The Group of Governors and Heads of Supervision (the “GHOS”) of the Basel Committee on Banking Supervision (the “Basel Committee”) announced its adoption of certain substantial revisions (the “Revisions”) to the Liquidity Coverage Ratio (the “LCR”) included in the Basel Committee’s Basel III liquidity framework. The GHOS also announced that banks would have additional time to satisfy the new liquidity requirements.
Basel III defines the LCR as the ratio of the “stock of high-quality liquid assets” to “total net cash outflows over the next 30 calendar days.” The minimum LCR is 100%. The minimum LCR is intended to ensure that banks have sufficient unencumbered high-quality liquid assets and overall liquidity to remain in a safe and sound condition even in times of severe financial stress. The GHOS provided a summary description of the LCR as well as a listing of the agreed Revisions to the formulation of the LCR.
Prior to the Revisions, high quality liquid assets were limited to cash and governmental bonds. The Revisions expand the range of eligible assets under the LCR to include highly-rated residential mortgage-backed securities and certain unencumbered equities, as well as certain corporate debt securities. All these newly eligible assets will be subject to valuation haircuts, and, in the aggregate, these newly eligible assets may not exceed 15% of a bank’s total qualifying LCR assets.
The Revisions also modify (in a manner that facilitates banks’ ability to comply) the assumptions banks must make regarding the severity of the financial crisis for which they would be required to have sufficient liquidity. Under the Revisions, for example, banks must assume that, in a theoretical 30-day crisis, they would see 3% of their retail deposits vanish. Prior to the Revisions banks were to assume that 5% of their retail deposits would leave the bank. Banks are also required to assume that corporate clients would draw down credit lines by 30% in a crisis. Prior to the Revisions, banks were required to assume that corporate clients would draw 100% of available lines in a crisis.
The GHOS also announced that the Revisions would grant banks four additional years (until 2019) to satisfy fully the new liquidity requirements. Banks will be required to have a minimum LCR of 60% on January 1, 2015 with the ratio increasing by 10% in each of the following years until the 100% minimum LCR requirement is reached on January 1, 2019.