In September 2008, the world’s economy experienced a severe downturn due to the stock market crash led by the failure of major companies on Wall Street, including Lehmann Brothers. The bankruptcy by Lehmann Brothers and near collapse of other major companies such as AIG, Bear Stearns and JPMorgan Chase was caused, amongst other things, by the banks and insurance companies speculation on sophisticated but risky financial derivatives. During this period, the phrase “too big to fail” was popularised, alluding to the fact that some companies were so intrinsically wired into the global economy that their failure would worsen the financial collapse even further. Indeed, this concept was the basis for the bailout of these companies by the US Federal Reserve. As a result of this bank-led financial collapse, the Basel Committee on Banking Supervision issued Basel III, an internationally agreed set of measures aimed to strengthen the regulation, supervision and risk management for banks. In a nutshell, this new framework was aimed at curbing the banks’ appetite for more risky financial products by requiring them to hold higher levels of capital, which would cushion them during periods of stress. The National Bank of Rwanda (“Central Bank”), with a view to implementing Basel III standards, introduced the idea of “too big to fail” in Regulation n° 06/2017 of 19/05/2017 on capital requirements for banks (the “Regulation”). In article 2.19 of the Regulation, a Systemically Important Bank (“SiB”) is defined as “a bank whose failure might trigger a financial disruption within the financial system”. This is in relation to a disruption within the local financial system, therefore the term Domestic Systemically Important Bank is a more correct term (hereinafter a “D-SiB”). Any bank considered to be a D-SiB would be subject to more rigorous regulatory oversight and higher capital requirements, as provided for in article 26 of the Regulation where it states that “in addition to the minimum capital adequacy ratios and the capital conservation buffer [extra cash buffer for losses during periods of financial and economic stress], a systemic risk buffer applies to banks that have been identified by the Central Bank as “systemically important”. On January 4th 2019, the Central Bank published the D-SiB Framework. This framework discusses the analytical basis for identifying and benchmarking D-SiBs, the concepts underlying the D-SiB’s definition and, finally, puts in place requirements to identify D-SiBs. Of particular importance is the regulatory impact this framework will have on the banks once implemented. The Central Bank uses the indicator-based measurement approach which considers five indicators (a bucket), as described by the Basel Committee on Banking Supervision: size, interconnectedness, substitutability, complexity and cross-jurisdictional activities. Each bucket carries a percentage-based weight allocation, with the bank’s size being allocated 35%, interconnectedness 20%, substitutability and complexity attracting 20% each and the remaining 5% for cross-jurisdictional activities. The aggregate score of each bank is assessed against the specified cut-off threshold, above which all banks will be treated as a D-SiBs. For a bank to be considered a D-SiB, its cumulative score against the above criteria should be at least 8%. This percentage is related to the specific banks market share within the banking industry. Once a bank is considered as a D-SiB, the bank shall remain as such for a period of three years. During these three years, D-SiBs would be required to meet the following specific requirements: · Capital adequacy ratio – banks designated as D-SiBs are required to set aside a systemic risk buffer in addition to the 15% required by all banks. · Liquidity ratio requirements may be adjusted depending on the liquidity conditions in the market. · D-SiBs would be required to carry out stress tests on their capital on a quarterly basis and submit such results to the Central Bank for review and assessment. · D-SiBs may be required to place specific limits on counterparties’ relationships and on large exposure. · There will be a higher frequency and intensity of on-site and off-site supervision of D-SiBs. · D-SiBs may be required to develop specific resolution plan that shall be submitted to the Central Bank It is not clear how the Central Bank will treat the liquidity ratio requirements and limits on counterparties’ relationships for D-SiBs or in what manner it will be different to how banks not considered as D-SiBs are currently treated. It is however clear that the Central Bank will considerably place more oversight on these banks, with greater frequency and intensity of on-site and off-site supervision. According to the D-SiB Framework, the Central Bank is to publish the list of SiBs by June of each, together with the cut-off scores reached by applying the aforementioned methodology. At the time of publishing this article, the Central Bank is yet to issue any list of D-SiBs. The views expressed in this article are of the author and do not constitute legal advice. Please seek professional advice in relation to any particular matter you may have. The writer is an associate at ENSafrica Rwanda specialising in banking and finance and payment services.
