The impact of Basel III on emerging market and smaller economies

Transcription

1 The impact of Basel III on emerging market and smaller economies Basel Consultative Group and World Bank Forum Vladimir Tomsik Washington, October 10,

2 Introduction Goals: How to address, cope with and mitigate the unintended consequences How to promote the intended consequences EMSEs have some common features: their financial markets are typically more volatile; they are experiencing stronger credit growth; catching-up process; they usually have lower credit ratings and shallower government bond markets; lack of high quality liquid assets; they face a whole range of home-host issues. 2

3 Introduction 3

4 Introduction 4

5 Introduction Four basic areas of analysis: 1. Capital framework 2. Liquidity framework 3. G-SIFI and D-SIB issues 4. Home-host issues and cross-border colleges 5

6 Introduction 6

7 (1) Capital Framework: Capital requirements (Pillar 1), supervisory review process (Pillar 2), disclosure and market discipline (Pillar 3) Definition of capital EMSEs, in general, do not have difficulties in meeting the new definition of capital (their capital structure usually involves only Tier 1 instruments) however, the deduction of deferred tax assets may be challenging for some countries (mostly due to provisioning and accounting frameworks) 7

8 Capital Framework: Capital requirements (Pillar 1), supervisory review process (Pillar 2), disclosure and market discipline (Pillar 3) Capital buffers the value of the capital buffers should not present a challenge for the EMSEs, given the usual high capital adequacy of their banks An issue might, however, be the interaction between these buffers and additional buffers required by supervisors under Pillar 2 8

9 Capital Framework: Capital requirements (Pillar 1), supervisory review process (Pillar 2), disclosure and market discipline (Pillar 3) Basel III introduced more transparency, disclosure remains an issue financial reporting is not yet compatible with international standards there are no established auditing standards or requirements for the auditing profession supervisors lack the power to remove or reject substandard external auditors supervisors lack the power to require sufficiently and timely information from banks Implementation planning should start by building capacity to manage the process effectively. 9

10 Capital Framework: Issuance of new capital, retained earnings, conversion of hybrid instruments into common equity Credit ceiling or the risk floor for EMSEs higher capital requirements imposed on subsidiaries operating in EMSEs; banks in EMSEs with relatively fast economic growth will inevitably need to issue additional capital to support their asset expansion lack local infrastructure to facilitate the issuance of structured capital instruments EMSEs are also disfavored on international markets (lack of credibility and transparency) To cultivate domestic markets, to develop legal environment. 10

11 Capital Framework: Issuance of new capital, retained earnings, conversion of hybrid instruments into common equity Capital issuance by foreign bank subsidiaries EMSEs may need to impose certain regulatory requirements to prevent such capital instruments from being used to cover the losses of parent banks foreign bank subsidiaries may issue structured instruments directly purchased by their parent banks, or parent banks may choose to issue capital at the group level and distribute the capital among their subsidiaries. Such an arrangement may give local banks an unfair competitive advantage To enhance cross-border supervisory cooperation. 11

12 Capital Framework: New regulatory framework and trading-book positions Trading book issue Basel 2.5 introduced an incremental risk capital charge (IRC) for creditsensitive positions in the trading book risk-weighted assets (RWA) and capital charges are calculated on a consolidated basis foreign sovereign-risk exposure denominated in foreign currency is usually assigned a much higher RWA than a domestic sovereign exposure denominated and financed in local currency impact of the IRC on sovereign debt RWA could be substantial, particularly for non-aaa countries To provide guidance on how global banks may assign RWA,, at the consolidated level, to their foreign subsidiaries risk exposures to local sovereigns denominated and funded in local currency. 12

13 Capital Framework: Deleveraging concerns Long-term trade finance global banks reduce their assets by lending less to certain regions and/or by reducing their exposure to certain risky asset classes adverse effects on the real economy through a tightening of financial conditions. Equally, deleveraging pressures are affecting certain specialty finance lines such as aircraft and shipping To o require a policy response to minimize the negative impacts on the real economy. 13

14 Capital Framework: Countercyclical capital buffer Countercyclical capital buffer setting increase in banks funding costs unintended consequences may arise through banks efforts to compensate for their profit losses incurred by the increased cost potential response is a shift in the structure of balance sheets to assets with a higher risk-return profile as the quantity of liquidity in the banking sector needs to be reduced due to the introduction of the CCB, the resulting excess liquidity must move elsewhere, including to financial markets abroad the flows induced by the CCB itself are potentially limited in size, in combination with swings in monetary policy they could be sizeable small economies in particular may sometimes be forced to consider implementing macroprudential measures to stabilize foreign exchange flows 14

15 Capital Framework: Countercyclical capital buffer Countercyclical capital buffer setting negative consequences for EMSEs arising from a limited understanding of credit cycles EMSEs are in a process of economic convergence, with a relatively low initial level of credit and low total indebtedness of the private sector faster credit growth simply means financial deepening, not excessive borrowing length of time series is quite limited Do not apply credit-to to GDP limit automatically 15

16 Capital Framework: Advanced approaches within capital framework policy and risk-weighted assets policy Basel III provides an incentive to move to the use of the more advanced risk measurement techniques banks may be incentivized to apply on a larger scale the internal ratingbased (IRB) method instead of the standardized approach IRB approach would generate higher demands and costs for both banks (data and IT, risk management, etc.) and their supervisors (complex regulation, knowledge and capacity for initial approvals and on-going control) the unintended consequence would be a decline in consistency and comparability due to excessive variation in risk measurement without better management of the underlying risks The optimal reaction to such a point of departure is gradual development of risk-sensitive sensitive approach. 16

17 Capital Framework: Treatment of sovereign exposures in banks balance sheets Adverse sovereign-financial sector feedback loop growing recognition that the current prudential framework does not require sufficient regulatory capital against sovereign risk encourage banks to set their exposures at a pace consistent with their business activity and to a level that is commensurate with their financial strength and internal risk and capital management capacity Macroprudential limit on the size of sovereign debt exposures for banks could be set as a fixed percentage of either total assets or capital. 17

18 Capital Framework: Capital requirements (Pillar 1), supervisory review process (Pillar 2), disclosure and market discipline (Pillar 3) OTC derivatives, CCP new capital charge might unduly increase the costs of OTC derivatives transactions used for hedging by SMEs there are few alternatives to reducing the capital charge given the low use or nonexistence of credit default swaps and central counterparties to clear local currency instruments mandatory CCP clearing for OTC derivatives may not be feasible in countries where there are not enough large players or high-volume transactions it can shift business from small countries to countries where CCPs are available 18

19 Introduction 19

20 (2) Liquidity Framework: New liquidity framework, HQLA, and run-off rates Availability of HQLA supply of of HQLA is limited in addition, HQLA carry lower yield corporate debt securities rated BBB- and equities expose banks more to market risks as a result of an increase in price volatility generate a perverse outcome by creating an incentive for governments to issue more debt increase in credit risk for some securities and to crowding-out of private sector lending 20

21 (2) Liquidity Framework: New liquidity framework, HQLA, and run-off rates LCR run-off assumptions supervisors need to examine whether the run-off rates stipulated in the Basel III are justified in their jurisdictions or whether higher rates are appropriate (in smaller jurisdictions non-resident deposits play a bigger role; up-stream lending) focus on liquidity is encouraging groups to hold liquid assets centrally, but there is no clear understanding of when and how they should be made available outside of the stand-alone parent bank host regulator would want to ensure that adequate liquidity to support deposits based on stressed outflows is either maintained independently by the local entity, or held centrally under clearly defined access arrangements (action plan) 21

22 (2) Liquidity Framework: New liquidity framework, HQLA, and run-off rates FX liquidity framework require banks to hold a larger amount of foreign-currency HQLA to comply with the LCR by currency this higher demand for foreign-currency HQLA may affect the availability of such assets, as well as their price supervisors decision in this area should consider various factors (e.g., degree of dollarization, level of financial internationalization, existing foreign exchange, currency convertibility and volatility) 22

23 (3) G-SIFI and D-SIB issues Domestic systemically important banks (D-SIBs) the negative externalities associated with the existence of D-SIBs should be reduced by imposing higher loss absorbency (HLA) requirements source of concern among host authorities in the EMSEs is banks which they regard as D-SIBs but which are not D-SIBs in their parent location, this gives rise to enhanced systemic exposure for the host country D-SIB buffers required for subsidiaries may even lead parents to consider converting subsidiaries formally into branches too big to fail, paradoxically increasing the moral hazard problem; this consequence is probably going to be more important in smaller countries with a bigger ratio of banks identified as D-SIBs Recovery and resolution plans 23

24 (4) Home-host issues and cross-border colleges Home-host issues: equal treatment global banks use global credit ratings, rather than their subsidiaries local ratings, to assign RWA and estimate capital charges for their overseas exposures parent banks apply a sovereign credit rating ceiling or crossborder add-on factor to calculate the risk weights of their foreign exposures Cross-border colleges may represent a very useful mechanism 24

25 Thank you for your attention. 25