From CRR2/CRDV to CRD6/CRR3 – What are the key differentiators?

In this blog post, we’ll go through the background of CRR/CRD legislation, what has changed over the years, and the key differences between CRR2/CRDV and CRD6/CRR3 legislation.

This is a follow-up article in a series of CRD6/CRR3-related articles. Our first article briefly recapped the CRD6/CRR3 legislation, where it comes from, and how it all started. Read the full article here.

Background of CRR/CRD regulatory framework

CRR/CRD regulation is an EU legislation comprising the Capital Requirements Regulation (CRR) and the Credit Requirements Directive (CRD).

The Capital Requirements Regulation (CRR) aims to prevent banks from becoming insolvent and ensure that banks are run prudently. Originally CRR was part of the Capital Requirements Directive, which reflected the Basel II and Basel III rules on capital measurement and capital standards. In 2013, following the financial crisis of 2007–2008, the Capital Requirements Regulation 2013 was introduced. These laws applied from Jan. 1, 2014. The Capital Requirements Regulation (CRR) CRR includes rules for calculating a bank’s own funds and prudential minimum requirements, leverage ratio, liquidity, large exposures, and rules on disclosure requirements. 

The Credit Requirements Directive (CRD) covers official supervision, sanctions, and reliable corporate governance requirements. The directive also includes additional capital requirements in the form of various buffers. CRD I was created in 2000 when several Banking Directives were replaced with one Banking Directive to improve the transparency and clarity of the EU legislation. In 2004, Basel II was adopted at the EU level and entered into force in 2006. CRD I was followed by CRD II in 2009 and CRD III in 2010, which included capital requirements for the trading book. In 2013, the CRD IV package entered into force.

The difference between these two legislations and how they are implemented is that The Capital Requirements Regulation (CRR) is directly applicable legislation, so it does not require national implementation, and the Credit Requirements Directive (CRD) is implemented through national legislation. 

CRR2 and CRDV legislations in a nutshell

CRR2 and CRDV were published and entered into force in July 2019. The implementation timeframe is complex; some deadlines were in 2020, and some were in 2021. In a nutshell, CRR2 and CRDV put into practice the Basel III improvements and improved the banks’ resilience. EU wanted to tailor Basel rules to European financial markets, and that’s why the EU has also deviated from the Basel rules. There are, for example, many changes to the NSFR and leverage rules to ensure that the role of banks in the economy is recognised, and covered bond funding is not disadvantaged. In addition to the Basel III rules, the legislation contains other changes, including a new authorisation and supervision regime for financial institutions.

The key points of the legislation:

• Binding NSFR: to address the excessive reliance on short-term wholesale funding and to reduce long-term funding risk
• Market Risk: New framework for reporting, including measures to ease reporting and disclosure requirements and to simplify rules related to market and liquidity risks for small and structurally simple banks
• Binding Leverage Ratio: to prevent institutions from excessive leverage
• New capital rules for derivatives and securities financing transactions

One aim of the legislation is to reduce the requirements and burden of small banks, which is why requirements are based on banks’ size and complexity. Larger, global, systematically essential banks have more strict rules for the requirements of their own funds and liabilities.

CRD6/CRR3 legislation in a nutshell

When Basel IV regulation was introduced, it was intended that banks needed to begin implementation on Jan. 1, 2022, and the regulations were supposed to be fully implemented by January 2025. Due to the global pandemic, the start date has now been pushed back to Jan. 1, 2023. European Union wanted to go further at a faster pace with related regulations. And as a result, on Oct. 27, 2021, the European Commission published its 2021 Banking Package, called the sixth Capital Requirements Directive and the third Capital Requirements Regulation, known as CRD6/CRR3. The package’s purpose is to strengthen banks’ resilience and prepare banks for the future. The goal is that EU banks become more resilient to potential future economic shocks while contributing to Europe’s recovery from the COVID-19 pandemic and the transition to climate neutrality.

The European Commission published a series of amendments to the EU Capital Requirements Regulation, the Capital Requirements Directive, and the Bank Recovery and Resolution Directive. These are now collectively known as CRD6/CRR3.

There are three parts to the package:

• Implementing the final Basel reforms (Basel 4/ Basel 3.1): strengthening resilience to economic shocks, at the same time, taking into account the specific features of the EU’s banking sector, for example, low-risk mortgages.
• Sustainability – contributing to the green transition. The new rules will require banks to identify, disclose and manage sustainability risks (environmental, social, and governance or ESG risks) as part of their risk management.
• Stronger supervision – ensuring sound management of EU banks and protecting financial stability

Summary – The main differences between CRR2/CRDV and CRD6/CRR3

The changes related to Covid: Even though the EU banking sector has been remarkably resilient over the pandemic crisis and banks entered the post-pandemic time in robust financial health. In the future, however, banks still need to cope with high uncertainty related to economic recovery. EU wants to ensure that banks continue to recover smoothly and address some issues identified after the financial crisis but not yet solved.

Strengthening the resilience of economic shocks: especially regarding low-risk mortgages. The new legislation aims to ensure that banks’ models to calculate clients’ capital requirements won’t underestimate risks by ensuring that the required capital covers risks enough. These rules will make comparing capital ratios across banks easier and make the entire banking sector more reliable.

Sustainability actions: environmental, social, and governance (ESG) risks are critical areas in the EU and its legislation. The aim is to improve banks to measure and manage ESG-related risks and make sure that what banks are doing is transparent. Banks must identify, disclose, and manage ESG-related risks as part of their overall risk management. These measures will make the banks more resilient and ensure sustainability considerations.

Stronger supervision: overall tools for supervisors are stronger to oversee banks. More substantial supervision will ensure more rational management of EU banks.

References:

https://eur-lex.europa.eu/legal-content/en/TXT/?uri=celex%3A32013R0575

https://ec.europa.eu/commission/presscorner/detail/en/MEMO_13_690

https://finance.ec.europa.eu/publications/banking-package_en

https://www.finanssivalvonta.fi/en/regulation/regulatory-framework/crrcrd/