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Basel Should Have Been More Stringent, Turner Says

Adair Turner, chairman of the U.K. FSA
Adair Turner, chairman of the U.K. Financial Services Authority (FSA). Photographer: Chris Ratcliffe/Bloomberg

The chairman of the U.K.’s financial regulator would have set even higher capital ratios if he’d drafted the new Basel III banking rules.

“If we were philosopher kings designing a banking system entirely anew for a greenfield economy, should we have set still higher capital ratios than in the Basel III regime? Yes I believe we should,” the Financial Services Authority’s Adair Turner said at the Mansion House dinner in London. “But starting from where we actually are, the Basel III reforms will significantly improve the resilience of our banking systems.”

Regulators of the Basel Committee on Banking Supervision reached an agreement Sept. 12 for rules that more than double capital requirements for banks, while giving them as long as eight years to comply. Germany had sought to give firms a decade to make the transition, while the U.S., U.K. and Switzerland pushed for a maximum of five years.

“While Basel III and new approaches to systemically important firms are important steps to a more resilient system, they are not in themselves sufficient,” Turner said yesterday. “Alongside permanent rules, we need processes for evaluating emerging risks, for changing the rules if needed, and for pulling policy levers which are discretionary and varied.”

Basel III requires lenders to have common equity equal to at least 7 percent of assets, weighted according to their risk.

More Than Basel

Big British banks are likely to be forced to hold more capital than required under the Basel rules, Turner said in an interview with the Financial Times. In the speech, Turner said that the Basel Committee recognized that the largest banks might need additional capacity to absorb losses.

“This could be achieved through some combination of higher equity capital requirements or a bigger layer of subordinated debt,” he said in the Mansion House speech.

Simon Gleeson, a financial regulation partner at Clifford Chance LLP, said that the Basel III capital requirements would be adopted under European Union legislation that would “give discretion” to a new pan-European regulator.

“It would surprise me very much if the directive would give the FSA any room to go beyond it,” Gleeson said in a phone interview today in London.

The European Banking Authority is scheduled to be formally approved by members of the European Parliament today and will have powers to mediate between national supervisors and write a common rulebook for regulators. It will be based in London and start operating in January.

Inadequate Regulation

The FSA, which was criticized for its regulation in the wake of the global financial crisis, is being abolished by Prime Minister David Cameron’s coalition government and its powers distributed. Turner said inadequate regulation was more to blame for the near collapse of the banking system than excessive leverage and bonuses.

As part of its abolition, an independent Consumer Protection and Markets Authority will get the agency’s powers to regulate exchanges and credit products as well as police market abuse and fine banks. The Bank of England will oversee the financial soundness of lenders and insurers.

The U.K.’s creation of a new Financial Policy Committee “will fill the crucial gap” in the regulatory structure by limiting credit booms, Turner said.

‘The Full Toolkit’

“The full toolkit to achieve that constraint is still to be defined,” he said. “It will certainly include countercyclical capital buffers, increased to slow down excessive credit growth, reduced to support lending in recessions.”

The agency may also limit commercial real-estate lending and set maximum loan-to-value ratios, Turner said.

Excessive risk-taking tied to bonuses has been blamed for contributing to a record number of bailouts and drawn the scrutiny of regulators including the FSA.

“There were some absurd bonuses for excessive risk-taking: there was an explosion of exotic product development which last year I labeled as ‘socially useless,’ a phrase from which I in no way draw back,” Turner said. “There were failures in risk- management practices and systems which top management and boards should have put right, and which the FSA, as we have openly admitted, should more aggressively have challenged.”

Turner, who last week defended new bonus rules that have drawn concern from money managers, said “ill-designed policy is a more powerful force for harm than individual greed or error.”

The FSA in July proposed expanding to 2,500 from 27 the number of firms covered by European Union compensation rules. EU governments agreed in June that directors of banks that received public money must justify their bonuses and lenders must report how many workers earn more than 1 million euros ($1.3 million).

“We do need appropriate regulation of bonuses to reduce incentives for excessive risk taking,” Turner said. “We also need to move beyond the demonization of overpaid traders and their unnecessary CDO-squareds.”

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