Norges Bank’s letter to Kredittilsynet (Financial Supervisory Authority of Norway), 22 October 2009.

Background
Norges Bank issues further conditions for pledging securities as collateral for loans from Norges Bank pursuant to section 9 of the “Forskrift om bankers adgang til lån og innskudd i Norges Bank mv.” (Regulations on banks’ borrowing and deposit facilities in Norges Bank, etc.). The current guidelines are provided in Norges Bank’s Circular No. 5/2008.

The rules are intended to ensure that banks have adequate borrowing facilities while limiting Norges Bank’s exposure to risk. Risk exposure is limited by ensuring that only high quality securities are approved and that the borrowing facility is lower than the market value of the securities (haircut).

The requirements regarding collateral for loans were temporarily eased last autumn in order to increase banks’ access to credit in Norges Bank in a situation where private sources of funding had dried up. The most important changes involved withdrawal of the requirements regarding credit rating, stock exchange listing and minimum outstanding volume of Norwegian securities. Money market fund units were approved as collateral even if the funds invest in certain securities that are not eligible according to the rules.

Conditions are now favourable for reversing the temporary amendments while making a number of other amendments to the rules. The borrowing requirements will probably be somewhat reduced because the number of annual instalments for petroleum taxes has increased from two to six and because structural liquidity in the banking system is expected to increase. At the same time, there has been a strong increase in the availability of good collateral. The swap arrangement has now given banks access to almost NOK 230bn in Treasury bills. Banks also own covered bonds not used in the swap arrangement. Most Norwegian banks have access to mortgage companies that can issue covered bonds.

In selecting dates for the phasing-in of the amendments, we have, among other factors, given priority to the expiry dates of the two long-term F-loans from Norges Bank. Many banks that do not normally borrow from Norges Bank have taken out such loans.

Amendments to the rules

Reversal of temporary amendments
The temporary amendments to the rules, which entered into force in autumn 2008, will be reversed on 15 February 2012 for securities already approved as collateral. Approval of new securities according to the temporary rules will be discontinued with immediate effect. Norwegian covered bonds may still be used even if they have no credit rating, but will be subject to an additional haircut.

The bank quota
The maximum share of a bank’s borrowing facility that can consist of securities issued by Norwegian banks is 35 per cent. It is undesirable for the borrower and the collateral to belong to the same sector. From 15 February 2012, securities issued by banks will therefore no longer be eligible as collateral. Furthermore, the basis for calculation of the bank quota will be extended to include securities issued by foreign banks and financial institutions other than insurance companies, partly because financial developments in such institutions correlate with developments in Norwegian banks. At the same time, Norwegian banks are put at a competitive disadvantage if their securities are included in the quota while securities issued by, for example, Swedish and Danish banks are not. Securities issued by Norwegian financial institutions other than insurance companies are also included in the bank quota.

We therefore wish to make the following amendments to the rules for the bank quota:

• The basis for the bank quota will be extended on 1 December 2010 to include debt securities issued by foreign banks and by other foreign and Norwegian financial institutions. Securities issued by insurance companies, covered bonds and other asset-backed securities are still to be kept outside the bank quota.
• The bank quota is to be reduced from 35 per cent to zero per cent from 15 February 2012.

Increased haircut
The financial turbulence has shown that the haircut was too low and should be increased. At the same time, we wish to change the structure of the haircut rates so that they apply more to liquidity and credit risk. We are currently working on the detailed drafting of the haircut rules.

Other planned amendments

• "Asset Backed Securities" (ABSs) must have an AAA credit rating to qualify for collateralisation and may not be secured on commercial property loans. A borrower may not pledge more than 20 per cent of the outstanding volume of an ABS. A corresponding rule currently applies generally to privately issued securities in foreign currency, and will now also be implemented for ABSs in NOK.
• Collateralised Debt Obligations (CDOs) will not be approved.
• Securities with an unconditional and irrevocable government guarantee will primarily be treated as government securities.
• Securities issued by regional and local authorities or multilateral development banks will be approved as collateral provided that they are assigned a risk weight of zero in accordance with capital adequacy requirements.
• Government paper with fixed rate or zero-coupon (which otherwise comply with the rules) may, following a closer assessment, be eligible as collateral even if our data supplier is unable to provide a synthetic price.

These amendments enter into force on 1 June 2010.

The effect on banks’ borrowing facility at Norges Bank
In September, banks had pledged securities providing access to credit at Norges Bank of NOK 235bn. We have calculated the proportion of this credit that would have been lost if the planned amendments to the guidelines had been implemented immediately. The calculation therefore does not take into consideration that securities fall due before amendments enter into force. Changes in the bank quota entail discontinuation of a borrowing facility of NOK 31bn based on Norwegian bank and financial securities and NOK 32bn based on foreign bank and financial securities. Approximately a further NOK 14bn will no longer be available as a result of the reversal of temporary amendments to the rules. The effect for the individual bank will depend on the type of securities it has currently pledged.

This is a static analysis. In our view, as a result of lower borrowing requirements, considerable prior notice and, above all, a very steep rise in available high quality collateral, banks should be able to maintain an adequate borrowing facility to enable the conduct of payment settlements and the implementation of liquidity policy.

We request comments on the planned amendments by 1 December 2009.

This letter has also been sent to Finansnæringens Hovedorganisasjon (the Norwegian Financial Services Association) and Sparebankforeningen (the Norwegian Savings Banks’ Association).

Yours sincerely

Kristin Gulbrandsen

Knut Sandal