New Basel framework will impact GDP

MANILA, Philippines - The implementation of the Basel III framework may lead to a decline in the level of gross domestic product (GDP) relative to its baseline path by about 0.20 percent after implementation is completed. 

In terms of growth rates, the annual growth rate would be reduced by an average of 0.04 percentage points over a four and a half year period.

That is based on an assessment made by the Financial Stability Board (FSB) and Basel Committee on Banking Supervision (BCBS) to the calibration of the new bank capital and liquidity standards, and to inform the transition arrangements for implementation of the new banking standards.

“A 25-percent increase in liquid asset holdings is found to have an output effect less than half that associated with a one-percentage point increase in capital ratios. The projected impacts arise mainly from banks passing on higher costs to borrowers, which results in a slowdown in investment,” the Bank for International Settlement (BIS) said in a press statement.

The BIS committees also consulted the International Monetary Fund (IMF).

The assessment was contained in two reports entitled, “An assessment of the long-term economic impact of stronger capital and liquidity requirements,” prepared by the Basel Committee, and “Assessing the macroeconomic impact of the transition to stronger capital and liquidity requirements.”

 A joint FSB-BCBS Macroeconomic Assessment Group (MAG) will release its final recommendations based likewise on the feedback from member central banks of the BIS. The BIS is an international body composed of all the central banks.

Together, the two reports provide an assessment of both the net economic impact of stronger capital and liquidity reforms once implementation is complete and the macroeconomic implications during the transition to full implementation.

“In all of these estimates, GDP returns to its baseline path in subsequent years,” the report said, adding that financial stability should likewise be attained.

However, The Asian Banker calculated that with the eventual redefinition of Tier 1 capital, the heavy use hybrid capital by Asian banks, especially those in Malaysia and Singapore, will be the chief factor in lowering their equity Tier 1 ratios.

Also, these measures will have a significant impact on the return on capital that investors should expect if they put money into banks. In most western jurisdictions the impact of Basel III has been estimated to be at least a 20-percent reduction in bank return on equity (ROE) and a reduction in bank lending, according to the leading financial publication.

Basel Committee chairman and Netherlands Bank president Nout Wellink noted in a press statement that the economic benefits of the proposed reforms are substantial and need to be considered alongside the analysis of the costs.

“These benefits result not only from a stronger banking system in the long run, but also from greater confidence in the stability of the financial system as soon as implementation starts,” Wellink added.

The MAG’s final report will reflect the fully calibrated global capital and liquidity standards, which are to be delivered in advance of the Seoul G20 Leaders summit.

Japan’s Financial Services Agency vice commissioner of international affairs Masamichi Kono meanwhile told The Asian Banker that the larger question is still whether capital or liquidity is sufficient in preventing another crisis, and that practical decisions need to be made by banks about what businesses they should be in, and what they are good at.

“Capital is not the entire story. Banks will have to correct the flaws in their business models and capture the risks inherent in them,” said Kono. “We need more and higher quality capital, more liquidity, and yardsticks to measure the liquidity position of banks so that we do have tools to deal with problems.”

However the BIS has already begun to think about how to deal with banks that don’t have correct business models, through a new proposal for counter-cyclical capital buffers. The proposal, which have just been released for consultation, would encourage banks to set aside capital in good times for an eventual downturn, and could in theory mitigate the need for serious reactive measures such as Basel III in the eventuality of another financial crisis.