Guest lecture on the failure of Credit Suisse and its implications for the Swiss TBTF regulation

In a recent lecture for the 2024-2026 Executive MBA class at University of Zurich, we discussed the failure of Credit Suisse and what it means for the “Too-big-To-Fail” Regulation in Switzerland.
Given the high relevance of the topic, I share here a few key takeaways from the lecture.
- Trust is essential for the stability of a bank. A sound capital and liquidity standing is a must to maintain the clients’ trust. Yet, that alone is not sufficient. If clients question the bank’s business model, operational stability or doubt the integrity and capability of the bank’s management, a crisis can happen despite strong capital and liquidity ratios.
- The crisis at Credit Suisse revealed shortcomings in the liquidity framework. In nowadays digitalized world, liquidity crises evolve much faster than in the past. It is therefore crucial that all banks have access to central bank liquidity facilities on a standing basis, against a broad set of eligible collateral. Switzerland is lagging behind other jurisdictions. In the UK, the US and the EU, banks can draw unlimited amounts from central banks through ordinary liquidity facilities, provided the banks are still solvent and are able to provide the required collateral.
- The Public Liquidity Backstop (PLB) should not be confused with ordinary central bank liquidity facilities. The PLB serves a different purpose and is used to support the resolution of a bank under a gone concern scenario. Thus, the PLB is only available after a bail-in and first requires the equity to be fully wiped-out and the banks’ management to be replaced. As opposed to most major foreign jurisdictions, the PLB is not yet implemented in Switzerland. The debate in the parliament is still pending.
- Credit Suisse had enough capital at group level. However, the capital was unevenly distributed within the group. Credit Suisse’s subsidiaries in the UK and US were overcapitalized, at the expense of the group’s parent entity in Switzerland. This issue was aggravated by concessions granted by FINMA (e.g., the “regulatory filter” for Credit Suisse AG to offset the impact of an accounting change)
- There is a widespread misperception that the FINMA concessions allowed Credit Suisse to operate with less capital than necessary under the Swiss TBTF rules. Yet, neither the regulatory filter nor the transition rules for the parent bank relaxed the capital requirements at the consolidated group level. It is though correct that the parent bank was undercapitalized and without that capital deficit, the group would have required more capital. The concessions helped to prevent a so called “overshooting”. This means a situation in which the capital need for the group is determined by the capital requirement at the parent bank level, resulting in a higher overall capital requirement than based on the group requirements.
- The current parent bank capital regime has methodological shortcomings and needs to be revised. Currently, participations in foreign subsidiaries are only underpinned with around 60 percent of capital. This also allows UBS the same problematic double-leverage as Credit Suisse, which could backfire in a crisis. The regulation should better protect Swiss taxpayers going forward. There are though more suitable alternatives to fully deducting the participation values from CET1 capital, since that presumes the participations have zero value. A more appropriate approach would use the consolidated group capital requirement as base component, with an additional gone concern capital buffer on top of it to cover the risk that the capital in foreign subsidiaries cannot be repatriated to Switzerland in a crisis. This approach would be efficient, since it keeps the adverse impact on UBS’ international competitiveness limited to the minimum necessary for fully protecting the Swiss taxpayers.