Basel III and the Credit Landscape

Financial regulation has been with us for a  long long time.  Basel III is just the latest development in a tradition of financial services rules which can trace its history back to the fifteenth century, when The Great Council of Geneva was created.  By 1713 the Great Council was already formulating laws requiring bankers to keep financial records and maintain client confidentiality. 

The Credit Landscape: Looking Bleak

Today, in the face of the ongoing global financial crisis and rapidly developing technological advances, the world of banking is changing too. Back in 1974, following the collapse of the Herstatt bank, there was a serious crisis in the international currency and banking market, and the G-10 responded by setting up the Basel Committee.  Its first meeting took place in 1975 and it continues to meet on a regular basis to discuss national supervisory arrangements for banks, and to promote international understanding and the quality of banking supervision worldwide. 

The original regulatory guidelines developed by the Basel Committee in 1988, known as the Basel Accord or Basel I, caused a lot of work for the banks, and took a long time to come on-stream.  Since then global financial innovations and changes in the practice of risk management led to a more comprehensive set of guidelines known as Basel II.  Many countries are still in the process of addressing the challenges of Basel II and still sorting out the changes in working practices and banking systems required to achieve Basel II compliance.

Meanwhile the financial crisis of the early twenty first century has led to yet more guidelines and regulation, in the form of Basel III, which was developed between 2010 and 2011.  The core of Basel III is a standard on bank capital adequacy, stress testing and market liquidity risk.  The Committee acknowledges that in an uncertain world there are likely to be future economic crises, or ‘future global shocks', but aims to improve the ability of the global financial community to absorb such shocks by ensuring there is an adequate financial buffer in place. 

The new rules are not due to come fully into effect until 2019, but they are already making an impact. Ratings agency Fitch has just published a new study assessing the effects of Basel III on the European Systemically Important Banks (SIBS).   Fitch's study, called 'Basel III: Shifting the Credit Landscape'  is interesting in that it attempts to quantify the effects of banks' Basel III preparations on credit flows and lending patterns. 

The report notes that Basel III appears to be influencing the big banks in three main areas: capital management, exposure allocation and credit strategies. It describes these changes as a ‘shifting landscape’ affecting a huge range of asset classes, sectors and financial markets traditionally intermediated by banks.  Most of these changes are entirely predictable, but there is a warning of some unexpected and less desirable side-effects, such as ‘reductions in credit availability or market liquidity’.

An interesting report, but these findings will come as no surprise to any would-be first-time house buyer struggling to get a mortgage, or a small business unable to obtain funding for expansion.  Of course the intention of Basel III is not to make the banking and credit system grind to a halt, but to prevent any further crises and bail-outs occurring in the future, and hopefully it will be successful.

As the banking community struggles to come to terms with the new regulations and to achieve Basel III compliance, life carries on.   The new compliancy rules are just one part of a complex global financial picture which includes the Euro zone crisis, and a near economic collapse in the United States.  Will Basel III be the complete answer to the current crisis and to any possible future regulatory issues?  I very much doubt it!  Watch out for Basel IV.

Footnote: Some more information about Fitch (from their website)

For 100 years, Fitch Ratings has been making the future a little more predictable through independent and prospective credit ratings, commentary and research. …Fitch Group is a global leader in financial information services with operations in more than 30 countries.

The full text of the study is available at www.fitchratings.com