Most recent questions and answers about the increase of the countercyclical capital buffer rate

The Systemic Risk Council, the Council, has an advisory function. The purpose of the Council is to suggest initiatives to prevent or reduce systemic financial risks that may put all or parts of the economy under pressure. The most recent financial crisis had a negative impact on economic development. One of the Council's tasks is to assess what is a suitable level for the countercyclical capital buffer.

A tool for ensuring a more resilient financial sector

The buffer is a tool introduced in international regulation after the financial crisis. The buffer is part of an extensive set of reforms to make the financial sector more resilient.

The buffer is a requirement for the share of banks' and mortgage credit institutions' equity. The purpose is that the institutions should build up capital in good times for release in bad times. The purpose is not to halt soaring house prices or excessive lending growth when the economy is expanding, but to make the institutions more resilient.

The buffer can be released or reduced when the financial system is exposed to stress. Releasing the buffer aims to prevent the banks and mortgage credit institutions from reducing their credit supply in a crisis due to capital shortfalls. The buffer may be released with immediate effect.

An increase of the countercyclical buffer by 0.5 percentage point to 2 per cent will add kr. 7 billion to the total regulatory equity requirement for Danish banks and mortgage credit institutions. The higher buffer does not entail expenditure of kr. 7 billion, but it means that a larger share of the institutions' lending activities must be financed by equity rather than debt.

With their current capitalisation, the vast majority of the Danish banks and mortgage credit institutions will be able to comply with a requirement for a countercyclical capital buffer of 2 per cent of their risk-weighted exposures in Denmark.

The buffer requirement means that a larger share of the banks' and mortgage credit institutions' lending must be financed by equity rather than debt. The institutions can achieve this by e.g. retaining earnings instead of distributing them as dividends or share buy-backs. In 2018, the sector's earnings totalled kr. 32 billion. Irrespective of whether earnings are distributed or retained, they accrue to the shareholders as owners of the institution.

It takes 12 months from the date when the Minister for Industry, Business and Financial Affairs announces decisions to increase the buffer rate until the changes take effect. This gives the institutions time to adapt to the higher capital requirements. When, at some point, the buffer is to be released, the Minister can decide to do so with immediate effect.

The buffer must be of a certain size to make a difference. Consequently, the Council finds it important that the buffer is built up in periods like the current period with an economic upswing and accommodative financial conditions. A higher buffer makes the banks and mortgage credit institutions more resilient when the tide turns.

Identifying and measuring risk is a complex process, and future crises will presumably differ from the previous ones, although some patterns tend to repeat themselves. Consequently, the Council relies on a broad range of data to assess developments in the financial system. So the buffer rate is not set mechanically on the basis of individual indicators. The Council also includes other relevant information, such as other regulatory requirements for the institutions, in its overall assessment of the buffer rate.

No. The buffer rate may be set higher than 2.5 per cent if this is warranted by the basis for assessment.

The buffer should be released if the financial sector is under pressure and there is a risk that banks and mortgage credit institutions will tighten their lending to households and firms so much that a credit crunch may occur. The buffer need not necessarily be released in an economic slowdown.

When, at some point, the buffer is to be released, it can be released gradually or all at once. The decision will depend on the specific situation. For instance, if there is a risk of a systemic financial crisis, the Council may hold an extraordinary meeting and recommend an immediate release of the buffer.

The Minister for Industry, Business and Financial Affairs decides the buffer rate level. At least every quarter, the Systemic Risk Council assesses the level of the buffer rate. If the Council finds that the buffer rate should be changed, it will publish a recommendation addressed to the Minister.

Yes. The Minister must either comply with the recommendation or explain why it is not complied with.

Yes. A positive buffer applies in 13 other European countries, cf. the chart.

 

Yes. Other banks with credit exposures in Denmark must also comply with the Danish countercyclical capital buffer requirement. This follows from EU legislation.

No. The buffer is an instrument aimed at preventing banks from reducing their lending too much if a new financial crisis occurs.