EU banks poised to win break on capital rule for derivatives

European Union banks are set to win a major reprieve from capital regulations in a victory for their argument that the restrictions would punish their ability to handle clients’ derivatives trades.
In legislation to be released as early as next month, the European Commission plans to include a measure that will cut the capital banks need when they receive collateral from clients for trades settled at clearinghouses, according to a commission document summarising the proposal seen by Bloomberg. Without the change, the cost of the additional capital needed to meet the rules would have been passed on to clients, according to the industry.
The change, among the derivatives industry’s top lobbying priorities, is necessary “not to dis-incentivise client clearing by institutions,” according to the document. Pushing derivative trades into clearinghouses – institutions that stand between the two parties to a transaction – was a major goal of regulators to reduce risk in the multi trillion dollar derivatives market after the 2008 financial crisis.
The shift would be one part of a year-long EU effort to revise its capital standards in a bid to kick-start the anaemic economy by softening the impact of regulations on the bloc’s banks. The package is set to include the EU’s approach to implementing global restrictions on banks’ leverage, long-term funding and risks stemming from sudden market-price moves.
A spokeswoman for the commission had no immediate comment.
Capital standards are international and are laid out by the Basel Committee on Banking Supervision, whose members include the US Federal Reserve and the European Central Bank. They must then be enacted by national authorities.
The leverage regulation requires banks to have at least 3% of capital against their assets. The Basel Committee is considering whether to impose tougher constraints on globally-systemic banks. The EU will debate including any stronger version after the committee decides, according to the document.
As currently written by the committee, the rule forces derivatives dealers to include the collateral they receive from clients, and which is held in segregated accounts, when adding up their total exposure to assets. As a result, banks must have more capital to handle the transactions.
Since the standard was originally laid out, the Futures Industry Association, which represents banks such as Goldman Sachs Group, Barclays and Credit Suisse Group, has fought for a change in the regulation. Executives from the world’s biggest clearinghouses, including those owned by CME Group and London Stock Exchange Group, also have pushed for a change, alongside lobbying groups for mutual funds and large agricultural and energy traders.
Under the planned EU legislation, “institutions are allowed to reduce the exposure measure by the initial margin received from clients for derivatives cleared” through qualified clearinghouses, according to the document.
The FIA told the Basel Committee in July that the recognition of initial margin is essential to encourage banks to continue clearing exchange-traded and over-the-counter derivatives.
The association surveyed 14 major derivatives dealers and found that their aggregate leverage exposure would about 80% higher if initial margin isn’t recognised. That translates into tens of billions of dollars of additional exposure that banks would need extra capital to support.
The Basel Committee and US regulators have also debated whether to make the same change as the EU authorities plan.
The commission plans additional adjustments to the leverage ratio because, as written, it “would constrain certain business models and lines of business more than others,” according to the document. The planned adjustments would allow banks to reduce their leverage ratio exposures for public lending by development banks, officially guaranteed export credits and pass-through loans, according to the document.