Basel Committee sketches regulatory action plan

The Basel Committee on Banking Supervision on Tuesday outlined the regulatory areas it will turn its focus to after Basel III, in a comprehensive report prepared for G20 central bank governors and finance ministers.

Ahead of the G20 governors' and finance ministers' meeting in Gyeongju, Korea, on Friday and Saturday, the Basel Committee set out eight areas for future work: a fundamental review of the trading book; ratings and securitisations; systemically-important banks; contingent capital; large exposures; cross-border bank resolution; a review of the core principles for effective bank supervision; and standards implementation.

Trading book
The Basel Committee said the crisis had exposed basic flaws in the regulatory approach to market risk and trading activities, and that a review of these measures would be completed by the end of next year. "This review is studying, in particular, whether or not the distinction between the banking and trading book should be maintained, how trading activities are defined and how risks in trading books should be captured by regulatory capital," the committee said.

Ratings
G20 leaders have said the financial community's reliance on ratings must be addressed, and the Basel Committee has already introduced extra due diligence requirements to boost the thoroughness of ratings pertaining to securitisations. Banks will be required to collect information on the risks underlying their exposures, and failure to do so will see a deduction from their regulatory capital stashes. The Basel Committee is assessing whether further guidance is needed to accompany this. It is also reviewing the methods used to calculate regulatory capital requirements for securitisations, and how best to negate arbitrage arising from such standards, and the work is slated for completion by the end of 2011.

Systemically important banks
The body is also working on a provisional methodology to assess the systemic importance of banks, using both qualitative and quantitative indicators. It will complete by mid-2011 a study into how much extra capital such banks must hold to withstand losses.

Large exposure rules
Varying limits exist in different jurisdictions as to the amount of exposure a bank can have to a single source. The Basel Committee is reviewing the different rules to strengthen its guidance on the issue. Addressing risk concentration was "even more crucial for systemically important banks, given the potential impact that their weakened solvency could have on other financial institutions," the report said.

Contingent capital
Contingent capital could improve the ability of going-concerns to absorb loss, the Basel Committee said, echoing the views of central bankers like Mark Carney, the governor of the Bank of Canada. The Basel Committee said it was reviewing various types of contingent capital instrument, and would publish its findings mid-2011.

Cross-border resolution
The Basel Committee is considering conducting an evaluation of the legal and policy impediments to setting up cross-border resolution regimes. The lack of such regimes has been flagged as a serious shortcoming by leading policymakers and bankers.

Reviewing core supervision principles
The Basel Committee's core principles for effective supervision were last reviewed in October 2006, and an update was in order, the report said, pointing to the amount of supervisory notes and guidance that has been issued in the aftermath of the crisis. "Many of the supervisory lessons learned during the crisis... need to be incorporated in a revised set of core principles," the Basel Committee said.

Implementation
Proper implementation of the reforms was key, the Basel Committee said. In addition to the work of the Standards Implementation Group (SIG), set up in January 2009, the committee said it would consider developing further guidance, where necessary, on how best to implement regulatory reforms.

Nout Wellink, the chairman of the Basel Committee and the president of the Netherlands Bank, reiterated regulators' stance on Basel III. He said the tightened capital and liquidity rules and reintroduced leverage ratio would "safeguard financial stability and economic growth, and [reduce] the exposure to the public sector and taxpayers."

Industry participants have maintained that while the reform package will benefit financial stability, growth will take a bigger hit than the Basel Committee has forecast. The Macroeconomic Assessment Group, which comprises Basel Committee and Financial Stability Board members, said in August that the higher capital ratios would knock a maximum of 0.76% off growth over the next four and a half years. The Institute of International Finance, a lobby group headed by Josef Ackermann, the chief executive of Deutsche Bank, says Basel III will cost the United States, eurozone and Japan 3.1% in output by 2015.