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Basel III looking tougher than expected

Felix Salmon says that the international regulations on bank capital are looking pretty good, at least if you can trust a report in Die Zeit:

They start with a bare minimum Tier 1 capital requirement of 6%; that’s a substantial increase of 50% over the 4% minimum that holds right now. And then they get tougher. There’s also a 3% conservation buffer: essentially, if your Tier 1 capital is less than 9%, you’re constrained in what you can do; certainly you can’t pay out dividends to shareholders. On top of that, the countercyclical capital buffer is being set at another 3%, which means that in good times, healthy banks wanting to pay dividends will need Tier 1 capital of 12%.

Ah, you say, but can’t they just be clever with definitions, including all manner of dodgy-looking assets as part of their Tier 1 capital? Well, yes. So there’s a parallel set of requirements for what they’re calling Core Tier 1: essentially, pure equity. That has a minimum of 5%, plus a conservation buffer of 2.5%, plus a countercyclical capital buffer of another 2.5%.

In other words, banks will have to hold more cash on-hand in order to pay off their debts when the market turns against them. That means fewer bank failures and fewer taxpayer bailouts. If the final regulations out of Basel III are really this strong, it'll mean the administration scored a serious win against European countries that wanted much less in the way of capital requirements.

(Confused by this post? Then read this one.)

By Ezra Klein  |  September 7, 2010; 10:03 AM ET
Categories:  Explaining financial regulation  
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Via second link at Denninger's:

"In Basel, Switzerland, global banking capital regulations, known as the Basel III rules, are in the process of being finalized. The rules are nothing but a stunning move by governments and the elite to direct money flows in their direction. When implemented, it will, over time, result in a lower standard of living on a global level for nearly all and greater separation between the super-wealthy tied in with global governments, and the rest of us."

Posted by: msoja | September 7, 2010 10:35 AM | Report abuse

That 12% tier one capital ratio sounds really tough, doesn't it? Especially compared with the previous minimum of 4%.

But remember Lehman failed with tier one capital at 11%. At technically, in Sept2008 times were bad, so it's not at all certain whether or not the next Lehman would need to be sitting at 12% tier one capital or 9% in order to be paying dividends. Morgan Stanley was above 12% in the middle of 2008 - it survived, but what would have happened if there was no intervention for Bear, Citi, TARP, etc? It's anyone's guess.

Consider this commentary - the error surrounding bank capital measurements for complex institution is often more than 100%. In other words, we cannot adequately distinguish between well capitalized and insolvent banks, particularly the large complex banks such as Goldman, Morgan, JPM, BoA, Citi, etc.

The problem is very complex institutions holding a wide array of very complex securities and instruments on their balance sheets. Capital limits don't solve that problem.

Posted by: justin84 | September 7, 2010 12:01 PM | Report abuse

Potentially this is the most significant development, may be even more important than USA FinReg. It is important precisely because it is trying to define terms for tomorrow's Banking behemoths - Chinese, Indian and Brazilian Banks. Eventually European and American banks are likely not to look 'so taller' as these emerging economies catch with size.

On the back of these Basel III regulations, Market is worried that European banks would find it harder to raise the necessary capital; their part 2 after the stress test. (Geithner, Bernanke and Summers gang have practically institutionalized a political mechanism in handling financial crisis in early 21st century - undertake stress test, declare banks are fine so that those banks can go to market and raise capital without tax payers. First in USA it worked and now we have every sovereign system in the world repeating that. I am looking for 'stress test' for Afghan banks....)

So even though in the initial round USA might have bit prevailed compared to Europe in Basel III; there is still a long way. As European Economy again starts wobbling, expect more resistance and dilution of these Basel norms.

On side note – comment by ‘msoja’ does not make sense. Also even though what ‘justin84’ may be applicable, it does not mean we should not have Basel III. We need that and we may need more than that. But in itself Basel III is good for stability of global financial system even though it may not be sufficient.

Posted by: umesh409 | September 7, 2010 1:04 PM | Report abuse

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