EBA updates on the definition of a large decline of net interest income in relation to the interest rate risk in the banking book

The European Banking Authority (EBA) published today an Opinion in response to the EU Commission’s amendments relating to the draft Regulatory Technical Standards (RTS) on the supervisory outlier tests (SOT) specifying technical aspects of the revised framework on interest rate risks for banking book (IRRBB) positions. The EBA confirms its close scrutiny on the implementation of the IRRBB regulatory products and more generally on the impact of the evolving interest rates on the management of IRRBB by EU institutions and on other related prudential aspects.

On 14 March 2023, the European Commission informed the EBA of its intention to endorse with amendments the RTS on supervisory outlier tests with regard to what constitutes a large decline of the net interest income (NII).

The EBA shares the EU Commission’s views that in the current interest rate environment the shock scenarios might create challenges for supervisors and institutions in the appreciation of what constitutes a large decline of the NII. When publishing its final IRRBB regulatory package in October 2022, the EBA acknowledged the fact that the unprecedented interest rate risk environment justifies a close scrutiny around implementation and calibration aspects and a continuous dialogue with stakeholders.

In this regard, the EBA suggests amendments to its initial draft RTS to address the concerns expressed by the EU Commission and institutions. In particular, the Opinion proposes to retain the methodology for a large decline, as originally proposed by the EBA, but to amend the level of what constitutes a large decline, replacing the original level of 2,5% of Tier 1 Capital with a level of 5% of Tier 1 Capital in view of the current rate conditions.

In addition, the EBA stresses that the SOT NII should be understood as an additional metric for the supervisory review of the institutions’ exposures to IRRBB with no automaticity in the exercise of supervisory measures. In the same way, it is not expected that integrating this threshold in an institution’s internal systems would necessarily lead to mechanic recalibration actions.

The EBA current scrutiny plans on IRRBB will encompass reconsideration in the short term of the level of the threshold, which might need regular updates through time. In the longer term horizon, the EBA might undertake a revision of the methodology, depending on more experience to be gathered.

Finally, given the recent events and market turmoil, which are also related to IRRBB aspects, the EBA stresses the importance to adopt without delay the RTS, which are a crucial piece of the EU regulatory framework for the harmonised assessment and monitoring of exposures of EU institutions to IRRBB.

Legal basis and background

In October 2022, the EBA published the so-called ‘IRRBB package’, including a final draft RTS on IRRBB supervisory outlier tests (SOT), specifying the modelling and parametric assumptions and the supervisory shock scenarios that could trigger supervisory measures. In this context, the EBA proposed that a decline of an institution’s one-year net interest income by more than 2.5% of its Tier 1 Capital, resulting from a sudden and unexpected change in interest rates, constitutes a large decline of NII.