Market updates and sector developments

The PRA has published the first of two near-final policy statements covering the implementation of the Basel 3.1 standards for market risk, credit valuation adjustment risk, counterparty credit risk and operational risk. The near-final policy statement takes into account feedback received to the PRA’s consultation paper (CP) on the Basel 3.1 standards published in November 2022.

The PRA says it received 126 responses to the CP and had extensive engagement with interested parties during and after the consultation period. As a result, the authority has adjusted its original proposals in a range of areas to: amend the proposals where respondents provided evidence suggesting they did not appropriately and/or proportionately reflect risks; facilitate policy implementation where feedback suggested prudent but less burdensome alternative approaches were available; enhance the relative standing of the UK as a place for internationally active firms to operate; and improve the clarity of rules.

Among the most material of these adjustments is the removal of market risk internal modelling for the default risk of exposures to sovereigns, aligning the market risk and credit risk frameworks and addressing capital requirements for some sovereigns put forward under the original proposals. There is also added flexibility in the CVA risk framework through the introduction of an optional transitional arrangement to reduce the operational burden on firms.

In the CP, the PRA stated that when introducing Basel 3.1 it intended to avoid any potential double-counting of capital requirements with existing firm-specific Pillar 2 requirements. The policy statement reaffirms that intention and describe how the authority will approach it in practice by prioritising adjusting firm-specific Pillar 2 capital ahead of implementation in July 2025.

Based on its latest data, the PRA estimates that the impact of Basel 3.1 requirements will be low and result in an average increase in Tier 1 capital requirements for UK firms of around 3% once fully phased in (in 2030). This is lower than the EBA’s estimate of a Tier 1 increase of around 10% in the EU and the US agencies’ estimate of a CET 1 increase of around 16% for US firms.

The near-final rules aim to narrow the gap between the risk weights calculated under internal models and the standardised approaches, while supporting international competitiveness by aligning with international standards. They also seek to make capital ratios more consistent and comparable.

The PRA intends to publish its second near-final policy statement in 2Q24 on the remaining elements of the Basel 3.1 package, which includes credit risk, the output floor, reporting and disclosure requirements. The timeline for Basel 3.1 standards implementation is on 1 July 2025, with a 4.5-year transitional period ending on 1 January 2030.