The final report presents the revised guidelines on methods for calculating contributions to Deposit Guarantee Schemes (DGS). The European Banking Authority (EBA) analyzed the existing methodology and proposed improvements to better assess the risk of institutions. The new guidelines will come into effect on July 3, 2024, aiming to clarify the calculation of contributions in a risk-sensitive manner.
- Title: Final report of the revised GL on DGS contributions
- Author: European Banking Authority (EBA)
- Date: 2023
- Type: Guide
- Scope: Calculation methods for contributions to deposit guarantee schemes (DGS) in the European Union, according to Directive 2014/49/EU (DGSD).
- Target population: Credit institutions members of DGS within the European Economic Area (EEA).
- Period: Revision of initial guidelines published in 2015, with application planned from 3 July 2024.
- Number of pages analyzed: First 36 pages out of 69.
The document concerns the revision of the EBA guidelines (GL) related to calculation methods for credit institutions' contributions to deposit guarantee schemes (DGS) in accordance with Directive 2014/49/EU. This five-year revision aims to ensure that the methodology remains suitable to reflect the risk each institution poses to the DGS.
The EBA analyzed DGS interventions since 2015 and found that institutions subject to interventions were mostly ranked among the riskiest according to the existing methodology, thus broadly validating the current approach (p. 3, 35-37). However, several technical improvements were identified:
- Setting minimum thresholds for risk indicators to prevent institutions non-compliant with prudential requirements from being classified as low risk.
- Adjustment of risk indicator weightings based on empirical data.
- Replacement of the risk adjustment factor calculation formula to ensure that contributions increase with risk (avoiding a relative decrease in contributions despite rising risk).
- Clarifications on the treatment of deposits with uncertain DGS coverage, notably client funds.
- Obligation for DGS to regularly review the calibration of the calculation method according to prudential frameworks.
A major novelty is the explicit introduction of a stock-based contribution method (cumulative past contributions), complementing the flow-based method (annual contributions independent of past ones). This stock-based method better reflects changes in risk and deposits even after reaching the target DGS fund level, with a smoothing mechanism to avoid abrupt contribution increases (p. 7-9).
Furthermore, the revision clarifies the forward-looking approach for setting contributions, notably to ensure that loan repayments contracted by the DGS do not artificially reduce the level of qualified financial means (QAFM) below the target threshold, and that the DGS can meet its obligations on time (p. 8-11).
The revised guidelines, applicable from 3 July 2024, aim to enhance risk sensitivity of contributions, improve transparency and consistency of methods used by DGS, while ensuring better alignment with prudential requirements and operational realities of DGS (p. 3, 12-33).
- Directive 2014/49/EU (DGSD) requires the EBA to define guidelines on calculation methods for DGS contributions and to review them at least every 5 years (p. 4).
- The first guidelines were published in 2015 and implemented in 2016.
- A first review in 2018 identified improvement paths but without immediate revision of the framework.
- Several EBA opinions published between 2019 and 2021 highlighted issues related to deposit eligibility, DGS financing, and treatment of client funds (p. 4).
- The 2021-2022 revision is based on an in-depth analysis of DGS interventions, a survey of national authorities and DGS, as well as a public consultation (13 responses) conducted in 2022 (p. 4-6).
- Main objective: improve the contribution calculation method to better reflect the risk borne by DGS, while ensuring compliance with regulatory requirements and financial stability.
- Limitations: guidelines do not apply to branches of third-country institutions, and some data remain limited, notably on risk trends before interventions (p. 6, 38).
- The final document incorporates consultation feedback and specifies notably the coexistence of stock-based and flow-based methods, as well as the forward-looking approach for setting contributions.
Contribution calculation methodology:
- An institution's periodic contribution is calculated by the formula: C_i = CR * ARW_i * CD_i * µ, where CR is the contribution rate, ARW_i the aggregated risk weight, CD_i the covered deposits, and µ a common adjustment coefficient (p. 16).
- The contribution rate CR is determined annually based on the periodic target level of the DGS fund, adjusted for qualified financial means (QAFM) and other available means (p. 16).
Risk indicators and aggregation:
- Five risk categories are covered: capital, liquidity and funding, asset quality, business model and management, potential losses for the DGS (p. 19).
- Each category includes key indicators (e.g., leverage ratio, CET1 ratio, LCR, NSFR, non-performing loan ratio, return on assets, etc.) with defined minimum weightings (p. 20-22).
- Indicators are converted into individual risk scores (IRS) from 0 to 100 via a bucket method or sliding scale, with minimum thresholds ensuring institutions below regulatory requirements receive a maximum risk score (p. 23-25).
- Aggregation of weighted IRS yields an aggregated risk score (ARS), which is then converted into an aggregated risk weight (ARW) according to an exponential scale between 50%-75% (minimum) and 150%-200% (maximum) (p. 25-27).
Contribution methods:
- Flow-based method: contributions calculated annually independently of past contributions.
- Stock-based method: contributions calculated considering the cumulative past contributions, allowing adjustment of contributions according to changes in risk and deposits even after reaching the target level (p. 7-9, 29).
- The stock-based method may include a smoothing mechanism to avoid abrupt increases in case of rapid risk or deposit growth (p. 8).
Management of uncertain deposits:
- In case of uncertainty about deposit coverage, notably for client funds, the DGS must assume these deposits are covered for contribution calculation (p. 17-18).
Forward-looking approach for setting contributions:
- DGS must establish an advance financing plan ensuring that loan repayments contracted to finance interventions do not reduce qualified financial means (QAFM) below the target level before the regulatory deadline (p. 8-11).
- This approach aims to avoid artificial extensions of deadlines to reach the target level (p. 10).
Calibration and regular review:
- DGS must calibrate the method according to national characteristics, historical data, and align incentives with prudential requirements (p. 30-31).
- A review and recalibration must be performed at least every 5 years, with oversight by competent authorities and notification to the EBA (p. 31).
Transparency and confidentiality:
- DGS must publish the method description and parameters, but not necessarily the weightings.
- Individual results are communicated to concerned institutions but remain confidential (p. 31-32).
Approval and reporting:
- DGS must obtain approval from competent authorities before implementation and for any major changes, with annual notification of non-material changes (p. 32).
- Authorities must notify their compliance to the EBA before 11 September 2023 (p. 13).
Minimum contribution:
- DGS may impose a uniform minimum contribution, either cumulative to the risk-based contribution or as a substitute if higher, with a defined method to identify concerned institutions (p. 28-29).
Use of DGS funds for bankruptcy prevention:
- DGS authorized to use their funds for preventive measures may integrate an additional factor based on total risk exposures (TREA) in contribution calculation (p. 29).
Empirical analysis and validation:
- Analysis of DGS interventions between 2015 and 2021 shows that institutions subject to intervention were mostly in the upper quartile of risk scores (ARS and ARW), validating the methodology's relevance (p. 35-39).
- Some limitations exist notably for risks related to money laundering, fraud, or liquidity, which are less well captured by standard indicators (p. 37-39).
- The EBA recommends retaining the current methodology with targeted improvements rather than replacing it entirely (p. 39).
Use of score ranges:
- Some DGS do not use the full possible range of IRS scores, which impairs risk differentiation.
- The EBA proposes setting minimum thresholds so that indicator values below regulatory requirements correspond to a maximum IRS score (100) (p. 40-41).
- Established facts:
- Institutions subject to DGS interventions since 2015 are mostly ranked among the riskiest according to ARS and ARW scores (over 60% in the top 10%) (p. 35-37).
- The current methodology allows risk differentiation, notably on solvency and profitability aspects (p. 39).
- Some risk categories (AML, fraud, liquidity) are less well captured by standard indicators (p. 37-39).
- The stock-based method is already used by some DGS and offers advantages for adjusting contributions over time (p. 7-9).
- The forward-looking approach for setting contributions is necessary to ensure the DGS's financial viability during loan repayments (p. 8-11).
- Hypotheses:
- Stability or absence of clear trend in ARS/ARW scores before intervention may be explained by the limited sample size and sometimes sudden nature of interventions (p. 38).
- Interpretations:
- The current methodology is generally suitable and effective to reflect institutions' risk towards DGS (p. 39).
- Introducing minimum thresholds for risk indicators improves coherence and risk sensitivity (p. 40-41).
- Coexistence of flow-based and stock-based methods allows better flexibility and adaptation to national contexts (p. 7-9).
- Uncertainties:
- The intervention sample remains limited, restricting robustness of conclusions on risk trends (p. 38).
- The precise impact of proposed changes on costs for DGS and institutions is not quantified (p. 34).
- Consideration of specific risks such as money laundering depends on adding additional indicators by DGS (p. 39).
- The EBA concludes that the current methodology for calculating contributions to DGS is generally appropriate and should be maintained with targeted improvements (p. 39).
- The main adopted modifications are:
- Introduction of minimum thresholds for risk indicators to improve differentiation and avoid erroneous classifications (p. 6).
- Replacement of the risk adjustment factor calculation formula with an exponential formula ensuring a constant relationship between risk and contribution (p. 6).
- Clarifications on the treatment of deposits with uncertain coverage, notably client funds (p. 6).
- Obligation for DGS to regularly review the calibration of the calculation method according to prudential frameworks (p. 6).
- Explicit integration of the stock-based method alongside the flow-based method, with the possibility to apply a smoothing mechanism for contributions (p. 7-9).
- Clarification of the forward-looking approach for setting contributions to ensure financial viability during repayment of loans contracted by DGS (p. 8-11).
- DGS must obtain approval from competent authorities before implementation and notify any changes (p. 32).
- Revised guidelines will apply from 3 July 2024 (p. 12, 13).
- The EBA will continue monitoring method performance and encourage DGS to adapt indicators to cover risks specific to their sector (p. 39).
- No full methodology replacement is recommended given potential costs and current model relevance (p. 39).
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