THE BANKING SUPERVISION PROCESS IN THE REPUBLIC OF

MOLDOVA IN THE CONTEXT OF IMPLEMENTATION OF BASEL III

REQUIREMENTS
PROCESUL DE SUPRAVEGHERE BANCARĂ ÎN REPUBLICA MOLDOVA
ÎN CONTEXTUL IMPLEMENTĂRII CERINȚELOR BASEL III

BEJAN ANASTASIA
anastasia.bejan@yahoo.com

National Bank of Moldova, (Republic of Moldova, Chisinau, Grigore Vieru 1, Avenue

tel.022 822 448, www.bnm.md)

Abstract. Beginning with year 2018, the banking activity in the Republic of Moldova will be conducted in line with
the Basel III requirements, which will have a gradual implementation, until the year 2020. Changes in the regulatory
framework will ensure the development of the domestic banking sector by strengthening the internal governance,
reporting of the all risks by banks and maintaining adequate capital, both in terms of quantity and quality, that will
finally contribute to the offer of safer and better quality financial services. Reforms in the field of banking supervision
have the goal to consolidate the banking sector as a whole, as well as the individual banks - prerequisites for real sector
financing and ensuring the country's sustainable economic growth.

Key words: banking sector, Basel III requirements, supervisory framework, risk management, supervisory review and
evaluation process

JEL CLASSIFICATION: G21, G32

INTRODUCTION
A sound and robust banking system is an important condition for a sustainable economic
growth, taking into account the role of banks as financial intermediaries in the lending process.
Moreover, the banks provide different services to consumers, enterprises and public authorities,
which have great confidence in a bank when carrying out their activities at the national and
international level. Sustainability and resistance to shocks of banks and the banking system as a whole
are also important, given that these institutions operate with financial sources drawn from the
population.
Accordingly, the basic functions of a banking supervisor include both the need to maintain
financial stability and the security of deposits of individuals through an adequate regulatory and
supervisory framework.
In April 2016 the National Bank of Moldova (NBM) approved the Basel III Implementation
Strategy in accordance with the European legislative framework. The document aimed to identify the
necessary measures for the implementation of the European banking regulatory and supervisory
package. Between the years 2015 and 2017, the National Bank of Moldova benefited from the
assistance provided by the central bank of Romania and Netherlands, through the Twinning project.
The project was based on strengthening the NBM's ability to regulate and supervise the national
banking sector in the context of the provisions of Directive 2013/36 / EU and Regulation 575 / 2013
related to the banking sector (the so-called CRD IV package).
On January 1, 2018 entered into force the Law on Banks’ Activity No. 202 of 6 October 2017,
which aims to consolidate the banking regulatory and supervisory framework in the Republic of
Moldova (transition from Basel I to Basel III). With the coming into force of the new law, will be
subjected to the public consultation the projects of the secondary normative framework subordinated
to it, as well as the COREP reporting framework, which will enter into force at different times until
the year 2020.

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 At the same time, the National Bank of Moldova continues to promote other reforms in the
banking sector. It focuses on the transparency of the shareholders in order to attract new investors
that meet the high quality requirements, on the establishment of solid corporate governance in the
banking sector, on the identification of the banks’ related parties and on the timely reflection of bad
loans in banks' balance sheets.
As of March 31, 2018, in the Republic of Moldova operated 11 banks licensed by the National
Bank of Moldova, including 4 subsidiaries of banks and foreign financial groups. During the first
quarter of 2018, banking sector assets continued to grow, banks having sufficient capital and capital
adequacy, high liquidity and profitability. At the same time, the banking sector maintained the
downward trend in lending activity, but the volume of loans granted in the first quarter of 2018 is
increasing in comparison to the same period of the previous year. The share of non-performing loans
in the loan portfolio during this period has diminished, but remains high, the banks continuing to step
up their efforts to reduce the balance of non-performing loans.

MATERIALS AND METHODS

In order to elaborate this paper, a complex research methodology based on the use of scientific
research methods was applied, including: synthesis method, comparative analysis, observation
method, etc.

RESULTS AND DISCUSSIONS

Until the year 2017, the banking activity in the Republic of Moldova was regulated by the
provisions of the international standards Basel I (issued in 1980s), which established the capital
requirement for banks, with the goal was to absorb possible losses from the banks’ exposures. The
Basel I provisions were relatively simple and covered only the credit risk.
The strong growth of the banking sector, the sharp volatility of macroeconomic indicators,
and the emergence of new financial instruments tradable on the money market have made the risks
that banks faced to impose the need to promote new capital adequacy regulations.
In 2004, the Basel Committee on Banking Supervision issued the Capital Accord (Basel II).
Basel II had the goal to create a new basis for the prudential regulation of capital. It offers a wider
range of approaches from elementary to advanced methods of measuring credit, market and
operational risk to determine the appropriate level of capital. It also provides a flexible structure,
banks adopting those approaches that best suit their level of complexity and risk profile.
Basel II used a "three pillars" concept: minimum capital requirements, supervisory review and
market discipline.
The pillar I required banks to have capital at least at the level calculated in line with the
proposed approaches to cover credit, operational and market risks. It provides two approaches to
measuring credit risk: a standardized approach and an internal rating approach.
The pillar II aimed to monitor all risks and allowed supervisors to impose individual
requirements on banks, taking into account the risk exposure of each institution. According to Basel
II pillar II, in the supervisory process, banks need to calculate capital adequacy based on their own
internal risk management methodology.
The pillar III imposed on banks the obligation to disclose the integral information about risks,
management, and the sufficiency of their capital, thus increasing transparency and market discipline
in the financial sector.
As a response to several shortcomings in the framework of Basel II,
that have been highlighted by the global financial crisis in 2008-2009, the Basel Committee on
Banking Supervision has created new measures for the global financial system consolidation,
published in 2010 as Basel III.
Basel III requirements represent an improvement of risk-based approach of Basel II. The main
emphasis is to enhance the capital level of the loss absorption in correlation with the risk of banks’
business models. These regulations represent a set of measures to strengthen global capital and
liquidity requirements, bank transparency, risk management and corporate governance of the banking
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system. Basel III efforts are aimed at promoting a banking sector more resilient to the absorption of
financial shocks, irrespective of their source, as well as reducing the risk of contagion of the financial
sector with the real economy.
Basel III main goals are:
a) strengthening the quality of capital by increasing the minimum requirement for common
equity and tier one capital
b) introduction of international liquidity standards to provide short-term (30 days) resistance
to shocks (liquidity coverage ratio - LCR), and long-term (1 year) solid structural liquidity (net stable
funding ratio - NSFR)
c) the systemic risk mitigation, which consists of several key elements: leverage ratio,
measures to avoid pro-cyclicality, etc.
In the context of the NBM strategy of Basel III implementation in the Republic of Moldova,
in order to achieve efficiently its goal, were set some objectives [2, p.10-11]:
1. Development of the primary and secondary legislative framework related to banks’ activity
for the implementation of Basel III
2. Development of the NBM’s institutional capacity and on-site and off-site banking
supervision instruments, in accordance with the new banking regulatory framework
3. Supervision and coordination the implementation of the new legislative framework in the
banks of the Republic of Moldova by the NBM.
It is also very important to strengthen the dialogue with banks from the Republic of Moldova.
The banks and the NBM should develop their knowledge in the field of banking activity and
challenges of implementing the new framework, particularly in advanced approaches. Thus, NBM
undertook the following actions [2, p.14]:
1) Required from banks to identify techniques of risk management and internal assessment of
capital in banks
2) Raised awareness among both banks and supervisory staff on minimum capital
requirements and their involvement in risk management processes
3) Assessed the level of readiness of banks to implement the package CRD IV, etc.
The NBM shall continuously ensure a dialogue with banks in the process of implementation
of the new requirements by various methods, including thematic inspections, self-assessments carried
out by banks, regular meetings with the banks’ management, etc.
Concerning the insurance of transparency in implementation of the CRD IV/ CRR package
requirements, the NBM will properly inform the public and institutions involved about the progress,
results and any other information that may be considered useful to external users on the process of
drafting the new legislative framework and its implementation at the NBM and supervised entities
level.
The existence of qualified and trained staff in Basel III not only within the NBM but also at
the level of each bank is a mandatory precondition for the effective and qualitative implementation
of the new requirements. Thus, the NBM will promote a policy of attracting qualified human
resources and training of existing staff within the domestic banking sector, by identifying additional
training options for employees through meetings with the NBM experts, seminars and conferences
organized by external donors of technical assistance, professional associations existing in the country.
At the same time, the NBM will assess banks' efforts and human resource development strategies by
other means and methods identified by them.
With the implementation of the law regulating the activity of banks, the National Bank of
Moldova initiated the fundamental review of the banking supervision system, using risk-based
supervision, forecasting and approach to the Supervisory, Review and Evaluation Process (SREP).
Currently, the NBM has several instruments for the enforcement of sanctioning and supervision
measures. Prudential supervision will also be carried out on a consolidated basis and in close
cooperation with the foreign supervisors (including participation in colleges of supervisors) and other
competent authorities.

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 It is important to mention that until the year 2018 the main supervisory approach used by the
National Bank of Moldova as banking regulation and supervision authority was the compliance
supervision. The on-site and off-site supervision process were performed by using the CAMELS
rating methodology.
The CAMELS framework involved the analysis of six groups of indicators:
• Capital adequacy (C): the capital adequacy ratio, the quality of the analyzed capital based
on the bank’s capital components;
• Asset quality (A): concentration of banking sector assets, concentration of loans by sector,
total non-performing loans, total assets / capital, risk-weighted assets / total assets;
• Management (M): this is an indicator of the overall bank’s performance and it was analyzed
only in the framework of the on-site inspections, given the fact that it is difficult to assess the quality
of the management at distance, during the off-site supervision process;
• Profitability (E): return on assets, return on capital, interest income, interest charges, net
interest margin;
• Liquidity (L): liquid assets / total assets, total loans / total deposits, liquid assets / total
deposits;
• Market risk sensitivity (S): currency risk generated by open foreign exchange position,
interest rate risk, etc.
The rating of each of the 6 components is assigned based on a numerical scale of 1 to 5, in
descending order of bank performance. Mark 1 means the highest rating, the strongest performance
and the most effective risk management methods, while mark 5 indicates the lowest rating and
inadequate risk management methods.
Based on the individual rating of the six groups of indicators, is determined the overall bank’s
rating. An overall rating of "1" or "2" indicates a strong bank, which means that any problem occurred
in the activity of the bank is minor and can be corrected by the bank's management. The compound
rating "3" shows that the bank has certain weaknesses that need to be corrected. Supervisors must
monitor the banks classified in this category more closely. Rating "4" or "5" expresses that the given
banks are experiencing serious problems with a very high probability of bankruptcy in the future.
The main disadvantage of the CAMELS rating approach is that it offers information about a
bank’s performance at a given point in time, being a kind of historical monitoring. CAMELS do not
offer to possibility to foresee some specific risks in the banks’ activity.
That’s why, the necessity to change the NBM’s supervisory approach from compliance
supervision to the risk-based supervision conditioned to introduce from the year 2018 the SREP
methodology in the national supervisory framework.
The role of SREP is fundamental in assessing the risks to which the banks are exposed. Thus,
the SREP process is focused on ensuring that the institutions have sound processes and mechanisms,
as well as an adequate level of capital and liquidity to ensure effective risk management.
The SREP framework includes several components, presented in the table below.
Table 1
The components of the SREP framework
1. Institution’s classification
2. Monitoring of the key indicators
3. Business 4. Assessment of internal 5. Assessment of 6. Assessment of
model analysis governance and risks to capital risks to liquidity
control and funding
7. Overall SREP assessment
8. Supervisory measures
9. Early intervention measures
Source: elaborated by the author based on [4, p. 21]
Concerning the components 3 – 6 it is worth mentioning the following facts:
Business model analysis: supervisors assess the business activity of the bank, whether it has
a wide array of activities or whether it focuses on only a few lines of business.
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 Assessment of internal governance and control: supervisors analyze a bank’s organizational
structure by monitoring its management bodies and checking whether the risks are being managed
properly.
Assessment of risks to capital: supervisors analyze whether a bank has a sufficient capital to
absorb losses arising from different risks.
Assessment of risks to liquidity and funding: supervisors check a bank’s ability to cover ad
hoc cash needs, for example, in times of economic uncertainty when depositors may withdraw much
more money than usual.
It should be noted that the new legal framework in the banking field has kept some prudential
provisions applicable previously and focuses, in particular, on strengthening internal governance
practices and risk management in the banks. New approaches will be also introduced to calculate the
regulated capital (funds own capital), the sufficiency of risk-weighted capital (which includes in
addition to credit risk and other risks – risk operational, market and other risks related to banking)
and liquidity indicators. Besides this, will be introduced new concepts such as financial leverage and
associated risk, process internal capital adequacy assessment (ICAAP) and internal liquidity
assessment process (ILAAP).
For improving the corporate governance in banks, the Regulation on the bank's management
framework, which came into force on 1 July 2017, establishes provisions related to risk management.
The banks should meet the requirements on risk management policies and limits on appetite and risk
profile that ensure a progressive implementation of the Basel III framework [3, p.9].
In order to summarize the mentioned above facts, the implementation of BASEL III
requirements in the national banking supervision framework will mainly include:
a) Checking the compliance of banks with the new prudential standards (Pillar I)
Thus, the reports submitted by banks according to the COREP / FINREP reporting framework,
as well as the compliance of the internal regulations elaborated in the context of the new legislative
framework, will be checked.
b) Supervision and evaluation process (Pillar II)
The National Bank of Moldova will ensure the verification of the management framework for
the activity, strategies, processes and mechanisms implemented by each bank in order to comply with
the provisions of the new law and the normative acts issued in its application and will carry out its
own assessment of the risks to which the banks are exposed.
At the same time, the NBM will require banks to have a rigorous business activity
management framework that includes a clear organizational structure with well-defined, transparent
and coherent responsibility lines, effective processes for identifying, managing, monitoring and
reporting the risks to which they are exposed (ICAAP), stress-tests, adequate internal control
mechanisms, including administrative and accounting procedures.
Increased attention will be paid to management decisions of banks, to the existence of
specialized committees of banks' councils, collective and individual responses to the knowledge and
skills of members of management bodies, key personnel, etc. At the first stage, the NBM asked all
banks to carry out a self-assessment of corporate governance and to take all necessary measures to
comply with the legal framework.
According to the article 106 from the Law on Banks’ Activity, the National Bank of Moldova
shall monitor the banks’ compliance with the prudential requirements and other requirements
provided by the law and the applicable normative acts, based on the reports submitted by the banks
and by on-site inspections [1, p.65].
The National Bank of Moldova, at least annually, should adopt a supervisory examination
program for the banks it supervises. It shall mainly contain the following [1. p.65-66]:
a) the way the National Bank of Moldova intends to carry out its tasks and allocate resources;
b) an identification of banks which are intended to be subject to enhanced supervision and the
measures taken for such supervision;

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 c) a plan for onsite inspections at the premises used by a bank, including its branches and
subsidiaries established in other states based on cooperation agreements signed by the National Bank
of Moldova with the competent authority of the respective country.

CONCLUSIONS
The NBM as the supervisory authority will need to identify an efficient balance between the
implementation of Basel III and other supervisory priorities. This approach assumes that the
objectives of Basel III means not just the requirement of compliance with the set of rules relating to
capital and liquidity. This framework aims at developing adequate infrastructure, developing risk
management systems, capital adequacy, market discipline and financial stability and at implementing
new supervisory instruments comparable to those of the international banks
Aligning the banking legislation of the Republic of Moldova to the international standards by
improving the quantitative and qualitative banks' management mechanisms will contribute to the
promotion of a secure and stable banking sector, will increase the transparency, trust and
attractiveness of the domestic banking sector for potential investors and creditors of banks, as well as
for depositors. The new framework conditions the development of new financial products and
services by insuring of a financially stable environment that allows maintaining the financial
soundness of banks and of the entire banking system.

REFERENCES (Times New Roman, 10 pt, Bold)

1. Law on Banks’ Activity no. 202 of 06 October 2017, 92 p.

(http://bnm.md/en/content/law-banks-activity-no-202-06-october-2017)
2. Basel III Implementation Strategy in accordance with the European legislative framework, 16 p.
(http://bnm.md/ro/content/strategia-de-implementare-standardelor-bsel-iii-prin-prisma-cadrului-
legislativ-european)
3. Regulation on the bank's management framework, 35 p.
(http://bnm.md/ro/printpdf/content/regulamentul-privind-cadrul-de-administrare-activitatii-bancii-
aprobat-prin-hce-al-bnm-nr146)
4. Guidelines on common procedures and methodologies for the supervisory review and evaluation process
(SREP), EBA/GL/2014/13, 19 December 2014, 218 p.
(https://www.eba.europa.eu/documents/10180/935249/EBA-GL-2014
13+(Guidelines+on+SREP+methodologies+and+processes).pdf)