What is Pillar 2 liquidity of the PRA statement of policy?
The Pillar 2 framework covers risks not captured, or not fully captured, in Pillar 1. In publishing its approach to Pillar 2 liquidity ('Pillar 2'), the PRA seeks to help firms understand how it assesses liquidity risks, thereby encouraging them to develop better approaches to reduce or manage these risks.
The Pillar 2 requirement is a bank-specific capital requirement which supplements the minimum capital requirement (known as the Pillar 1 requirement) in cases where the latter underestimates or does not cover certain risks.
The LCR requires banks to have sufficient low risk High Quality Liquid Assets (HQLA) that can be sold to meet liquidity needs arising from cash outflows calculated over a 30-day period of liquidity stress.
Pillar 2: Supervisory Review
Internal Capital Adequacy Assessment Process (ICAAP): A bank must conduct periodic internal capital adequacy assessments in accordance with their risk profile and determine a strategy for maintaining the necessary capital level.
The PRA defines intraday liquidity risk as 'the risk that a firm is unable to meet its daily settlement obligations, for example, as a result of timing mismatches arising from direct and indirect membership of relevant payments or securities settlements system.
Pillar 1 mainly focuses on the re-allocation of profits to market jurisdictions, Pillar 2 is designed to ensure that large MNEs pay a minimum 15% of tax on their income arising in every jurisdiction where they operate. 5 Sep 2023 Paresh Parekh.
the internal governance and risk management assessment; the assessment of risks to capital on a risk-specific basis (credit risk, market risk, operational risk and interest rate risk in the banking book).
The liquidity coverage ratio is the requirement whereby banks must hold an amount of high-quality liquid assets that's enough to fund cash outflows for 30 days. 1 Liquidity ratios are similar to the LCR in that they measure a company's ability to meet its short-term financial obligations.
Three 'Pillars' undergird the global banking rules known as the 'Basel framework': Pillar 1 covers rules on minimum loss-absorbing capital requirements for all lenders; Pillar 2, supervisory review measures, which include firm-specific capital add-ons above and beyond those set under Pillar 1; and Pillar 3, rules on ...
Liquidity risk is the risk of loss resulting from the inability to meet payment obligations in full and on time when they become due. Liquidity risk is inherent to the Bank's business and results from the mismatch in maturities between assets and liabilities.
What are the examples of risk in Pillar 2?
Examples of these risks are interest rate risk in the banking book; non-financial risks such as strategic risk, business model risk and reputational risk; and aspects of credit concentration risk.
Pillar Two aims to ensure that income is taxed at an appropriate rate and has several complicated mechanisms to ensure this tax is paid. The rules are complex and will require substantial new forms of financial data that tax departments may not currently have access to within their organization.
Pillar 2 established a supervisory review process under which supervisors reviewed banks' own assessments of their capital adequacy. Pillar 3 required banks to make public disclosures of their capital positions and their credit, market, and operational risk exposures.
Overall liquidity adequacy
The PRA's approach to liquidity supervision is based on the principle that a firm must have adequate levels of liquidity resources and a prudent funding profile, and that it comprehensively manages and controls liquidity and funding risks.
2 The Internal Liquidity Adequacy Assessment Process
The ILAA rules require firms to identify, measure, manage and monitor liquidity and funding risks across different time horizons and stress scenarios, consistent with the risk appetite established by the firm's management body.
Settlement Positions
These critical, deadline-specific payments are critical to managing intraday liquidity and systemic risk. Therefore, banks should track trends in settlement positions and correlate them with external market factors to enhance their capacity to predict future liquidity requirements in time.
The Pillar 2 rules create a coordinated system of minimum taxation intended to ensure that Multinational Enterprise Groups (“MNE Groups”) with annual revenue of 750 million euros or more pay a minimum level of tax on the income arising in each jurisdiction in which they operate.
Pillar 2 seeks to disincentivise MNCs from parking profits in very low tax jurisdictions via abusive transfer pricing planning. Its influence is therefore limited to extreme transfer pricing policies which tend to be in the minority.
Pillar Two sets out global minimum tax rules designed to ensure that large multinational businesses pay a minimum effective rate of tax of 15% on profits in all countries.
While pillar 1 of the Basel regulatory capital framework deals only with the capital requirements for credit, market, and operational risk as well as regulatory liquidity ratios calculated according to more or less sophisticated regulatory approaches; pillar 2 focuses on the economic and internal perspective of banks' ...
What are the different types of liquidity risk?
It basically describes how quickly something can be converted to cash. There are two different types of liquidity risk. The first is funding liquidity or cash flow risk, while the second is market liquidity risk, also referred to as asset/product risk.
Although the U.S. has not enacted legislation to align U.S. tax law with Pillar 2, many OECD/G20 Inclusive Framework on base erosion and profit shifting (BEPS) initiative members are in the process of implementing these rules, which are set to take effect in 2024.
- Current Ratio = Current Assets / Current Liabilities.
- Quick Ratio = (Cash + Accounts Receivable) / Current Liabilities.
- Cash Ratio = (Cash + Marketable Securities) / Current Liabilities.
- Net Working Capital = Current Assets – Current Liabilities.
Minimum Liquidity means that the sum of (I) the aggregate amount of unrestricted cash and Cash Equivalents of the Qualified Loan Parties at such time plus (II) the Total Unutilized Revolving Credit Amount.
Liquidity ratios are important to investors and creditors to determine if a company can cover their short-term obligations, and to what degree. A ratio of 1 is better than a ratio of less than 1, but it isn't ideal. Creditors and investors like to see higher liquidity ratios, such as 2 or 3.
References
- https://www.grantthornton.com/insights/alerts/tax/2023/flash/irs-addresses-pillar-and-expands-ftc-relief
- https://www.bankofengland.co.uk/-/media/boe/files/prudential-regulation/supervisory-statement/2023/ss2415-december-2023.pdf
- https://corporatefinanceinstitute.com/resources/accounting/liquidity-ratio/
- https://www.ukfinance.org.uk/blogs/pillar-2-whats-next
- https://gocardless.com/en-au/guides/posts/how-to-calculate-liquidity-ratios/
- https://www.deloitte.com/an/en/services/tax/perspectives/oecd-pillar-two.html
- https://coebank.org/en/investor-relations/risk-management/liquidity-risk/
- https://www.bankingsupervision.europa.eu/banking/srep/html/p2r_methodology.en.html
- https://www.manifestclimate.com/blog/pillar-politics-which-part-of-the-basel-framework-is-best-for-tackling-climate-risks/
- https://www.investopedia.com/articles/trading/11/understanding-liquidity-risk.asp
- https://www.iflr.com/article/2a647zxame68p5fw99ce8/primer-pillar-2-of-the-basel-banking-framework
- https://www.torontocentre.org/index.php?option=com_content&view=article&id=104:pillar-2-and-beyond-issues-for-supervisors-in-implementing-basel-ii-and-basel-iii&catid=13&Itemid=101
- https://www.lawinsider.com/dictionary/minimum-liquidity
- https://ukalma.org.uk/wp-content/uploads/2019/02/Gamal-Bemaths-slides-for-website.pdf
- https://www.grantthornton.co.uk/insights/transfer-pricing-supporting-esg-pillar-1-and-pillar-2/
- https://kpmg.com/xx/en/home/insights/2020/10/beps-2-0-pillar-one-and-pillar-two.html
- https://www.bankingsupervision.europa.eu/banking/srep/html/p2r.en.html
- https://www.bankofengland.co.uk/-/media/boe/files/prudential-regulation/supervisory-statement/2021/ss2415-jan-2022.pdf
- https://www.investopedia.com/terms/l/liquidity-coverage-ratio.asp
- https://analystprep.com/study-notes/frm/part-2/intraday-liquidity-risk-management/
- https://www.crowe.com/insights/tax-news-highlights/pillar-2s-potential-impact-on-us-multinationals
- https://www.bis.org/fsi/fsisummaries/pillar2.htm
- https://corporatefinanceinstitute.com/resources/career-map/sell-side/risk-management/basel-ii/
- https://www.ey.com/en_in/tax/oecd-outcome-statement-on-progress-on-pillars-one-and-two-of-beps-2-0-project-are-mne-s-ready-for-a-sprint