Two bases, two readings of one charge, and a buffer that sits on top of the requirement but must never be counted twice.
An EU bank's MREL on the risk base is three amounts added together: a loss absorption amount equal to its Pillar 1 and Pillar 2 capital requirements, a recapitalisation amount equal to the same again, and a market confidence charge set from the combined buffer. The combined buffer then sits on top, because the CET1 that meets it cannot meet MREL as well. On 30,000 of risk-weighted assets that is 23.25 per cent plus 4.25, or 8,250, against 6,600 on the leverage base. With 8,400 of eligible resources the bank has 150 of headroom, and one double count is enough to report a shortfall of 1,125.
Worked in full in Financial Regulation by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →
The bank is fictional and its balances illustrative, in millions, under the Bank Recovery and Resolution Directive as amended in 2019. The resolution authority sets the actual requirement, and can adjust each term; the arithmetic below is the default calibration. The recapitalisation amount is computed here on the same risk-weighted assets as today, which assumes the resolved bank keeps its whole balance sheet.
| Input | Value |
|---|---|
| Total risk exposure amount (TREA) | 30,000 |
| Leverage ratio exposure (LRE) | 110,000 |
| Pillar 1 own funds requirement | 8.0% |
| Pillar 2 requirement (P2R) | 2.0% |
| Capital conservation buffer | 2.5% |
| Countercyclical buffer | 1.0% |
| Systemic (O-SII) buffer | 0.75% |
| Combined buffer requirement (CBR) | 4.25% |
| Leverage ratio requirement | 3% |
Loss absorption amount (LAA) = Pillar 1 + P2R = 8.0% + 2.0% = 10.0%
Recapitalisation amount (RCA) = Pillar 1 + P2R after resolution = 10.0%
Market confidence charge (MCC), reading A = CBR − 1.25% = 3.00%
Market confidence charge, reading B = CBR − CCyB = 3.25%
MREL-TREA = 10.0% + 10.0% + 3.25% = 23.25%, or 6,975 (23.00%, 6,900, on reading A)
Reading B follows the text of Article 45c(3) of the directive, which sets the charge at the combined buffer requirement other than the countercyclical buffer. Reading A, the buffer less 125 basis points, is the calibration resolution authorities have used in their own MREL policies, and the authority may also set the charge lower. The two are 75 apart on this bank. Which one applies is a fact to obtain in writing from the authority, not a modelling choice. Reading B is used below because it is the larger here; it stops being the larger once the countercyclical buffer passes 1.25 per cent.
The CET1 used to meet the combined buffer cannot count towards the risk-based MREL at the same time. So the resources must cover the requirement and then the buffer: if they cover only the requirement, the bank is inside its buffer, and restrictions on distributions follow.
CBR = 4.25% × 30,000 = 1,275
Requirement with the buffer on top = 6,975 + 1,275 = 8,250, or 27.50 per cent of TREA
Excel: =TREA*(2*(P1+P2R)+CBR-CCyB)+TREA*CBR
The leverage base is twice the 3 per cent leverage requirement, whose exposure measure is built in how to calculate a bank's leverage ratio: a loss absorption and a recapitalisation amount, with no market confidence charge and no buffer stacked.
MREL-LRE = 6% × 110,000 = 6,600
The risk base binds, 8,250 against 6,600. It would stop binding at a risk density below 21.82 per cent of the leverage exposure (25.81 per cent if the buffer were ignored). This bank sits at 27.27. A mortgage lender with low risk weights can easily sit below the switch, which is why the leverage base exists.
| Instrument | Amount | % of TREA |
|---|---|---|
| CET1 | 4,200 | 14.00 |
| AT1 | 450 | 1.50 |
| Tier 2 | 900 | 3.00 |
| Senior non-preferred | 1,600 | 5.33 |
| Senior preferred, over one year to maturity | 1,250 | 4.17 |
| Total | 8,400 | 28.00 |
8,400 against 8,250 leaves headroom of 150 on reading B and 225 on reading A, and 1,800 on the leverage base. The 150 is 11.8 per cent of the buffer. Put differently, the bank's risk-weighted assets can grow by 1.82 per cent, to 30,545, before it is inside its buffer, because every 1,000 of new TREA needs 275 of resources.
| CCyB | Reading A, % | Headroom A | Reading B, % | Headroom B |
|---|---|---|---|---|
| 0.0% | 25.25 | 825 | 26.50 | 450 |
| 0.5% | 26.25 | 525 | 27.00 | 300 |
| 1.0% | 27.25 | 225 | 27.50 | 150 |
| 2.0% | 29.25 | -375 | 28.50 | -150 |
On reading A the countercyclical buffer enters twice, once in the market confidence charge and once in the stack, so each point of it costs two points of MREL. On reading B it enters once. A release of the buffer in a downturn therefore frees twice as much on one reading as on the other, and a rise to 2.0 per cent breaks the bank on both. How the rate itself is built country by country is in how to calculate the countercyclical capital buffer.
Banks designated as resolution entities of systemic size also face a subordination requirement, which only own funds and subordinated debt can meet; senior preferred does not count towards it. It is a second test on the same resources and is not shown here.
The requirement written both permitted ways, and the red cell that reproduces the double count, are in the free workbook for this book.
It is the part of the recapitalisation amount meant to restore market confidence after resolution, normally set from the combined buffer requirement. The directive's text sets it at the combined buffer other than the countercyclical buffer; resolution authority policies have used the combined buffer less 125 basis points. With a 4.25 per cent buffer containing a 1.0 per cent countercyclical buffer, that is 3.00 or 3.25 per cent; the two readings agree only when the countercyclical buffer is 1.25 per cent.
The CET1 that meets the combined buffer cannot also meet the risk-based MREL, so the buffer is stacked on top of it. On the illustrative bank the requirement is 6,975 and the buffer 1,275, so resources must reach 8,250. Add the buffer to the requirement or deduct it from resources, not both: doing both turns 150 of headroom into a 1,125 shortfall.
When the risk density, TREA over the leverage exposure, is low. The leverage-based floor is 6 per cent of the exposure, twice the 3 per cent leverage requirement. Against a 23.25 per cent risk-based requirement it binds below a density of 25.81 per cent, or 21.82 per cent once the combined buffer is stacked on the risk side. At 27.27 per cent the illustrative bank is bound by the risk base.
This article is one calculation from Financial Regulation. The book takes the same case from first principles to the decision, chapter by chapter, and every figure it prints is a live formula in the free companion workbooks.
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