Market risk and Capital in times of crisis

The relaxation consists of lowering the qualitative market risk multiplier used in the current regulations. European banks are currently required to hold capital for market risk under a model based on the sensitization of three scenarios, each with a different correlation multiplier, and each multiplier is set according to the jurisdiction, that is, it is not the same for all European banks; once the results are obtained, capital will be affected by the highest amount among the three correlations (standardized method). With this measure, the aim is to mitigate the risk of volatility and of drastic increases or decreases in periods of financial stress; it is complemented by the additional capital buffer that banks must hold for periods of crisis.

Replicating the European model at a local multiple-service bank, the difference in solvency would vary by up to 5 points, whereas at present the maximum impact from market VaR that the sector has historically shown, under the model applied locally, has been 3.2 points and the historical average has been 1.9.

Based on the above, we answer the questions some #riskmanagers have asked us regarding the feasibility of the monetary authorities adopting measures similar to the ECB’s; this flexibility is consistent with the degree of maturity of Old World banking under Basel III, but not for replicating it locally, since the local calculation model is more flexible and the system would not be shielded against the effects expected on exchange rates and interest rates in the medium term as a result of the economic moment we are going through.

On the other hand, if we set aside replicating the European formula and evaluate one adapted to the local financial sector, we must necessarily analyze what market VaR represents out of total Technical Equity: for the consolidated system it is 9.1%, that is RD$20,851 million (the most affected is the Associations subsector at 15.1%, which in monetary terms is RD$6,525 million and is explained by USD placements with no matching liability); compared with the reserve requirement releases, the opening of Repo windows and other measures the Central Bank has already adopted, which inject approximately RD$80,267.1 million of liquidity into the sector, this is barely 25%, so relaxing the calculation model would at most affect the sector by some RD$10,425 million (assuming a maximum reduction of 50%).

Given this, we rather defend the position of requiring higher capitalization levels from the sector as a way of minimizing the effects of an eventual economic crisis in the medium term.

Author: Cibeles Jiménez
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