ESRB publishes recommendation on funding of banks in US dollar

The European Systemic Risk Board (ESRB) has today published a new recommendation on US dollar-denominated funding of banks addressed to the national supervisory authorities of the EU Member States (Document reference: ESRB/2011/2).

The US dollar funding markets are of significant importance to EU banks. In the periods 2007-08 and 2010-11, EU banks funding themselves in US dollars were exposed to vulnerabilities, owing, on the one hand, to maturity mismatches between long-term assets and short-term liabilities in US dollars and, on the other, to the risk aversion of US money market funds at times of enhanced market tensions.

The ESRB considers that action should be taken to avoid a recurrence of these strains in US dollar-denominated funding of EU banks in the medium term. Even if the recommendations – by their nature – are not necessarily aimed at addressing recent market developments, national authorities are called on to report to the ESRB on their implementation by June 2012. To achieve this goal within a relatively short deadline, the recommendation predominantly involves measures to strengthen the use of already existing supervisory tools; but this is also partly because banks have already taken action in order to reduce the risk.

The ESRB recommends that the competent authorities intensify their monitoring action to prevent EU credit institutions from accumulating future excessive funding risks in US dollars. In particular, national supervisory authorities are requested to closely monitor maturity mismatches, funding concentration, the use of US dollar currency swaps and intra-group exposures. Moreover, the supervisory authorities should encourage credit institutions to take action before these risks reach an excessive level. At the same time, any measure to limit exposures should avoid having an adverse effect on existing financing in US dollars.

Moreover, authorities should make sure that EU credit institutions enhance their resilience to strains in the US dollar funding markets. To achieve this, the ESRB recommends that national supervisory authorities ensure that EU banks include management actions in their contingency funding plans for handling a shock in US dollar funding. In addition, the national supervisory authorities should assess the feasibility of these plans at the level of the banking sector. Based on this assessment, if there were to be a risk of simultaneous and similar responses by several banks in the face of a crisis, the supervisory authorities should consider action to diminish a potential systemic impact.