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ABI Summary on CEBS Consultation Paper CP11

Introduction

The Association of Italian Banks (ABI) has responded to the CEBS Consultation Paper on technical aspects of the management of interest rate risk arising from non-trading activities and concentration risk under the supervisory review process (Pillar 2). The consultation was initiated on 23 March 2006. ABI's comments aim to develop the Italian banking industry's position on the proposals outlined in the paper, based on member feedback, interbank working groups, and the European Banking Federation. The final comments were approved by ABI's Executive Committee and transmitted to supervisory authorities.

Core Content

The ABI comments focus on two main areas:

1. Interest Rate Risk in the Banking Book (IRRBB)
2. Concentration Risk

The comments emphasize the need for flexibility and alignment with best practices, while also highlighting concerns regarding the prescriptive nature of some guidelines and potential overlaps with stress testing.

Main Comments

2.1 Interest Rate Risk in the Banking Book (IRRBB)

• Emphasis on Internal Capital: ABI believes that IRBB-1 and IRBB-6 place undue emphasis on internal capital as a risk mitigation measure. Capital add-ons should be considered the last resort, not the primary tool, in managing interest rate risk.

• Alignment with Pillar 2: The treatment of IRRBB under Pillar 2 is appropriate, as it allows for a more tailored and strategic approach to risk management rather than setting rigid capital requirements under Pillar 1.

• Flexibility in Guidelines: ABI suggests that the technical issues listed in IRBB-4 should be treated as a guide rather than a prescriptive checklist. Each bank should be free to develop its own strategy based on its specific business needs.

• Stress Testing Concerns: ABI notes that the consultation paper overemphasizes the use of stress testing as a tool for managing IRRBB. Stress testing should not replace a higher-level approach to risk management. Also, the 200 basis points shock suggested by CEBS is seen as too severe and not in line with industry best practices.

• Need for Clarity on Capital Calculation: There is a call for more detailed guidance on how to calculate capital requirements (e.g., VAR/sensitivity) and for a clearer definition of the asset classes included in the banking book.

2.2 Concentration Risk

• Concerns with Prescriptive Limits: The term "appropriate limits" in concentration guideline no. 3 is seen as problematic, especially for specialized or local banks with already diversified portfolios. ABI suggests using the term "indicators" or "areas of concern" instead.

• Need for Customization: The guidelines should allow for a more flexible approach, taking into account the specific characteristics of different types of banks (e.g., universal, specialized, local, international). Supervisory authorities should not impose one-size-fits-all measures.

• Quantitative Indicators: ABI proposes extending the concentration measurement techniques to include an index that accounts for the contribution of large corporations or geo-sectoral clusters to portfolio concentration. This could also be used for calculating the regulatory capital buffer.

• Transparency in Evaluation: If quantitative indicators are to be used, supervisory authorities should provide detailed information to banks on the methodologies and threshold values (absolute and relative) used to determine high concentration risk. This would ensure transparency and allow for necessary adaptations.

• Rejection of Qualitative Criteria: ABI does not support the use of qualitative criteria, such as management expertise, in evaluating concentration risk. These are seen as subjective and not aligned with the need for objective, quantitative analysis.

• Risk-Adjusted Pricing: As an additional mitigation method, ABI proposes the use of risk-adjusted pricing, which would increase capital charges for exposures in concentrated areas, even if they have the same probability of default (PD) and loss given default (LGD) as non-concentrated exposures.

Conclusion

ABI advocates for a more flexible and tailored approach to managing interest rate risk and concentration risk, emphasizing the importance of internal risk management strategies and avoiding overly prescriptive guidelines. They also stress the need for greater transparency and alignment with industry best practices, particularly in the context of stress testing and the use of quantitative indicators.