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In this article we will dive into ECBs Proposal for New Rules Around Internal Models

The Fundamental Review of the Trading Book (FRTB)is an international standard that sets out rules governing capital that banks must hold against market risk exposures, with the purpose of holding banks to a higher standard.

ECBs Proposal for New Rules Around Internal Models

The FRTB is designed to keep banks in check with regulation. It came more and more in focus after the financial crisis of 2008 and 2017. In fact, it was after the financial crisis that several financial initiatives began to pop up around the world to help prevent such an occurrence from happening again.

The FRTB rule was first published back in 2016 and underwent formal revision last year, in 2019. Let’s dive into a bit more detail about the FRTB and how it helps the banking sector.

How the Fundamental Review of the Trading Book (FRTB) came to be?

In 1974, the Central Bank Governors of the Group of Ten established the Basel Committee on Banking Supervision (BCBS), which was designed as an international supervisory body. The Group of Ten refers to a group of ten leading countries that agreed to be apart of the General Arrangements to Borrow. The ten countries involved are Belgium, Canada, France, Germany, Italy, Japan, Netherlands, Sweden, Switzerland, United Kingdom, and the United States.

What does the Basel Committee on Banking Supervision (BCBS) do?

The primary function of the BCBS is to create cooperation and adherence to general banking supervisory rules. The overall goal here is to make banking better locally and around the world. The internet and globalization of business (including banking) changed the way consumers do business around the world. The rapidness and rate of change that took place meant that it was hard for regulation to keep up. Organizations like the BCBS serve to help regulation catch up with the innovations of the industry on the whole.

How does this affect Internal Models?

Internal models are designed to help assess the risk of moves within the market, based on the changes in market prices. As risk assessment tools, it is essential that they are accurate and helpful for those using them. After the financial crisis and collapse a decade ago, the FRTB made rectifying this issue a priority.

A major focus here revolves around banks reporting their capital requirements. You can read more on that here. This article will go on to give you all of the details and specifics, but the important takeaway for us is that these regulatory institutions are pushing to make bank projections more accurate. This is all done to protect both the consumers and the global economies alike.

The ECB Banking Supervisions’ Findings on the Results of the FRTB

  • 40% of the banks using internal models are planning to seek IMA approval under the new rules
  • Half of that 40% will include as many trading desks as possible, while the other half only plan to include some
  • 40% plan to move to the new standardized approach
  • The remaining 20% is undecided

You can learn more here

What does this all mean for the rising economy and banking industry in Malta?

Technology and its rapid advancement have drastically changed much of consumers’ daily lives. It has certainly changed the way we bank and the way that banks now do business. With all of this advancement, financial regulation has struggled to keep pace. Despite regulators struggling to keep up, this does not mean by any means that they have given up on that quest.

Initiatives like the FRTB are proof of that. Consumer trust is so important for banks, and being compliant and doing right by your customers is a great way to achieve this. This means that the changing landscape of the banking world in Europe presents an opportunity for the banks in Malta to swoop in as the honorable knights of banking, doing right by their customers in a highly compliant way.