Tuesday, September 14, 2010

Basel III – What’s all the fuss about?

Right wing commentators have talked about how increased capital requirements mean that banks won’t be able to get out there with their money and stimulate the economy. Left wing commentators hope that the buffer keeps executive compensation in check when tough times are upon us again. But overall, the Basel III changes are not going to have a meaningful impact on banks, nor are they going to prevent another financial meltdown.

The new regulations require banks to increase their core tier-one capital ratio to 4.5%, up from the current 2%. In addition, they will have to carry a capital conservation buffer of 2.5%. And this is all going to be phased in gradually – banks have until 2019 to be fully compliant!

According to the Basel Committee “The purpose of the conservation buffer is to ensure that banks maintain a buffer of capital that can be used to absorb losses during periods of financial and economic stress. While banks are allowed to draw on the buffer during such periods of stress, the closer their regulatory capital ratios approach the minimum requirement, the greater the constraints on earnings distributions.” This means that, maybe, banks have to be more cautious about the timing of bonuses and dividend increases.

The new requirements are not onerous. While it is laudable that 27 countries have got together to accept these rules, thereby creating a level global playing field, it has not materially changed the banking environment. Don’t let anyone tell you it has.

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