CRR3: three letters and a number that have European banks on the defensive. Applicable from 1 January 2025, , inspired by the so-called Basel IV reforms, aims to strengthen the stability of the financial system. In practice, however, "these measures will restrict banks' ability to grant loans, thereby affecting the financing of the economy and their competitiveness", Gilles Pierre, head of banking regulation and financial markets at the Luxembourg Bankers’ Association (ABBL), said in an interview.
Guillaume Meyer: What impact will the CRR3 regulation have on the banking sector?
Gilles Pierre: The arrival of CRR3 creates what I call a 'triple shockwave' for banks. Firstly, the standard approaches are becoming more sensitive to risk. This means that they are more complex and will entail additional costs for certain types of credit. Secondly, approaches based on internal models are more constrained, which will lead to increased capital requirements. Finally, there is the introduction of the output floor, a mechanism that limits differences between capital calculated using internal models and that calculated using standardised approaches.
What are the organisational implications for banks?
They are enormous. Banks that use internal models will now also have to adopt the standardised approach for all asset classes, which they did not necessarily have to do before. This involves a twofold task: on the one hand, deploying this new standardised approach; on the other, reconfiguring their internal models to meet the new requirements. Secondly, they will have to constantly compare the two systems to calculate the output floor. This complexity, combined with increased data management requirements, is a real organisational nightmare.
Is it a challenge to meet the deadlines?
CRR3 will apply from 1 January 2025, with the first reporting based on data from the end of March 2025. This means that banks have very little time to comply. And we do not yet have all the technical standards needed to meet the reporting requirements. So we are partly in the dark.
How do you mean?
The regulation itself is already dense, but it delegates to the European Banking Authority the responsibility of developing no fewer than 140 technical standards to clarify specific points, such as reporting.
Initially, the European Commission's proposal provided for around 40 mandates to be entrusted to the EBA, which was already considered excessive by the banking industry. By the end of the legislative process - negotiations between the [European] Council, European Parliament and the commission - this figure had risen to 140! This proliferation of standards poses a serious problem for the way in which regulations are drawn up in Europe.
Some previously viable projects will no longer be able to be financed.
That’s good for banks, the average customer might think. Is the perception of these issues changing?
The link between banking constraints and their impact on the real economy is still poorly understood. Let's take the concrete example of property development. In the current standard approach, the financing of these operations is calibrated at a very high level of risk, i.e. 150%. This means that for every euro lent, the bank has to allocate a significant amount of equity capital, even though in reality the risks are often lower than this threshold.
Banks using internal models can adjust this ratio to a more realistic level, below 150%. But with CRR3 and the 72.5% output floor, these banks will be forced to comply with a minimum threshold of 108.75% (150% * 72.5%), even if their model shows that the risk is lower. This represents a brutal shock to the financing of property development and, by knock-on effect, to new construction, which is essential if we are to tackle the housing crisis.
In practical terms, what does this mean for the property market?
It means that banks, with limited equity capital, will be able to finance fewer projects. Equity is a bank's most precious resource. It comes from shareholders and, to a lesser extent, from reinvested profits. As regulatory capital requirements increase, so does the cost of lending. To balance this, a bank has several options: reduce the volume of loans, increase interest rates or withdraw from certain activities.
A bank might choose to reduce its consumer lending in order to continue financing property development...
Yes, but the truth is often a compromise. Banks could be forced to reduce their lending in the property development and new-build sectors, and some previously viable projects could no longer be financed.
Still on the subject of new-build property, what about ‘VEFA’ (sales of homes still under construction) purchases?
This is a good example. When you buy a property off-plan, the property has not yet been built. For the banks, this implies a higher risk than for a property that has already been completed, which is logical. But for this type of financing to benefit from the lowest risk weighting, specific guarantees must be recognised.
In many European countries, such as Luxembourg, France and Belgium, we have a well-established mechanism: completion guarantees. These are issued by private players - banks or insurance companies - to guarantee that the property will actually be built. However, this mechanism does not exist in the Basel reference framework, which is the basis for European regulations. In the Basel standard, only guarantees from public or semi-public bodies are recognised.
We therefore had to fight to incorporate this specific European feature into the CRR regulation. The ball is now in the court of the EBA, which must decide, via a technical standard, whether or not this mechanism will be recognised.
And if it is not?
If the completion guarantee mechanism is not recognised, the financing of buy-to-let assets will become more expensive, and therefore less accessible. This would further limit the banks' ability to support new construction.
On the one hand, governments are putting policies in place to stimulate demand, simplifying administrative procedures or injecting public funds. If, on the other hand, regulatory constraints limit our ability to lend, this creates an inconsistency. In the end, we run the risk of being told that ‘it’s the banks' fault’, when in fact we are bound hand and foot by these requirements.
Supporting innovation will cost the banks four times as much.
Do we have an estimate of the impact of higher capital requirements on the supply of credit?
According to the EBA, the new regulatory requirements will lead to an average increase of 7.8% in capital requirements for European banks. This may seem modest, but the consequences will be real: banks will have to become more selective when it comes to financing certain projects, particularly new-build.
These effects may not be immediately apparent to the general public...
Indeed, these impacts will only be visible in the medium to long term, well after the rules come into force. But inevitably, the cost of credit will rise or certain types of financing will become more difficult.
What other sectors will be particularly affected by these new rules?
One of the most striking examples concerns support for innovation. Take startups: under Basel IV, it will be virtually impossible to finance them by taking an equity stake. Previously, a bank could invest in a startup with a 100% risk weighting. This was already high, but manageable. Now, the risk weighting has risen to 400%. In other words, supporting innovation will cost banks four times as much, which will discourage them from taking any equity stakes. There is a risk that this type of activity will be severely hampered, or even abandoned.
This is not just a problem for banks, but for the entire European ecosystem. We are always talking about the importance of innovation and the need to support strategic industries. Yet these rules make this support financially untenable. This perfectly illustrates the gap between Europe's political ambitions and the realities imposed by these regulations.
Is this enough to prompt Europe to reconsider its position?
For the moment, there is no sign of a change of course. The European Commission and regulators remain committed to the strict application of Basel IV, arguing that this will strengthen the solidity of banks and financial stability in Europe. But this rigidity risks compromising our competitiveness. The risk is that European companies, unable to find competitive financing from local banks, will turn en masse to other sources of finance.
A moratorium on the adoption of new regulations would be more than welcome.
Should Europe backtrack on Basel IV?
It's not a question of going backwards: Basel IV will be implemented, that's a given. But we urgently need to rethink. A moratorium on the adoption of new regulations would be more than welcome. This would allow us to absorb the texts already in force, implement them effectively and, above all, assess their impact on the competitiveness of European banks and their ability to support the economy.
It's time to stop this regulatory inflation and pause to think about the right questions. What the general public needs to understand is that banking problems are not just banking problems. They concern the whole economy. Less ability to lend means less growth, fewer jobs and less investment. That's what's at stake.
Is the idea of a moratorium being taken up by European governments?
Yes, absolutely. Several major countries, including France, Germany and Italy, have recently written to the European Commission asking for a regulatory pause. The message is clear: we need to slow down, learn from the measures that have been implemented and ensure that we maintain a balance between banking robustness and competitiveness.
Let's not forget that banks face a multitude of challenges. Open finance, for example, is profoundly transforming the sector with the arrival of new players and increased competition. We are also subject to multiple shocks, whether economic, technological or regulatory. All these factors come on top of the pressure imposed by regulations such as Basel IV.
Read the original French-language version of this interview /