Global systemically important banks

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What Is Global Systemically Important Banks?

Global Systemically Important Banks (G-SIBs) are financial institutions deemed so critical to the international financial system that their failure could trigger a widespread financial crisis. The concept falls under the broader umbrella of financial regulation, a core aspect of financial stability. These banks are often referred to as "too big to fail" due to their immense size, interconnectedness, and the essential services they provide to the global economy. As such, G-SIBs are subject to stricter regulatory oversight and higher capital requirements than other banks.

History and Origin

The designation of Global Systemically Important Banks emerged directly from the lessons of the 2008 global financial crisis. During this period, the failure or severe distress of large, interconnected financial institutions demonstrated how problems at individual firms could rapidly spread, undermining the broader financial system and imposing significant costs on the real economy. Public sector interventions, often on a massive scale, became necessary to prevent systemic collapse, which also raised concerns about moral hazard.²⁵

In response to these events, the G20 leaders, at their Pittsburgh summit in September 2009, tasked the Financial Stability Board (FSB) with developing a framework to address the risks posed by systemically important financial institutions.²⁴,²³ The FSB, in consultation with the Basel Committee on Banking Supervision (BCBS) and national authorities, began identifying G-SIBs in 2011.²² The BCBS concurrently developed an assessment methodology, introducing new guidance, notably Basel III, which specifically targeted systemically important financial institutions (SIFIs) by increasing bank capital requirements and introducing capital surcharges for G-SIBs. The first official list of G-SIBs was published by the FSB in November 2011 and has been updated annually since.,²¹

Key Takeaways

• Global Systemically Important Banks (G-SIBs) are financial institutions whose failure could cause significant disruption to the global financial system.
• They are identified annually by the Financial Stability Board (FSB) using a methodology developed by the Basel Committee on Banking Supervision (BCBS).
• G-SIBs are subject to enhanced regulatory measures, including higher capital buffers and specific resolution planning requirements.
• The framework aims to mitigate "too big to fail" risks and promote overall financial stability.
• The number of identified G-SIBs has remained around 29–30 in recent years, though individual banks may move between different requirement categories.,
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  19}## Formula and Calculation

The identification and categorization of Global Systemically Important Banks rely on an indicator-based measurement approach developed by the Basel Committee on Banking Supervision (BCBS). T¹⁸his methodology uses five main categories of indicators, each weighted equally at 20%.

¹⁷The five indicator categories are:

• Size: Measured by total exposures.
• Interconnectedness: Reflects intra-financial system assets and liabilities, and financial instruments.
• Substitutability: Assesses the extent to which critical financial infrastructure services are provided.
• Complexity: Accounts for factors like OTC derivatives, trading and available-for-sale securities, and Level 3 assets.
• Cross-Jurisdictional Activity: Measures cross-jurisdictional claims and liabilities.,
  ^{16
  15}Each G-SIB's systemic importance score (S) is calculated as the sum of weighted scores from these five categories:

Where (w_i) represents the 20% weight assigned to each indicator category.

The banks report these indicators to national supervisory authorities, which are then aggregated to calculate the scores. Banks exceeding a predefined cutoff score are identified as G-SIBs and allocated to "buckets" corresponding to varying levels of additional loss absorbency requirements. T¹⁴he Basel Committee continually reviews and proposes amendments to this methodology, including, for instance, proposals to use an average of values over the financial year for stock data items to address potential regulatory arbitrage.

¹³## Interpreting the Global Systemically Important Banks Designation

The designation of a bank as a Global Systemically Important Bank signifies its critical role in the global banking system and the potential systemic risk its failure could pose. This identification is not merely a label but triggers specific regulatory consequences designed to enhance the bank's resilience.

For example, G-SIBs are required to hold additional Common Equity Tier 1 capital, known as a "G-SIB surcharge," which acts as a buffer against potential losses., ¹²T¹¹he higher the bank's systemic importance score and its assigned bucket, the larger the additional capital buffer it must maintain, ranging from 1.0% to 3.5% of its risk-weighted assets. This framework aims to ensure that these large financial institutions possess sufficient capital to absorb losses, reducing the likelihood of taxpayer-funded bailouts in a crisis.

Hypothetical Example

Consider "GlobalConnect Bank," a large international bank with significant operations across multiple continents, extensive dealings with other financial institutions, and a major provider of payment and settlement services.

GlobalConnect Bank's supervisors gather its data for the annual G-SIB assessment:

• Size: Total assets of $3 trillion.
• Interconnectedness: High volume of interbank lending and derivatives contracts.
• Substitutability: Operates a globally significant payment system, making its services difficult to replace quickly.
• Complexity: Holds a diverse portfolio of complex financial instruments, including a substantial amount of Level 3 assets.
• Cross-Jurisdictional Activity: Has a significant presence in over 50 countries, with substantial cross-jurisdictional activity.

Based on the Basel Committee's methodology, GlobalConnect Bank's aggregated score for these indicators places it in "Bucket 3." This designation requires GlobalConnect Bank to hold an additional capital buffer of 2.0% of its risk-weighted assets above the standard Basel III requirements. This ensures that GlobalConnect Bank maintains a robust capital position, mitigating the impact should it face financial distress.

Practical Applications

The identification and regulation of Global Systemically Important Banks have several practical applications across finance and regulation:

• Enhanced Capital Buffers: G-SIBs are required to hold higher capital than other banks, providing a greater cushion to absorb losses and reduce the likelihood of failure. This directly impacts their capital requirements and financial resilience.
• Intensified Supervision: Regulatory authorities apply more stringent supervisory expectations, including more frequent and in-depth reviews of risk management functions, governance, and internal controls.
• Resolution Regimes: G-SIBs are subject to robust resolution planning, often referred to as "living wills." These plans detail how the institution could be wound down in an orderly manner without destabilizing the broader financial markets or requiring taxpayer bailouts.
• Total Loss-Absorbing Capacity (TLAC): The FSB established the TLAC standard, requiring G-SIBs to hold a minimum amount of equity and convertible debt that can be "bailed-in" during a resolution, further protecting taxpayers.
• Mitigating "Too Big to Fail": The entire framework for G-SIBs aims to address the "too big to fail" problem, a major concern that arose during the 2008 financial crisis. By imposing higher costs on G-SIBs and enhancing their resolvability, the goal is to eliminate the implicit government guarantee associated with these firms., ¹⁰T⁹his continues to be an area of discussion and ongoing policy development.

⁸## Limitations and Criticisms

While the framework for Global Systemically Important Banks (G-SIBs) has strengthened financial stability, it faces several limitations and criticisms:

• Methodology Complexity: The indicator-based methodology used to identify G-SIBs, while comprehensive, can be complex. Critics argue that certain aspects, such as the qualitative judgments involved, may not fully capture all dimensions of systemic risk.
  *⁷ "Window-Dressing" Concerns: There have been criticisms regarding "window-dressing" behavior, where banks might temporarily reduce their perceived systemic footprint around reporting dates to influence their G-SIB scores and potentially lower their capital requirements. The Basel Committee has proposed amendments to address this by using average values over the financial year.
  *⁶ Disparities in Regulation: Some argue that the application of G-SIB surcharges, particularly in certain jurisdictions like the United States, has led to greater capital requirements that are out of step with international accords, potentially hurting economic competitiveness.
  *⁵ Evolving Nature of Risk: The financial landscape is constantly evolving, with new risks emerging from areas such as non-bank financial intermediation and climate-related financial risks. The G-SIB framework must continuously adapt to these changes to remain effective.
• Moral Hazard Persistence: Despite efforts to end "too big to fail," some argue that an implicit government guarantee for G-SIBs may still persist, potentially encouraging moral hazard where these banks might take on excessive risks, knowing they are unlikely to be allowed to fail entirely.

⁴## Global Systemically Important Banks vs. Domestic Systemically Important Banks

The distinction between Global Systemically Important Banks (G-SIBs) and Domestic Systemically Important Banks (D-SIBs) is crucial in understanding the layered approach to financial regulation:

While G-SIBs are identified at the international level due to their potential macroeconomic impact, D-SIBs are recognized by individual countries as critical to their local banking system. Both designations aim to mitigate systemic risk, but their scope and the bodies responsible for their oversight differ.

FAQs

Why are Global Systemically Important Banks subject to special regulation?

Global Systemically Important Banks (G-SIBs) are subject to special regulation because their sheer size, interconnectedness with other financial institutions, and the essential services they provide mean that their failure could cause a severe global financial crisis. The regulations aim to prevent such failures and protect the global economy.

Who identifies Global Systemically Important Banks?

The Financial Stability Board (FSB), in consultation with the Basel Committee on Banking Supervision (BCBS), identifies Global Systemically Important Banks annually. T³hey use a specific methodology based on various indicators to assess a bank's systemic importance.

What are the main criteria used to identify a G-SIB?

The main criteria used to identify a G-SIB are size, interconnectedness, substitutability of services, complexity, and cross-jurisdictional activity. T²hese factors collectively determine a bank's systemic importance score.

What is the "G-SIB surcharge"?

The "G-SIB surcharge" is an additional capital requirement imposed on Global Systemically Important Banks. This extra capital buffer is designed to absorb potential losses, making these banks more resilient and reducing the risk of taxpayer bailouts.

¹### How does the G-SIB framework address the "too big to fail" problem?

The G-SIB framework addresses the "too big to fail" problem by imposing higher capital buffers, requiring robust resolution planning, and enhancing supervisory oversight. These measures aim to reduce the likelihood of G-SIB failures and ensure that, if a failure occurs, it can be resolved without causing wider economic disruption or requiring public funds.