Basel Bank Regulator Leaves Door Open to Tougher Debt Rule

Global regulators left the door ajar for a tougher limit on bank indebtedness, saying a proposed leverage ratio may need more changes to act as a brake on irresponsible behavior.

The Basel Committee on Banking Supervision will probe how lenders respond to the current version of the debt rule and will refine the measure if required, the group’s chairman, Stefan Ingves, said yesterday. The committee will make adjustments to the threshold by 2017 at the latest.

“The leverage ratio should be a meaningful backstop,” Ingves said, according to the text of a speech he delivered in Auckland. “A requirement that does not constrain anyone at any time is not worth bothering with.”

The Basel group added a leverage ratio to its armory as part of its overhaul of bank rules in the wake of the 2008 financial crisis. The ratio is designed to curb lenders’ reliance on debt by setting a minimum standard for how much capital they must have as a percentage of all their assets.

Under Basel agreements, banks will begin disclosing how well they measure up to the leverage ratio from the start of next year, with the rule scheduled to become binding in 2018.

The leverage ratio differs from other capital rules set by the Basel committee in that it doesn’t take into account the perceived riskiness of banks’ assets.

The clamor for the measure followed concerns about banks’ ability to reduce their capital requirements by simply changing how they measure the risk of losses on their assets.

Three Percent

While the bar for banks to meet the rule has been provisionally set as having Tier 1 capital, a measure of bank equity, equivalent to 3 percent of their assets, this will be reviewed to make sure the “calibration” is right, Ingves said.

“Some see this as too low,” he said. “On the other hand, banks have warned of the dangers of the leverage ratio being set in such a way that it replaces the risk-based framework as the binding capital constraint on bank balance sheets.”

Banks such as BNP Paribas SA, Bank of America Corp. and Citigroup Inc. called for amendments to a now superseded draft of the leverage rule published last year, saying it would hamper economic growth and job creation, make it more expensive for governments to sell their debt and give banks incentives to invest in riskier assets.

Updated Blueprint

The Basel group published an updated blueprint in January, giving lenders more scope to use an accounting practice known as netting to calculate the ratio, and easing proposals on how lenders determine the size of their off-balance sheet activities. Other amendments were targeted at averting the risk that banks end up double-counting some derivatives trades.

Ingves rejected arguments put forward by some banks that the leverage ratio runs counter to the aim of other Basel rules by giving banks incentives to make risky investments in a bid to maximize profits.

“This viewpoint is somewhat naive,” Ingves said.

While a leverage ratio “by itself, may also create an incentive to take on high-risk assets,” liquidity rules compensate for that by requiring lenders to invest in some easy-to-sell securities, he said. This means that the rules “mutually reinforce” each other rather than clash, he said.

Aside from the leverage limit, the Basel committee is working on a liquidity rule, known as a net-stable funding ratio, aimed at forcing banks to finance longer-term investments from sources, such as term deposits and capital, that are unlikely to dry up in a crisis.

Advanced Stage

“Banks have been turning their attention to the net stable funding ratio, giving that work on other parts of the Basel III package is at a pretty advanced stage,” Simon Hills, executive director at the British Bankers’ Association, said in a telephone interview.

“Concerns there include making sure that the NSFR rule doesn’t penalize trade-finance activities, which are essentially low margin, and also that there is a realistic treatment of cash management accounts held with banks by non-financial corporates, as in practice these would take time to wind down in a crisis, so are a pretty stable funding source,” he said.

The group published an updated draft version of that rule in January. The measure is set to apply from 2018.

The Basel committee brings together regulators from 27 nations including the U.S., U.K. and China to coordinate rule-making.

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