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The PRA’s latest statement on its approach to new and growing banks is a first step on the road to potentially major regulatory changes. As part of its ‘strong and simple’ approach the prudential regulator is looking to reduce barriers to growth.
The PRA published its Policy Statement: ‘Non-systemic UK banks: The PRA’s approach to new and growing banks’ on 15th April. The statement – PS8/21 – outlines its approach to new and growing banks, setting out its expectations around the path to profitability, governance, and investment in risk management and controls. The regulator recognises that new banks are less likely to be able to meet its expectations than more established ones so intends to take a proportionate approach.
The PRA Policy Statement outlines the following requirements for new banks:
- Sustainable capital generation – banks should have a clear path to profitability within three years of authorisation.
- The PRA capital “buffer” must be calculated using a six months operating expense projection. Five years after authorisation banks will move onto a buffer based on stress tests, phased over two years.
- Banks must plan for and meet their Minimum Requirement for own funds and Eligible Liabilities (MREL) where applicable, but there is transitional relief available.
- Capital quality – the PRA prefers simple share structures, fully subordinated to all other capital and debt and fully effective in absorbing losses
- Banks must have a credible recovery plan capable of detecting and responding to a stress
- A solvent wind down plan must be in place from the point of authorisation. These should be maintained until the bank moves to a buffer based on stress tests.
- The statement also recommends that new banks have two independent non-executive directors when they exit mobilisation (or upon authorisation).
The requirements under the new policy statement for new banks may be clear, but the wider context here is significant. This is the first step in the PRA’s journey towards its new ‘strong and simple’ approach. Small banks and building societies should take note.
The PRA’s ‘strong and simple’ approach
The PRA’s long-term vision is of a strong and simple framework in which requirements are proportional to the size and/or complexity of firms. The objective of the framework is to maintain the resilience of those firms and of the UK financial sector while using simplified prudential regulation to remove barriers to growth, thereby enabling a more dynamic and diverse sector.
As the Bank of England’s Executive Director of Prudential Policy, Victoria Saporta, put it recently:
“We have a great opportunity to re-emphasise the role of simplicity in our policymaking…to ensure that prudential policy is no more complex than needed to address the nature of the risks that it is designed to address…”
This represents a significant shift in the design of prudential regulation of banks and building societies in the UK. For this reason, the PRA is considering developing a simpler regime for the smallest firms, i.e. those that probably experience most detriment at the hands of a more complex regime.
The implementation process is now underway, and the PRA has published a Discussion Paper exploring options for developing a simpler but no less resilient prudential framework for smaller banks and building societies – those considered non-systemic.
The Discussion Paper: DP1/21 – A strong and simple prudential framework for non-systemic banks and building societies sets out two possible routes which represent the two ends of the spectrum of where the final approach may land:
- Streamlined approach: Based on the existing prudential framework but with modifications to the elements that are unnecessarily complex for smaller firms, particularly where they do contribute materially to overall resilience.
- Focused approach: A much narrower set of prudential requirements that are more conservatively calibrated.
These approaches are still at the discussion stage, with the PRA accepting comments on the paper until July, to be followed up by the publication of a consultation paper. Whatever the regulator concludes, if you’re a smaller PRA regulated firm, major changes are on the horizon.
How we can help
Our specialist prudential team can provide regulatory advice on the implications of the PRA’s new approach, as well as providing guidance on what you need to do when changes come into effect.
