Bailout

The Basel III jockeying continues

By Felix Salmon

Bloomberg has a good update on Basel III negotiations today. To save you slogging through the whole thing, which is very long, the news is that in the war of banks vs regulators, the banks seem to be winning the battle of how to define capital.

Specifically, European banks are worried that they won’t be able to count their minority stakes in other banks as capital. That makes sense to me: in the middle of a crisis, you can hardly be expected to liquidate a strategic stake in some foreign bank. But European banks would need to raise a lot more capital if this rule passed, and so a compromise is in the works.

One of the smart things that the Basel III framework does is force banks to take responsibility for the liabilities of the banks in which they have minority stakes. Right now they can count those stakes as assets, but at the same time pretend that if the foreign bank runs into trouble, they won’t end up needing to bail it out. In reality, of course, big banks looking to protect strategic minority stakes are always going to be the first sources of liquidity that any troubled foreign bank looks to for help in a crisis.

The proposed compromise seems to be that banks can count their foreign stakes as capital — but only against the risks at the foreign bank. The stakes wouldn’t count as capital for the purposes of their own domestic liabilities and capital adequacy.

That compromise — a bit like the extended timeframe for getting up to new capital-adequacy levels — seems OK to me. In an ideal world it wouldn’t be necessary, but if it brings the Europeans on board, then fine.

But I’m less happy about possible delays in putting Basel III together: apparently the publication of new liquidity requirements might be “pushed back to the middle of next year.” And in this game, any delay is a real win for the banks: the longer they can drag out negotiations, the weaker the final rules are likely to be.

There’s also news on the Basel Committee’s forthcoming response to the bank lobby, which claimed that the new rules could reduce G7 GDP by 3.1% by 2015:

?Preliminary results do not point to a growth problem coming from the regulation,? Jaime Caruana, general manager of the BIS, said in Basel on June 28. ?On the contrary, it would support resilience relatively rapidly.?

The Basel committee may publish the study later this month or in August, according to a person with knowledge of the matter. The report is expected to show an impact on economic growth of about one-third what the IIF calculated, another person familiar with the research said.

This is heartening. The whole point of the Basel rules is to help prevent exuberant credit bubbles during booms and recoveries, in order to also prevent disastrous crashes during busts. The banks will scream and shout about how expensive the new rules will be, but they’re best ignored on such matters, since they will always prefer less regulation to more, and lobby hard to get what they want. The international community is now faced with a once-in-a-generation opportunity to increase bank regulation while the banks are on the back foot. It must act fast, or face decades of failure.

Full post as published by Macroprudential on July 14, 2010 (boomark / email).