American banks lobby for diluted Basel III amid US-Europe tensions
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American banks lobby for diluted Basel III amid US-Europe tensions

Debate rages over whether the US will implement Basel III, amid fierce domestic lobbying, while a partial implementation of the framework detracts from Basel’s original mission: to reduce regulatory arbitrage and global systemic risk. Nevertheless, the US case against Basel can’t be dismissed.

As fears grow that the US will fail to implement Basel III – undermining the bid for a global level-playing field for banks – bank lobbyists reveal their pitch to give US regulators diplomatic cover. The emerging mantra is: the US might not implement Basel III rulesin full, as it does not matter if individual countries differ on the fine detail, as long as the overall regulatory principles are consistent.

Wayne Abernathy, executive vice-president for financial institutions policy and regulatory affairs at the American Bankers Association, sums up the rationale behind the pitch: “The need for uniform standards [in Basel III] is often overstated.”

Congress has called for a nationwide quantitative impact study (QIS) to determine the suitability of Basel III for the US, and its impact on banks and corporates. This has left Basel III hanging in the balance in the US, pending the outcome of the QIS, resulting in a spat between American and European regulators over the US’s belated decision to mull over the framework initially drafted in 2009.

What’s more, legislative efforts are afoot ostensibly to resolve the too-big-to-fail problem blighting US taxpayers, with a focus on the increase in the leverage ratio and the concomitant removal of risk-weighting of banks’ assets – with the latter move in effect heralding the death of US compliance with Basel III.

Thomas Hoenig, director of the Federal Deposit Insurance Corporation and a long-standing critic of Basel, redoubled his critique at the American Banker Regulatory Symposium in Washington late last year, describing the rules as “more complicated than simple, more confusing than clear and more easily gamed than not”.

He added: “The poor record of Basel I, II and II.5 is that of a system fundamentally flawed. Basel III is a continuation of these efforts, but with more complexity.”

Despite assurances to the contrary from Michel Barnier, the European commissioner for the internal market and services, it is therefore possible the US will either reject Basel III implementation, or, perhaps, more likely claim Basel III implementation but tailored to the US – though some might dispute there is material difference between the two scenarios.

In other words, the US could enact a simplified, skeletal version of Basel III with agreed basic standards, such as levels of high-quality capital to be held by financial institutions, and many of the same basic definitions.

“There is clearly a value in having agreement about the basics, what constitutes capital and how much capital should be held in reserve,” says Abernathy. “Those parts of the rules could be preserved.”

However, in its full form, US politicians and the banking community feel Basel III is excessively complex, and that its one-size-fits-all approach undermines its usefulness. “Some bits don’t look like they fit the US economy well,” says Abernathy.

The complex and prescriptive nature of the rules leave no room for the considerable differences between banking systems in the US and Europe, says Abernathy, adding: “The US banking system is much more diverse than in Europe.”

Therefore, the fine detail, particularly relating to the removal or modification of risk weighting of assets, should be formulated and implemented at a more local level, says Abernathy. “Those details are idiosyncratic,” he says. “It would be quixotic and counterproductive to implement the proposed Basel III regulations in full.”

Further, there is a familiar whiff of US unilateralism: if Congress had been involved in formulating the rules, US regulators would have had more confidence in the integrity of the framework.

“Had Congress been involved, some of the mistakes we see in there might have been avoided,” says Abernathy. “They would have spotted that the clauses affecting mortgage servicing rights would be damaging, because that business is much bigger in the US, and we have a very different process for mortgage servicing.”

Congress would also have recognized the benefits of supervision over granular and prescriptive regulations that might cause negative unintended consequences, Abernathy says.

The rules for calculating the unrecognized gains and losses in the capital calculation are perhaps the biggest concern, and should be drafted at the local level, say US lobbyists.

Some have been taken aback at the hostility Basel III guidance has received in the US, from politicians, bankers and corporates. “Regulators expected some concerns but not the level of hostility they have met over this,” says Abernathy.

However, any failure to implement Basel III in full does not imply the spirit of those rules is entirely absent from US regulations.

“On a big picture basis, Dodd-Frank is the key US statutory framework governing by which US banks will be brought into the global regulatory standards set out in Basel III,” says Steven Solmonson, senior vice-president at Spectrum Asset Management. “There are some differences, such as implementation timelines and capital computations, but broadly speaking Dodd-Frank and Basel III fall in line,” he says.

Abernathy also rejected European concerns that its banks will be disadvantaged if the US does not subject its banks to Basel III in its entirety.

“If a national bank has a lower cost of capital for not implementing all of Basel III, that is an indictment of the value investors attach to those rules,” he says. “If the market felt those rules were really necessary, or made a bank safer, not implementing them would make the cost of capital go up, not down.”

Whatever the outcome of the QIS, the US should not reject implementation of a new regulatory regime on the basis of cost, warns Solmonson.

“The details are messy and costly,” he says. “Given many layers of political, commissions, governmental agencies, intergovernmental organizations and other special interests involved, one could never reasonably expect a streamlined, efficient and low-cost master plan to emerge.”

Abernathy’s pitch, from an organization that did little to avert the global crisis, would be seen as invidious from the perspective of global banking reform aficionados.

What’s more, the emerging view – that the US could implement the spirit of Basel III by mandating hikes in capital – goes against the grain of Basel’s original mission: harmonization of global capital standards to avert another financial crisis and regulatory arbitrage.

Nevertheless, there is an alternative route: the Basel Committee might eventually pay heed to US concerns – especially the need for simplicity.

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