19 August 2011

Bloomberg: Global bank capital regime at risk as regulators spar over rules

Basel III capital standards may be eroding as the US faces formidable problems with the rules because of conflicts with the Dodd-Frank Act, and European officials rewriting regulations.

As they put the standards into effect in their own countries, European Union lawmakers are revising definitions of capital, while the US is struggling to reconcile the Basel mandates with financial reforms imposed by the Dodd-Frank Act. “The game on the ground has changed in Europe and the US,” said V Gerard Comizio, a former Treasury Department lawyer. “The realists in Europe realised that their banks cannot raise the capital they’d need to comply. US banks have reversed course and are more assertively fighting against it. The future of Basel III looks less certain now than it did when it was agreed to.”

The European Commission proposed regulations to parliament last month that would translate Basel III into law. A majority of EU governments must also endorse them. US regulators led by the Federal Reserve have to come up with their own version, though they don’t need legislative approval. The proposed EU rules omitted a ratio designed to improve banks’ cash positions, deferred decision on a rule to limit borrowing, revised capital definitions and extended some compliance dates. In the US, regulators are stymied because the 2010 Dodd-Frank Act bars the use in banking rules of credit ratings, which Basel III relies on to determine risk.

“Implementation is a big concern in Europe and the US”, said Karel Lannoo, head of the Centre for European Policy Studies in Brussels. “The EU crisis isn’t over; the US isn’t safely out of its mess. If we can’t get the rules that were supposed to protect the financial system from collapse, we won’t have changed anything to help us the next time around.” Renewed concern this year that Greece may be unable to pay its debts, and similar worries about larger EU members Italy and Spain, have darkened Basel’s prospects. The sputtering economic recovery in the US and Europe has hurt, too.

Now the US faces obstacles implementing Basel III because of conflicts with Dodd-Frank. The law’s ban on credit ratings was the result of criticism that Moody’s and other rating firms gave mortgage-related securities investment-grade ratings they didn’t deserve. “If the US agencies are unable to implement the Basel committee changes that reference credit ratings, other jurisdictions may infer a lessening of the US commitment to the Basel framework”, David Wilson, the OCC’s chief national bank examiner, told a congressional oversight panel last month.

Different interpretations by national regulators emerged during previous incarnations of the accords, known as Basel I and II. "Conflicts over Basel III could undermine the new regime if more countries follow Europe’s example and come up with their own versions of the rules", said Vishal Vedi, a London-based partner at Deloitte LLP’s financial-advisory practice. “There’s concern that divergences between the EU and the US on Basel III implementation will be bigger this time”, Vedi said. “There’s a line when the spirit of Basel III is tossed aside. I don’t think we’re there yet.”

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