes:
Workshops or training to cover new requirements.
Gap and impact analyses.
Guidance on implementing industry best-practice in relation to the Basel 3.1 standards.
Documenting or updating assumptions and interpretations in regulatory reporting.
Preparation of regulatory reporting policies and procedure notes.
Validation of the system outputs and calculations.
Review of regulatory returns, including post-implementation of Basel 3.1 changes.
For more information, please contact:
Josh Nowak
Managing Director, Risk & Regulatory Consulting
T: +44 (0)7587 720 988
Manish Patidar
Director, Regulatory Consulting
T: +44 (0)7766 001 643