CRR III – the new CRSA

A final version of the revised CRR¹ has been available since December 4, 2023 and is now going through the formal approval process. It is therefore time to take a closer look at the serious changes to the Credit Risk Standardized Approach (CRSA), which will affect all credit institutions and all risk types from January 1, 2025.

Foreseeable regulatory changes must be taken into account in capital planning at an early stage! In future, all banks will have to calculate the CRSA. This also applies in particular to IRBA institutions, which receive a minimum amount (output floor) for their internally calculated risk-weighted assets (RWA) through the CRSA. In the concrete impact analyses of typical German institutions, RWAs will increase by 8-10 % from the previous CRSA to the new CRSA, which roughly corresponds to the study by the European Banking Authority (EBA) on the overall impact of Basel III² and also matches a sample calculation³ carried out by the authors for a broad-based, typical German credit institution, where the increase amounted to a good 8 %.

The aim of the changes to the CRSA (Credit Risk Standard Approach) is to achieve more risk-adjusted capital backing through greater differentiation of the segments in the CRSA. This is intended to increase the resilience, risk sensitivity and international competitiveness of European banks and at the same time promote financial stability and consumer protection.

What aspects are changing in the CRSA?

Instead of the home country rating for exposures to institutions that do not have an external rating, a Standardized Credit Risk Assessment Approach (SCRA) will be introduced, which uses compliance with regulatory ratios (leverage ratio, liquidity, capital ratio, etc.) to derive the risk weight and assigns risk weights of between 30 % (A+) and 150 % (C). In many cases, this increases the risk weighting from the previous 20 % to 30 %.

In the property-backed business, a distinction is made between income-producing properties (IPRE for short) and other properties (owner-occupied or exceptions) – a distinction that currently has no effect in Germany and Austria due to compliance with the so-called hard test. For projects under construction (not owner-occupied homes), there is a new segment “Acquisition, Development and Construction” (ADC), which receives an RW of 150 %.

For commercial real estate, the share of receivables up to 55 % will in future receive a risk weighting (RW) of 60 % RW (previously 60 % limit and 50 % RW); the share of receivables above this will count as unsecured (100 % RW, less for SMEs). Certain real estate projects (ADC) and subordinated receivables receive a risk weighting of 150 %. This increases the capital requirements for commercial real estate financing.

Residential real estate loans receive a risk weighting of 20 % up to a share of 55 % of the real estate value. The portion in excess of this is treated as unsecured, i.e. still 75 % RW for retail business. The capital requirements will fall slightly.

A new exposure class for project, property and commodities financing (excluding real estate) receives higher risk weightings than “normal” corporate financing, namely between 80 % and 130 %.

Equity investments will generally receive a risk weighting of at least 2.5 times 250 %, certain speculative investments will receive a risk weighting of 400 %, while state-subsidized investments will receive a lower risk weighting of 100 %. 100 % RW will also be assigned to equity investments that have been in existence for 6 years and over which the institution exercises “significant influence”. A transitional provision will slightly reduce the increase until 2029.

The RW-reducing SME support factor of 0.7619 remains unchanged. The Bundesbank does not believe that the reforms will have a negative impact on lending to SMEs.

A new class of “transactor” risk positions is being introduced in the retail business. These are revolving loans that are regularly repaid in full without arrears, as well as open overdraft facilities that have not been utilized for at least 12 months.

Transactors are assigned a risk weighting of 45 %. The previous value of 75 % continues to apply to other (non-overdue) receivables in the retail business. This means that the risk weightings will fall slightly. Furthermore, revocable open credit lines, for example on current accounts, will in future be included at 10 % and unconditional commitments (previously up to 12 months 20 % CCF, over 12 months 50 %) at 40 %. However, there is a transitional arrangement for revocable commitments, according to which the conversion factor (CCF) will only be gradually introduced from 2030 and will not reach the full 10 % until 2033.

Foreign banks could be affected by the higher risk weighting in the event of a currency mismatch. There are further adjustments to be implemented, for example with regard to CVA risk and counterparty default risk.

What does this mean for CRSA institutions?

Despite the continued flat-rate calculation of risk-weighted assets, the aim of the new regulation for the CRSA is a more differentiated and realistic representation of risk.

The discontinuation of the use of the home country rating for receivables from banks will hurt many institutions. Another new requirement is that open credit lines on current accounts and credit cards must be backed by equity, while the increase in the collection of fixed contractual commitments up to 12 months will also noticeably increase capital requirements. Commercial real estate will tend to require more equity in future, while residential real estate will require slightly less. All in all, the new CRSA generally leads to higher capital requirements.

However, CRR III makes the IRBA more attractive for existing CRSA institutions by opening up the possibility of partial application to exposure classes selected by the institution. The previous “all or nothing” rule will therefore be dropped. In addition, an output floor has been introduced which, after a transitional period, limits the effect of the IRBA to 72.5% of the capital required under the CRSA, so that the implementation of the IRBA can already achieve the maximum possible reduction in capital requirements for one or two relevant exposure classes.

In addition to credit risk, other changes are also being made to the CRR. For operational risk, for example, the standardized approach will be changed.

Outlook

msg for banking has already supported several banks in analyzing the impact by performing a comparative calculation of capital requirements, taking into account the planned business development and the transitional regulations relevant to them. As the effects of new regulatory requirements must be taken into account in capital planning, every institution should determine the capital requirements for the coming years in a timely manner, taking CRR III into account. In view of the fact that the rules are on the table, the supervisory authority is unlikely to show much leniency on this point.