Pillar 2 addresses risks that Pillar 1 does not capture or does not capture adequately. It provides flexibility for supervisors to require additional capital based on firm-specific circumstances. The framework divides into two components with distinct purposes and consequences. Understanding the difference matters for capital planning, management reporting, and regulatory relations.
What is Pillar 2A?
Pillar 2A is a firm-specific minimum capital requirement. It covers risks not addressed under Pillar 1 and risks that Pillar 1 underestimates for a particular firm. This is a binding requirement. Firms must meet it at all times alongside Pillar 1. Breaching Pillar 2A is as serious as breaching Pillar 1 and triggers immediate supervisory action.
The PRA methodology covers several risk categories. Credit concentration risk recognises that Pillar 1 assumes diversified portfolios. A firm with concentrated exposures to particular sectors, counterparties, or geographies faces additional risk beyond what standardised risk weights capture. A bank heavily exposed to commercial property or to a single large corporate group needs extra capital.
Interest rate risk in the banking book captures potential losses from rate movements on non-trading positions. When rates rise, the value of fixed-rate mortgages falls. When rates fall, deposit margins compress. These exposures sit outside Pillar 1 market risk but can cause significant losses.
Pension obligation risk addresses the possibility that a defined benefit scheme requires additional contributions that strain the bank. If the scheme is in deficit, the bank may need to make good that shortfall. This potential drain on resources requires capital backing because it affects the bank’s ability to absorb other losses.
Other risks may attract Pillar 2A capital depending on the firm’s circumstances. These include operational risk where the standardised approach underestimates the true exposure. Credit risk where standardised risk weights are too low for the actual portfolio quality. Market risk for positions not fully captured in Pillar 1. The assessment is bespoke to each firm.
The PRA sets Pillar 2A through the Supervisory Review and Evaluation Process. It assesses each firm’s Internal Capital Adequacy Assessment Process and determines whether the firm’s own view of its capital needs is adequate. The result is communicated as a percentage of risk-weighted assets.
What is Pillar 2B?
Pillar 2B is different in nature. Also called the PRA buffer, it is capital that firms should maintain above their total capital requirements. The key word is should rather than must. This capital provides resilience against potential losses in severe but plausible stress scenarios.
The PRA buffer reflects forward-looking risks. It considers what might happen rather than current conditions. The primary input is stress testing. How would the firm perform under adverse economic conditions? What losses might it face? The buffer ensures the firm can continue operating through such scenarios without breaching minimum requirements.
The PRA may also incorporate allowances for weak governance or risk management within the buffer. This creates an incentive for firms to address deficiencies. The buffer component reduces as problems are resolved.
How they interact
Total capital requirements combine Pillar 1, Pillar 2A, and the combined buffer. The combined buffer includes the capital conservation buffer and any applicable systemic buffers. Pillar 2B sits above this stack.
Breaching Pillar 2A triggers immediate supervisory action. A firm must restore compliance urgently and may face restrictions on business and distributions. Using Pillar 2B triggers fewer restrictions but still requires a credible plan to rebuild the buffer. Firms cannot simply operate indefinitely at the minimum without consequences.
UK and EU differences
The EU framework uses Pillar 2 Requirements and Pillar 2 Guidance with similar concepts. Requirements are binding. Guidance sets supervisory expectations that firms should meet but is not directly binding in the same way. The ECB sets these through its SREP process for significant institutions in the Banking Union.
The PRA is currently reviewing its Pillar 2A methodologies following the introduction of Basel 3.1 standards. Phase 1 proposals were published in May 2025 with further changes expected. The aim is to ensure Pillar 2A remains appropriate and does not double-count risks now better captured in Pillar 1.
