Markets may force Basel II timetable, says Caruana
HONG KONG - Markets may set a more demanding timetable for banks and countries to adopt the Basel II upgrade of international bank safety rules than the "soft transition" envisaged by supervisors and institutions, the world's top banking supervisor said in early February.
That's because financial markets can see the advantages of the complex Basel II rules that seek to get banks to align their capital more accurately to the risks they face, Basel Committee on Banking Supervision chairman Jaime Caruana said.
In the medium and longer-term Basel II will ensure better access to financial flows for the same risk, Caruana told a Basel II conference organised by the Hong Kong Monetary Authority (HKMA), the central bank and chief financial watchdog for China's special administrative region.
"Furthermore, market dynamics may reinforce this process and those banks that adopt higher standards of risk management and capital and countries that embrace the new supervisory approach could be perceived by markets as less risky, resulting in lower risk premiums and better access to financial markets," he said.
Nearly 90 countries in addition to the 13 leading economies that are members of the Basel Committee, the architect of Basel II, have said they plan to apply the Basel II rules to their banking systems.
The Basel Committee recommends its member countries implement Basel II from end-2006 in respect of the simpler and intermediate approaches to measuring risks and from end-2007 for banks using the most advanced risk measurement methods.
Many non-Basel Committee member countries, including Hong Kong, intend following this timetable, but others, particularly in the emerging market and developing world, are taking it more slowly. And both the Basel Committee and the International Monetary Fund have said countries should not implement Basel II until they're ready for it and have at least adopted the Basel Committee's Core Principles for effective banking supervision.
Caruana said Basel II won't materially effect foreign investment in developing economies in the short run.
In the medium and longer term "Basel II's forward-looking elements will probably take over and higher risk efficiency will improve the financing of all kinds of economies," he said.
Some observers suggest that the Basel II capital adequacy rules may reduce the flow of foreign investment in developing economies, since exposure to these economies might be viewed as more risky.
But Caruana said the lack of any material effect on capital flows that he expects in the short-term is based on the notion that Basel II seeks to align capital regulations more closely to banks' current practices. Those practices are already risk sensitive, he said.
Therefore it will not change the way banks decide whether to invest in emerging market economies, he added.
Yet some observers have assumed a more risk-sensitive approach might drive up not just capital requirements, but also the pricing of credit to emerging markets, he noted.
Caruana said regulatory capital is important and may represent an overall constraint. But research suggests that banks consider all the economic risks associated with a particular borrower when setting the price of a loan. Factors such as economic capital - the capital banks allocate on their own risk assessment - and the level of competition are more influential in pricing loans than regulatory capital, he said.
HKMA chief executive Joseph Yam told the conference there are signs that the Basel Committee's practice, encouraged by Caruana, of involving non-Committee members in developing its rules "is turning into a tradition". The views of central bankers and financial regulators in Southeast Asia are being taken into account. Yam said participation has also been extended to other areas with Hong Kong, for instance, heavily involved in the current review of the Basel Committee's Core Principles.
HKMA deputy chief executive William Ryback said in a separate February statement that the agency aims to introduce the bill giving legal effect to Basel II into Hong Kong's Legislative Council in the second quarter of this year.
