14 September 2010

BIS and new capital rules: God bless you!

The world’s top bank regulators agreed Sunday on new rules intended to make the global banking industry safer and protect international economies from future financial disasters.
The centerpiece of the agreement is a measure that requires banks to raise the amount of common equity they hold from 2% to 4.5%. In addition, banks will be required to hold a capital conservation buffer of 2.5% to withstand future periods of stress bringing the total common equity requirements to 7%. If banks needed to dip into that 2.5% buffer, they would face restrictions on how much they could pay executives or distribute to shareholders. An additional mandatory 2.5% countercyclical buffer was however dropped and replaced by a discretionary amount in the range of 0% – 2.5% of common equity or other fully loss absorbing capital to be implemented according to national circumstances. This buffer will only be in effect when there is excess credit growth that is resulting in a system wide build up of risk.

For banks, this is good news. The new minimum ratio of core tier one capital to risk-weighted assets will be 7 per cent is quite lenient, and the implementation is phased gradually until the end of 2018. Banks would have to begin raising their common equity levels in 2013. The implementation of the countercyclical buffer will be subject of lobbying from banks to make sure it is kept to the minimum possible, i.e. 0%; a lot of politics is going to get in between; the BIS should have imposed it despite cry foul from banks (European ones in particular that are undercapitalized).
Return on Equity of banks will mechanically decrease having to put aside more equity for the same amount of assets, everything being equal. And it is probable however that part of this will passed onto customers, especially retail ones: credit will not come cheaper.

BIS: Press release - Group of Governors and Heads of Supervision announces higher global minimum capital standards