The Basel Committee on Banking Supervision (BCBS) recently published final interest rate risk in the banking book (IRRBB) regulations. As defined by the BCBS, “IRRBB refers to the current or prospective risk to the bank’s capital and earnings arising from adverse movements in interest rates.” To reduce excessive interest rate risk, banks will need to ensure that the right processes for identifying, measuring, monitoring and controlling IRRBB are in place.  IT infrastructure alignment, in particular, is crucial to successful compliance with the new requirements.

The final IRRBB regulations—BCBS 368—were published on April 22, 2016, by the BCBS. Key updates impact requirements with respect to internal processes, public disclosure, the supervisory review process, and the identification of outlier banks.

• Internal processes: The Committee provides greater guidance on its expectations for the development of shock and stress scenarios, key behavioral and modelling assumptions, and the internal validation process for internal IRRBB measurement systems.
• Public disclosure: Banks must disclose information with respect to the level of IRRBB exposure, as well as the practices for measuring and controlling IRRBB. The impact on economic value of equity (EVE) and net interest income (NII) under various interest rate shock scenarios need to be measured and disclosed on an annual basis. In addition, quantitative and qualitative information on the risk management objectives and policies concerning IRRBB need to be disclosed. The Committee aims to promote greater consistency, transparency and comparability in the measurement and management of IRRBB.
• Supervisory review process: The factors to be considered by supervisors when reviewing a bank’s IRRBB exposure and the quality of its IRRBB management also were updated. The standardized framework for measuring IRRBB has been updated to enhance risk capture. Banks can choose to adopt the standardized framework or may be mandated by supervisors to use it if their internal measurement systems are not able to adequately measure IRRBB.
• Outlier banks: Supervisors have to publish criteria for identifying outlier banks, and the threshold for the identification of an outlier bank has been reduced from 20% of a bank's total capital to 15% of a bank's Tier 1 capital.

The above principles are applicable to large international banks on a consolidated basis and are expected to be implemented by 2018. They also could potentially be applied to other non-globally operating financial institutions, if requested by a supervisor.

Implications and challenges for banks

The new IRRBB requirements will have major implications for several bank areas, including board management, anti-money laundering, risk management, finance, modelling and IT. In terms of IT, it may be necessary to change the existing IT landscape to implement the new regulatory requirements. An IT department may be required, for example, to set up an appropriate IT infrastructure for handling the following:

• Collecting transactional data
• Performing data cleansing and aggregation
• Developing calculation engines and reporting tools, which can provide accurate information on IRRBB on a regular basis

If an adequate architecture is in place for delivering high-quality reports, it will be possible to prepare sophisticated hedging strategies for ensuring a bank’s future success. Overall, the impact of IRRBB should not be underestimated, especially in light of the high probability of rising interest rates in the coming years.

In terms of compliance, leading banks are looking for partners to help them navigate the new IRRBB terrain. Look for a partner with significant expertise in developing and implementing core banking processes and with addressing regulatory-driven risk management and compliance issues. More specifically, seek a partner with strong capabilities in the following areas:

• Risk identification: Definition of banking book boundaries and identification of on- and off-balance sheet items
• Risk assessment: Design of IRRBB measurements and stress testing methodologies
• Risk governance and control: Reporting, document consolidation, policy and process development, monitoring, and infrastructure assistance for IRRBB
• Risk mitigation: IRRBB hedging strategies

As a global IT consultancy firm, CGI is working to provide the necessary services to identify and execute the required steps for implementing the new IRRBB requirements. For more information on our work in this area and to discuss your specific IRRBB compliance issues, contact us at banking.solutions@cgi.com.