Bank Recovery and Resolution Directive (BRRD), one of the components of the EU Banking Package, which was published in the Official Journal of the EU on 7 June 2018 will need to be transposed into EU Member State national legislations by 28 December 2020.
The key rule introduced under the BRRD is the requirement for the EU banks to meet a minimum requirement for own funds and eligible liabilities (‘MREL’) to ensure an effective and credible application of the ‘bail-in’ tool. More specifically, the BRRD requires
the individual MREL targets for each bank to be set taking into account factors such as the firm’s balance sheet size, business and funding models, risk profile and resolution strategy. It requires banks to comply with the MREL requirement at all times by
holding easily 'bail-inable’ instruments.
In addition, Article 45i of the Directive - ‘supervisory reporting and public disclosure’ requires banks to make specific MREL information publicly available on at least an annual basis. This disclosure requirement is subject to controversy.
In principle, MREL could be considered ‘material information’ for the market, and should be disclosed, where possible, to increase market transparency and efficiency. But disclosing MREL figures may lead to some undesired consequences. This is because market
participants may not be in a position to interpret firm-specific MREL figures accurately.
The calibration of MREL is linked to prudential requirements as some of its components refer to Pillar I, Pillar II, and prudential buffer requirements. But most stakeholders may not be able to understand how an MREL shortfall would differ from a capital
shortfall: When a bank faces a capital shortfall, this is usually interpreted as an increased likelihood of failure. But, this is not necessarily the case with MREL. An MREL shortfall does not necessarily imply that the bank in question is failing or likely
MREL should be interpreted as a regulatory measure which helps regulators to ensure that the implementation of the bank-specific resolution strategy is credible and feasible. Sometimes even adequately capitalised banks meeting all their prudential requirements
may be required by their respective resolution authorities to hold an additional amount of MREL liabilities in the form of own funds or eligible liabilities in order to ensure that the implementation of their firm-specific resolution strategy is credible.
Accordingly, individual MREL targets could be adjusted following changes in supervisory decisions and outcomes of the resolution authority’s assessment and applicable MREL policy.
So while there is value in disclosing the MREL targets in terms of incentivising banks to improve their resolvability, the potential risks of full disclosure may exceed its potential benefits as misinterpretation of the MREL figures by stakeholders could
lead them to making ill-informed investment decisions.
Furthermore, disclosure of these numbers would not necessarily improve transparency or comparability. MREL figures are not necessarily relevant in terms of facilitating comparability across different banks. Bank-specific MREL targets are determined on a
case-by-case basis and depend heavily on the each bank’s preferred resolution strategy. The ultimate question is whether holding back MREL information could have any material impact on investors’ decision-making across different firms.
While more transparency is desirable when it comes to firm-specific financial information, it is arguable whether disclosure of MREL would bring any benefits to markets or if it would cause undue confusion. MREL figures are unlikely to improve comparability
across firms or markets. This is because those figures cannot be interpreted accurately without taking into account firm-specific circumstances and Pillar 3 disclosures. In the absence of any additional information or accompanying explanation, MREL figures
are not likely to contribute to comparability across different firms. Disclosure of MREL figures may cause confusion in terms of making a comparison across multiple banks. Any comparison between two different entities based on these figures would be irrelevant
as each MREL figure starts from a common methodology but is tailored to each bank depending on their resolvability.
So, disclosing MREL targets is unlikely to facilitate comparison across different reporting periods either. At the very best, it could be argued that disclosure of MREL targets should be optional. Accordingly, the EU Single Resolution Board’s (SRB) MREL
Policy of 20 December 2017 neit her required nor advised banks on whether to disclose the SRB’s decisions on MREL or any other related information. The Policy left it to each firm to determine if any MREL information should be disclosed. But this approach
could also potentially lead to undesirable consequences as leaving the decision to banks would put undue pressure on the senior management that may chose not to disclose these figures. When things go wrong senior management in these banks might be accused
of withholding material financial information from their stakeholders. It could also lead to undue uncertainty and confusion in financial markets.
The final text of the BRRD has already been published but it remains too early to comment on the impact of the MREL disclosure requirement on financial markets until banks begin to implement the new regime. The onus is now on the European Banking Authority
to develop draft implementing technical standards to specify uniform reporting templates, instructions and the methodology on how to use the templates by 28 June 2020.
While the decision of disclosure is subject to controversy, well-designed and uniform reporting and disclosure templates coupled with clear guidelines and instructions may eliminate some of the undesirable outcomes of the MREL disclosure requirements. In
the meantime firms should take steps to ensure they will be able to comply with the requirements of the new regime when it takes effect on 28 December 2020.
Disclaimer: The views and opinions expressed in this blog are those of the author and do not necessarily reflect the official views and opinions of PwC.