REFILE-EU banking watchdog to tackle risk pricing variations

Wed Dec 18, 2013 12:43pm EST

* Watchdog to start questioning risk weight variations

* Supervisors, banks will have to justify differences

* EBA to issue new rules in 2014, more may be needed

By Huw Jones

LONDON, Dec 18 (Reuters) - The European Union's banking watchdog is to meet national supervisors, in an attempt to iron out wide differences in how banks price risk and end any competitive advantage some may gain from having less rigorous in-house systems.

Announcing plans for the meeting, the European Banking Authority (EBA) on Wednesday published several reports highlighting wide variations in how banks across the 28-country bloc assess the risks on their books, giving it ammunition to take action in the course of next year.

The findings are also being passed on to the EU's executive, the European Commission, which has powers to draft new laws.

Some U.S. banks have accused their EU-based rivals of "gaming" the way they assign a risk-weighting to the derivatives, bonds and other assets they hold.

The weightings are translated, using in-house computer models at banks, into how much capital the lender must hold in case the assets turn sour.

"On the basis of data collected form EU supervisors, the EBA noticed divergences in terms of how regulatory frameworks are implemented at the national level," the EBA said in a statement.

"Some aspects were identified that may require additional work to ensure better harmonisation of supervisory practices across the EU."

Wide variations are not limited to the EU and the Basel Committee of banking supervisors on Tuesday published its latest report confirming differences.

Armed with the data, the EBA will use its powers to ask national supervisors to justify instances where the risk weightings they approved differ significantly from more typical levels across the EU.

PRICING RISKS

This work is expected to start immediately while the EBA fleshes out new rules in 2014 for supervisors and banks to apply risk weightings more consistently through the use of benchmarking, with improvements expected from 2015 onwards.

EU banks may have to use the same template for pricing risks, for example.

The EBA is so far resisting the more drastic action some regulators are considering as evidence mounts regarding the huge difference in pricing of risk.

The Bank of England is studying whether to force big UK lenders that use in-house computer models to also use a common, standardised method and report both.

BoE policymakers have also hinted at imposing "floors" to stop capital levels going below a certain amount, irrespective of what a bank's in-house model says.

EBA has found it difficult to ascertain whether differences are due to gaming by banks or a lack of consistency among supervisors.

Furthermore, most of the different types of risk weightings are not even covered by binding national or EU rules, although this will change as the watchdog fleshes out mandates for new rules next year to plug gaps that have driven the variations.

"However not all the drivers are sufficiently covered by these mandates, therefore additional work seems necessary on a limited list of drivers," the EBA said.

The biggest variations were in pricing market risks, with around 30 percent of the differences observed for individual portfolios and up to 50 percent for aggregated ones.

These differences could be driven by modelling options that have been explicitly provided for in the rules banks use, the EBA said.

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