News Excerpt:

The U.S. Federal Reserve said that it will make significant changes to a sweeping proposal for stricter bank capital requirements known as the “Basel III endgame”.

More about the news:

• The proposed changes are a win for Wall Street banks that have waged an unprecedented campaign to water down the “Basel III endgame” rules. 

• The rules of the Basel Committee on Banking Supervision, which would apply to banks with over $100 billion in assets, would overhaul the way the biggest banks manage their capital, with knock-on implications for lending and trading activities.
• Banks say additional capital is unnecessary and will hurt the economy, and have aggressively lobbied against the project.

What is the Basel Committee?

• The Basel Committee on Banking Supervision was established in 1974 to enhance financial stability by improving the quality of bank supervision. 

• • India joined BCBS in 2009.

• It is a panel convened by the Bank for International Settlements (BIS) in Basel, Switzerland.
• It is the primary global standard-setter for the prudential regulation of banks and aims to ensure regulators globally apply similar minimum capital standards so that banks can survive loan losses during tough times.
• It has no legal authority to impose the minimum standards to which the Committee agrees. 
• Adopting rules is the responsibility of the governments of the 26 countries (plus the European Union and Hong Kong) who comprise the committee. 

What is the Basel III Endgame?

• Basel III is a set of measures developed by the Basel Committee in the years following the global financial crisis of 2007-09. It includes numerous capital, leverage and liquidity requirements. 
• The measures, rolled out over several years, aim to strengthen the regulation, supervision, and risk management of banks. 
• The final set of rules that were agreed in 2017 has been dubbed the “Basel III Endgame.” 
• These rules focus on the amount of capital that banks must have against the credit, operational, and market riskiness of their business.

Provisions of Basel III Endgame:

• The Rules would apply to banks with over $100 billion in assets.
• The Rules would overhaul how banks gauge their risk and how much capital they should set aside as a cushion against potential losses. 
• The main areas of focus are credit risk, market risk and operational risk.
• Credit Risk:
• On credit risk, regulators are seeking to end banks’ ability to use internal risk models when determining how much capital should be held against lending activities such as mortgages or corporate loans.
• Internal models of banks can often underestimate risk, as banks are incentivised to keep their capital costs low. 
• Instead, regulators would prefer uniform modelling standards across large banks.

• Market Risks:

• Similarly, the proposal would establish new requirements for how banks gauge the risk posed by swings in the markets and potential losses from trading. 
• Regulators say these market risks are understated at present.

• Operational Risk:

• Gauging operational risk is a key new area of the Basel Endgame. 
• This refers to the potential losses banks could face from unexpected sources, such as failed internal policies, management mistakes, litigation costs or external events.
• Similar to credit risk, regulators are looking to replace existing internal models with a standardised approach, which would take into account a bank’s various activities and historical operational losses when calculating capital levels.
• Banks have warned this approach could lead to significantly higher costs for some banks that rely heavily on non-interest fee income, such as credit card and investment banking fees. 
• Those fees are included in a formula used to help calculate operational risk, and banks warn it could lead to disproportionately higher capital requirements for some firms if not capped.
• When assessing these risks, banks will be permitted to continue using internal models approved by regulators, though standardised models may be required for particularly complex risks. 
• All told, the changes would result in higher capital requirements for banks with large trading operations.

Why are U.S. banks opposing the Basel III Endgame rules?

• Banks warned that the new Rules could lead to significantly higher costs for some banks that rely heavily on non-interest fee income, such as credit card and investment banking fees. 
• Banks have also complained that regulators have not provided sufficient data to justify the new increases, and have even threatened to sue.
• While the rules have been years in the making, banks had hoped U.S. regulators would offer relief elsewhere by making tweaks to existing capital requirements to help offset the new hikes. 
• But the regulatory body had refused to give any concession to the banks up until now.

Proposed changes of the U.S. Federal Reserve:

• The Federal Reserve is considering making significant changes to the Rules following months of criticism and pressure from the industry.
• The agencies are expected to significantly lower the overall capital impact of the new rules.