The European Banking Authority (EBA) launched today two consultations on draft regulatory technical standards (RTS) specifying an economic downturn and on a set of Guidelines related to the estimation of loss given default (LGD) appropriate for conditions of an economic downturn. The draft RTS specify the nature, severity and duration of an economic downturn, while the Guidelines focus on the appropriate estimation of the LGD in a situation of economic downturn. This package is part of the EBA's broader work on the review of the IRB approach aiming at reducing the unjustified variability in the outcomes of internal models, while preserving the risk sensitivity of capital requirements. The consultations run until 22 June 2018.
Based on the feedback received in the first consultation, which took place on 1 March 2017, these draft RTS now focus solely on the identification approach. To this end, the draft RTS require institutions to consider relevant macroeconomic and credit factors when specifying the nature of an economic downturn. In particular, the severity and duration of an economic downturn should be specified taking into account the time series for the identified relevant macroeconomic and credit factors.
The draft Guidelines has been developed to supplement the RTS and clarify how institutions should quantify LGD estimates appropriate for an economic downturn identified according to the draft RTS. To this end, the draft Guidelines focus on the methods institutions should use to quantify downturn LGD estimates. Several approaches are allowed and will be driven by the availability of loss data for the estimations. In situations with limited data availability, more prescriptive approaches are applied.
The RTS and the Guidelines together harmonise the modelling approach and, therefore, aim at creating a more level playing field across IRB institutions in this area. Specifically, the RTS ensure that an economic downturn for comparable portfolios are subject to the same economic downturn and the Guidelines provide guidance on downturn LGD estimation taking into account the specificities of the institutions' processes, underwriting standards and general response to adverse economic conditions. The approach followed in drafting the RTS and the Guidelines ensures the application of harmonised identification and LGD estimation methods.
Comments to these consultations can be sent to the EBA by clicking on the "send your comments" button on the consultation page. Please note that the deadline for the submission of comments is 22 June 2018.
All contributions received will be published following the close of the consultation, unless requested otherwise. A public hearing and workshop will then take place at the EBA premises on 1 June from 11:00 to 13:00 UK time.
Legal basis and next steps
The draft RTS have been developed in accordance with Articles 181 (3)(a) and 182 (4)(a) of the Capital Requirements Regulation (CRR), which mandate the EBA to draft regulatory technical standards to specify the nature, severity and duration of an economic downturn referred to in paragraphs 181 (1)(b) and 182(1)(b).
The EBA has developed the draft Guidelines on its own initiative, in accordance with Article 16 of its founding Regulation, which mandates the Authority to issue guidelines and recommendations addressed to competent authorities or financial institutions with a view to establishing consistent, efficient and effective supervisory practices within the ESFS, and to ensuring the common, uniform and consistent application of Union law.
The draft Guidelines will be included in the EBA Guidelines on PD, LGD estimation and treatment of defaulted assets published on 20 November 2017.