andrew gracie : lac and mrel – from design to implementation speech by mr andrew gracie, executive director of resolution of the bank of england, at the bba loss absorbing capacity forum, london, 23 july 2015. * * * thanks for the opportunity to speak. in many ways, resolution is the last major piece of the financial reform agenda and ensuring banks have sufficient loss - absorbing capacity is central to that. rules in this area remain to be finalised, but the components are coming into place. the binding requirement for european resolution authorities is, from early next year, to begin setting a minimum requirement of own funds and eligible liabilities ( mrel ) for all eu banks in line with the bank recovery and resolution directive ( brrd ) requirements and european banking authority ( eba ) regulatory technical standards ( rts ). you will have seen that the rts have recently been published in an “ eba final ” version. this will be a binding eu regulation once formally adopted by the commission. for european g - sibs, mrel requirements will need to be set consistently with the fsb ’ s total loss - absorbing capacity ( tlac ) standard. consultation responses on this are being considered alongside the results of the impact assessment. the standard will be finalised by the time of the g20 summit in november. so no definitive statements today, but i want to address some recurrent issues, including some points that have cropped up in the fsb and eba consultations. i want to talk about three big themes : • mrel and tlac : how far are they the same or different? • the relationship between the regulation of banks ’ liability structures via tlac and mrel and resolution planning. • and why, if we are preparing firm specific resolution plans, have a tlac standard at all? starting with mrel and tlac, much has been made of the differences between them. let me set these out in turn : • tlac sets a global standard for g - sibs 1 while mrel is for all eu banks and investment firms. • tlac describes a pillar 1 minimum requirement, while mrel is set by the resolution authority, bank by bank on the basis of a resolution plan. • the tlac requirement is set in terms of risk weighted assets ( rwas ) and leverage while mrel is formally set in relation to total liabilities and own funds. • the fsb consultation specifies the quantum and

need to consider how to go from mrel in current liability structures to an mrel that ultimately meets the brrd objectives. the rts allows transitional mrel to be set until 2020. work needs to be done to clean up existing liability structures to make them consistent with requirements. this is firm level work which will be addressed as part of the resolution planning process. let me give you some examples of what i have in mind. • my first is structured notes. some respondents to the fsb consultation suggested the blanket exclusion of structured notes from tlac should be relaxed. we are reflecting on that. but the current situation is that in many cases structured notes have been issued to meet the needs of often quite small pockets of investors. the result is that some firms have many thousands or even tens of thousands of notes outstanding each with different structures and embedded derivatives. trying to value all these instruments and bail them in would be a barrier to making resolution work. and as such will need to be addressed as part of the resolution planning process for a particular firm. • my second example is non - equity capital instruments issued out of operating companies. as i described earlier, spe strategies are built around putting only the top company in a group into resolution and avoiding legal risk and the potential dislocation of systemic functions by keeping operating subsidiaries outside resolution. but there is a tension with this strategy where banks want to count nonequity capital instruments issued out of subsidiaries as tlac or mrel. the instruments may meet the other requirements to qualify – minimum maturity, subordination etc – but if the only way that they can bear loss is by putting the subsidiary into resolution there is a question of compatibility with the resolution strategy. as part of brrd we have in the eu a statutory power at the point of nonviability ( ponv ) to write - down regulatory capital instruments. but the same is not true outside europe. as part of the resolution planning process we will need to identify these cases and how to address them. incidentally one advantage of this ponv write - down power is that in resolution we can ensure the order of depletion of liabilities follows the creditor hierarchy. that is, losses are first absorbed by regulatory capital instruments in the operating company where they occur. if the losses are sufficient to wipe out the capital, then the operating company is recapped by write - down or conversion of any other internal tlac. this pushes losses up into the parent