08 July 2016

EBF response to the BCBS consultation on the revision to the Basel III leverage ratio framework

Unfortunately, in light of certain conceptual flaws in the leverage ratio, very few demonstrations have been convincingly made of its ability to maintain the leverage of the economy within a range compatible with financial stability, in particular in jurisdictions where it has been in force for many years (including pre-crisis) such as the US. Consequently, European Banking Federation (EBF) considers that the leverage ratio must remain a backstop measure.

The usage and application of the leverage ratio should always take into account the banking business mix, the structure of the financial markets concerned, the level of intermediation and the existence of actors absorbing part of banks’ off-balance sheets. It needs therefore to be carefully interpreted by local regulators and supervisors, as well as by the Basel Committee in conjunction with other indicators before any conclusion can be drawn and the constituent parts of the test agreed.

For this reason, EBF believes that the “crude and neutral” proposed definition that has been proposed should only be conceived as an ultimate safety net as, unless it is read in conjunction with other key risk indicators, it can be misinterpreted and in the end be completely misleading for the market. Taming excessive leverage may be legitimate in certain circumstances but cannot be achieved solely through a single banking ratio. Such a leverage ratio could be harmful when combined with the already agreed solvency and liquidity ratios as it will create conflicting pressures to reduce balance sheets (especially in relation to inter-bank money markets and repos which combine high volumes and low risks). It also risks generating a counterproductive pressure that would lower lending capacity and may therefore be harmful to the real economy, especially if a leverage ratio of more than 3% was to be proposed by the Basel Committee.

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