ECB praised for pragmatic approach to leverage ratio
18 September 2020 Frankfurt
Image: ilolab / Adobestock.com
The removal of some central bank exposures from euro area banks’ leverage ratios is “unsurprising” and “a logical move,” says Scope Ratings, a German-based rating agency.
Earlier this week, the European Central Bank (ECB) confirmed it would tweak the ratio — which measures banks’ ability to meet their financial obligations — in response to “exceptional circumstances” brought on by COVID-19 pandemic.
The temporary measure was aimed at easing implementation of euro area monetary policy.
The move brings euro area banks into line with the UK and Switzerland, where central bank deposits are exempt until 1 January 2021.
Based on end-March data, the exclusion would raise the aggregate leverage ratio of 5.36 percent by about 0.3 percentage points.
Commenting on the move, Marco Troiano, deputy head of the financial institutions team at Scope Ratings, says: “In the circumstances, having the principal supervisor for the euro area’s largest banks declare exceptional circumstances to enact this measure was unsurprising.”
Between the pandemic emergency purchase programme and the latest targeted longer-term refinancing operations round, the amount of excess liquidity in the system has ballooned, as has the use by banks of the ECB deposit facility, Scope explains.
This excess liquidity ends up being parked with the central banks.
“The leverage ratio is meant to be a non-risk-based backstop to bank solvency to allay concerns that banks optimising their use of risk models may lead to insufficient capital. Arguing that a bank deposit at the central bank is risk free is hardly a stretch,” Troiano continues.
The ECB’s move is a positive step, Troiano argues, as euro area banks, including the large investment banks in France and Germany, are seen as lagging US peers on this metric, even if the numbers require interpretation.
Of the difference in the application of leverage ratios on either side of the Atlantic, Dierk Brandenburg, head of the financial institutions team at Scope, points to a lack of proper risk calibration. “The gap demonstrates that as relevant as the ratios might be for investment banks with large trading and derivatives books, they do not otherwise differentiate for risk.”
Earlier this week, the European Central Bank (ECB) confirmed it would tweak the ratio — which measures banks’ ability to meet their financial obligations — in response to “exceptional circumstances” brought on by COVID-19 pandemic.
The temporary measure was aimed at easing implementation of euro area monetary policy.
The move brings euro area banks into line with the UK and Switzerland, where central bank deposits are exempt until 1 January 2021.
Based on end-March data, the exclusion would raise the aggregate leverage ratio of 5.36 percent by about 0.3 percentage points.
Commenting on the move, Marco Troiano, deputy head of the financial institutions team at Scope Ratings, says: “In the circumstances, having the principal supervisor for the euro area’s largest banks declare exceptional circumstances to enact this measure was unsurprising.”
Between the pandemic emergency purchase programme and the latest targeted longer-term refinancing operations round, the amount of excess liquidity in the system has ballooned, as has the use by banks of the ECB deposit facility, Scope explains.
This excess liquidity ends up being parked with the central banks.
“The leverage ratio is meant to be a non-risk-based backstop to bank solvency to allay concerns that banks optimising their use of risk models may lead to insufficient capital. Arguing that a bank deposit at the central bank is risk free is hardly a stretch,” Troiano continues.
The ECB’s move is a positive step, Troiano argues, as euro area banks, including the large investment banks in France and Germany, are seen as lagging US peers on this metric, even if the numbers require interpretation.
Of the difference in the application of leverage ratios on either side of the Atlantic, Dierk Brandenburg, head of the financial institutions team at Scope, points to a lack of proper risk calibration. “The gap demonstrates that as relevant as the ratios might be for investment banks with large trading and derivatives books, they do not otherwise differentiate for risk.”
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