The banking regulator of Australia has proposed replacing the usage of Additional Tier 1 bonds with «more reliable forms of capital» following Credit Suisse’s historic collapse and multi-billion dollar write-down.

The Australian Prudential Regulation Authority (APRA) has proposed that banks phase out the usage of Additional Tier 1 (AT1) capital instruments and replace them with «cheaper and more reliable forms of capital that would absorb losses more effectively in times of stress», according to a statement.

«The proposed changes draw on the lessons of last year’s global banking turmoil where several US and European banks either failed or needed to be resolved in short succession, with a number of governments having to intervene to minimize the risk of contagion and financial system instability,» the APRA said.

Replacement Capital

Under the proposal, APRA suggested that «large, internationally active banks» replace 1.5 percent AT1 with 1.25 percent Tier 2 and 0.25 Common Equity Tier 1 (CET1) capital. Smaller banks would be able to fully replace AT1 with Tier 2, with a reduction in Tier 1 requirements. The regulator proposed commencing the transition on 1 January 2027 with all current AT1 on issue expected to be replaced by 2032.

«The purpose of AT1 is to stabilize a bank so that it can continue to operate as a going concern during a period of stress, and support resolution with the capital that is needed to prevent a disorderly failure,» said APRA chair John Lonsdale.

«Unfortunately, international experience has shown that AT1 does not fulfill this function in a crisis situation due to the complexity of using it, the potential for legal challenges and the risk of causing contagion. These risks are heightened in the Australian context due to the unusually high proportion of AT1 held by retail investors.»

CS Experience

The «international experience» mentioned likely refers in part to the $17 billion write-down of Credit Suisse’s AT1 bond amid the government-brokered rescue. This has become an issue of much controversy with numerous related lawsuits filed by bondholders seeking recourse.

«Replacing AT1 with more reliable forms of capital will enable banks to more quickly and confidently use their capital buffers in a crisis scenario and is expected to reduce compliance costs for banks,» Lonsdale added.

«It will also strengthen the proportionality of the prudential framework by embedding a simpler approach to capital requirements for small and mid-size banks compared to the new requirements for large banks.»