Basel was faulty

Published: December 17 2009 14:22 Last updated: December 17 2009 17:55

When push came to shove in the financial crisis, banks’ ordinary equity was too sparse and their prodigious amounts of quasi-equity could not take the losses. Now, the Basel Committee on Banking Supervision has proposed a comprehensive shake-up that aims to correct such faults. Although it gives few hard numbers, first impressions are of a punitive regime. Investors sold off bank shares around the world on Thursday on fears they may soon have to raise bucketloads of fresh capital.
Yet investors should welcome the Basel committee’s emphasis on beefing up permanent capital. Funny money hybrids will be phased out. The capital proposals are appropriately targeted: banks trading in derivatives, for example, will have to hold extra capital against counterparty risk. Furthermore, a leverage ratio – the preferred measure in the US – will be introduced as a supplementary dial on the regulatory dashboard. While many European banks already report such a ratio, it will be “harmonised internationally” to cater for differing accounting treatments around the world. In a nod to Spanish measures, the committee also wants to curb pro-cyclicality, requiring banks to bolster capital in good times. A minimum liquidity standard for internationally-active banks provides further protection.

Capturing the zeitgeist, there is a populist measure buried at the end of the proposal: a cap on bonus and dividend payments or share buybacks for banks if their capital drops nears a new, minimum level. This headline-grabbing recommendation is a reminder that regulation is a political game with many rival players, including the G20’s Financial Stability Board, each one jockeying for position. It is also just a framework, with actual ratios not set until late next year, with a view to adoption two years after that. Now the real lobbying by banks will begin.