I should note that insurance represents a very large part of the PRA’s activities – at the end of the financial year 2014/15 the PRA had around 550 front-line supervisors and risk specialists working on various deposit taking firms compared with over 300 on insurance firms. Most of the regulatory reforms that the PRA are implementing have not actually originated in the PRA itself. Rather, they have arisen from a variety of external sources. Some are UK initiatives: for example, the new Senior Managers Regime and Senior Insurance Managers Regime implement the recommendations of the Parliamentary Commission on Banking Standards (PCBS) and the structural reform of the major banks (ring-fencing) emerged from the Independent Commission on Banking (ICB, also known as the “Vickers Commission”). A number of key reforms are European initiatives such as the Solvency II regime for insurers. The banking capital regime, CRDIV, is a European implementation of agreements made in the global Basel Committee on Banking Supervision (BCBS). The development of international insurance standards is being driven by the Financial Stability Board (FSB) via the International Association of Insurance Supervisors (IAIS). The UK authorities, including the Bank of England and PRA, play a full part in negotiating these reforms, so I wouldn’t claim that they are entirely external, even though there are usually aspects of the final agreements which represent the middle ground in negotiations.
Even a simple leverage ratio requires some agreement as to what to include in each component (e.g. how to value derivatives for this purpose) and the details of an internationally agreed measure are still being negotiated: they are due to be decided in 2017. A harmonised EU-wide measure will then be implemented. In advance of that, the FPC in the UK have already decided on a requirement for major UK banks, and on 6 April 2015, the Government gave the FPC the power to set a leverage ratio by direction to the PRA. The initial ratio of capital to unweighted assets was chosen by the FPC to complement the risk-weighted capital framework and to be in line with the level endorsed by the BCBS. The precise requirements were calculated to be consistent with a minimum average risk weight of 35%. This gives a minimum leverage ratio of 3%, with addons for individual firms to reflect any systemic risk and counter-cyclical buffer requirements, at 35% of the relevant buffer rates. Details on what capital can be used to meet these requirements have also been specified. The FPC plan to extend the leverage ratio to all the remaining authorised banks, building societies and investment firms from 2018, subject to the outcome of the anticipated 2017 international agreement. Stress testing It can be difficult to set capital requirements to meet possible losses, without specifying the likely extent of future stress.