Banking

The G-10 Governors and Heads of Supervision (GHOS), the oversight body of the Basel Committee on Banking Supervision, agreed to new capital standards for internationally active banking organizations at their Sept. 12 meeting.

The intent of the new agreement is to address lessons learned from the financial crisis. Among the problems identified were a low capital structure, insufficient liquidity, excess leverage, procyclical deleveraging, and systemic interconnections.

The new standards, commonly referred to as Basel III, would significantly strengthen existing capital requirements. The standards would also accomplish the following goals

• increase the minimum common equity requirement from 2 percent to 4.5 percent
• raise the core Tier 1 capital requirement (which includes common equity) to 6 percent from 4 percent
• require banks to hold an additional "conservation buffer" of 2.5 percent, bringing the total equity requirements to 7 percent and the Tier 1 capital requirement to 8.5 percent

New capital framework "a significant step forward"
The U.S. federal banking agencies, including the Federal Reserve System, the Office of the Comptroller of the Currency, and the Federal Deposit Insurance Corporation, released a statement on Sept. 12 endorsing the new standards. "The agreement represents a significant step forward in reducing the incidence and severity of future financial crises," said the joint press release. Further, the new standards will contribute to a "more stable banking system that is less prone to excessive risk-taking, and better able to absorb losses."

Capital requirements to be phased in over time
Under the new agreements, the minimum requirement for common equity will be phased in over two years, starting Jan. 1, 2013. However, certain capital deductions, as well as the phasing in of capital buffers, will have a longer transition period lasting until Jan. 1, 2019.

The transition period "is designed to give institutions the opportunity to implement the new prudential standards gradually over time, thus alleviating the potential for associated short-term pressures on the cost and availability of credit to households and businesses," according to the statement from U.S. regulators.

The agreement also allows individual nations to implement a countercyclical buffer within a range of 0 percent to 2.5 percent. "This buffer will only be in effect when there is excess credit growth that is resulting in a system wide build up of risk," said a GHOS press release.

The G-20 must approve the new rules before the individual countries enact them.

September 28, 2010