Basel III

Regulators Back New Bank Rules to Avert Crises
By JACK EWING and SEWELL CHAN
Published: September 12, 2010, www.nytimes.com

BASEL, Switzerland — The world’s top bank regulators agreed Sunday on far-reaching new rules intended to make the global banking industry safer and protect international economies from future financial disasters.

The new requirements will more than triple the amount of capital that banks must hold in reserve, an effort to move banks toward more conservative positions and force them to maintain a larger cushion against potential losses. They come two years after the collapse of Lehman Brothers set off a worldwide banking crisis that required billions in government bailouts.

The centerpiece of the agreement is a measure that requires banks to raise the amount of common equity they hold — considered the least risky form of capital — to 7 percent of assets from 2 percent. Together with other requirements intended to safeguard against risk, it could significantly alter the way banks do business.

Banks have warned that the new regulations could reduce profits, strain weaker institutions and raise the cost of borrowing. But regulators provided a lengthy transition period to give banks time to adjust — the better part of the decade for some of the strictest rules.

“The agreements reached today are a fundamental strengthening of global capital standards,” Jean-Claude Trichet, president of the European Central Bank and chairman of the group, which included financial officials from 27 countries.

While some banking groups have claimed the rules will require them to curtail credit and cripple economic growth, Mr. Trichet took the opposite view, saying in a statement that the rules’ “contribution to long-term financial stability and growth will be substantial.”

Others said that the modest effect on growth or borrowing costs was a small price to pay for a less combustible financial system.

“It will make banks less profitable, probably,” said Joe Peek, professor of international banking and financial economics at the University of Kentucky. “But it will make the system safer, because there will be more of a cushion from insolvency, so banks can withstand more of a hit and still walk away alive.”

The recommendations by the group, which includes Ben S. Bernanke, chairman of the Federal Reserve, are subject to approval in November by the G-20 nations and then enactment by individual nations before they become binding. The group set a deadline of Jan. 1, 2013, for member nations to begin to phase in the rules, known as Basel III.

Some bankers expressed support for the new regulations. “Banks will unarguably be safer institutions,” said Anders Kvist, head of group treasury at SEB, a bank based in Stockholm that has operations throughout Europe.

Many banks, however, have warned that the new rules would tighten the credit available to borrowers.

“This high capital level will decrease the ability of banks to lend,” said Scott E. Talbott of the Financial Services Roundtable, which represents the largest American banks.

While the new regulations require a substantial increase in capital reserves, they are not as severe as some analysts had predicted. Officials who participated in the meetings said the United States would have liked even stricter capital requirements and a shorter transition time, but were satisfied that this was an effective accord that could attract international support.

“It was not that hard,” one American official said.

The group, the Basel Committee on Banking Supervision, stuck with its plans to oblige banks to protect themselves when they engaged in non-banking activities or made investments in instruments that were not on their balance sheets.

This provision, called a leverage ratio, is an attempt to require banks to hold reserves against all their money at risk, with no leeway to play games with accounting rules.

The 7 percent common equity requirement includes a 2.5 percent buffer that banks could draw down in times of crisis. But if they dipped into that money they would face restrictions on how much they could pay executives or distribute to shareholders.

Common equity is the amount of money that shareholders have invested in a company’s stock, as well as profits that are not paid as dividends. The new minimum requirement for reserves refers to the amount of these conservative assets banks must hold in relation to so-called risk-weighted assets.

Some countries were pushing for an additional buffer of 2.5 percent, for a total of 9.5 percent, to be imposed in good times but when there were signs of economic overheating. But the Basel group could not agree on the measure and left it up to individual countries whether to adopt it.

The rules would be phased in gradually to give banks plenty of time to adjust, with some provisions not taking full effect until the beginning of 2019. Banks would have to begin raising their common equity levels in 2013.

A representative for the American Bankers Association, a trade group for the country’s 8,000 banks, expressed satisfaction on Sunday that the group’s concerns had been addressed. “Banks understand the need for heightened prudential standards,” said Mary Frances Monroe, vice president for regulatory policy at the association.

Regulators left open the possibility that they might still impose stricter rules on “systemically important” banks, institutions whose problems could spread throughout the financial system.

The three top American banking regulators — the Federal Reserve, the Federal Deposit Insurance Corporation and the Office of the Comptroller of the Currency — issued a joint statement saying the accord “represents a significant step forward in reducing the incidence and severity of future financial crises.”

But while the United States is expected to adopt the reforms, they could be diluted as they are codified into law by other nations. “Every country is going to face pressure from its banking industry to interpret the rules in a way that favors their banks,” said David Andrew Singer, a political scientist at the Massachusetts Institute of Technology.

In a nod to Germany’s public-sector landesbanks, which had predicted they might need to raise 50 billion euros ($63 billion) to comply with the new rules, the Basel group allowed banks to continue to apply government bailout money toward capital reserves through the end of 2017.

Some banks may face market pressure to stock up on capital sooner, and the rules could encourage weaker banks in the United States and elsewhere to merge with stronger partners. But the effect may be less than feared because many banks have already increased their reserves in anticipation of the new rules or are planning to do so.

Deutsche Bank in Frankfurt said on Sunday that it would sell shares worth 9.8 billion euros beginning at the end of this month, primarily to finance the acquisition of Deutsche Postbank, a German retail bank, but also to bolster its reserves.

Other European banks that may need to raise money include Société Générale in France and Lloyds in Britain as well as Deutsche Bank, according to calculations by Morgan Stanley made before the new rules were announced.

Banks that have already increased capital, like SEB and UBS in Switzerland, will be better placed and may be able to pay out profits to shareholders.

The rules also include provisions intended to make the financial world more transparent, for example, giving banks incentives to trade exotic derivatives on open markets rather than secretly between institutions. They would also will tighten how common equity and risk-weighting are defined to prevent banks from looking for loopholes.

Jack Ewing reported from Basel, Switzerland, and Sewell Chan from Washington.