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Fitch: Balkanisation Makes Basel Capital Floor Agreement Tricky
February 28, 2017 / 12:20 PM / 9 months ago

Fitch: Balkanisation Makes Basel Capital Floor Agreement Tricky

(The following statement was released by the rating agency) LONDON, February 28 (Fitch) Balkanisation of regulatory standards means that the Basel Committee on Banking Supervision will struggle to reach an agreement on a capital floor that significantly increases risk weights for banks focused on low-risk lending, Fitch Ratings says. The Committee is meeting this week and a capital floor to limit the benefits of internal models for banks remains on the agenda despite the problems. The Basel Committee's commitment to capital floors was made clear by William Coen, its Secretary General, in remarks to the French Senate on 22 February, ahead of the Committee's next meeting on 1-2 March. The Committee had proposed setting an aggregate capital floor for internal models at 60%-90% of the standardised approach risk-weighted assets. Large US banks are already held to a 100% capital floor under the Collins Amendment to the Dodd-Frank Act. We believe capital floors are only likely to be agreed with a relatively low calibration, possibly below 60%, accompanied by lower revised standardised risk weightings for low-risk lending. We also expect a phase-in over a long transitional period to help alleviate the impact on affected banks' capital requirements. Even then, the risk remains that national authorities will fail to incorporate the new capital floor into local legislation. The differences between US and European policymakers' preferences partly stem from where low-risk mortgage assets sit in the financial systems. Low-risk mortgages remain predominantly on banks' balance sheets in Europe, but in the US they are largely passed on to government-sponsored enterprises, such as Fannie Mae and Freddie Mac. Risk-based capital requirements are less relevant for banks in the US than elsewhere. Nevertheless, we believe that, even on a like-for-like basis, US banks have become better capitalised than their EU peers. The Basel Committee's difficulties reflect an erosion of the post-crisis international consensus, formed under G20 leadership, on the appropriate balance between financial stability (which requires higher capital standards) and growth, combined with a trend to more populist politics that favour national approaches to setting prudential standards. This hampers international efforts by regulators to rein in the use of internal models, as they seek to restore credibility to the risk-weighted assets framework. Parallel disclosures between modelled and standardised outcomes would aid transparency around the calculations and allow fairer comparison. Tougher floors would limit the influence of internal models but this increases capital requirements, and therefore costs, for consumer and business credit. EU lawmakers have been opposing moves to de-emphasise or eliminate internal models, fearing that low-risk mortgages would be penalised by the standard risk weights. The EU authorities' preference is to constrain risk weights using the leverage ratio, and overhaul the use and supervision of internal models. The ECB's Targeted Review of Internal Models programme is due to be finalised in 2019. Meanwhile, US Congressman Patrick McHenry, a vice-chairman on the House Financial Services Committee, recently called for US regulators to pause international discussions on Basel IV while the Trump administration determines how it wishes to proceed. This would make it very difficult for US regulators to contribute to the Basel Committee's work. We believe international agreement will be reached on a revamp of the standardised approaches for credit and operational risks, along with increased leverage ratio requirements for the global systemically important banks. The Basel Committee works by consensus between its 45 members from 28 jurisdictions, overseen by a committee of central bank governors and heads of supervision. Failure to reach agreement on reforms to risk weights could lead to a global fragmentation of prudential standards, undermining the attempts to restore credibility to the risk-weight framework. Contact: Monsur Hussain Senior Director Financial Institutions +44 20 3530 1793 Fitch Ratings Limited 30 North Colonnade London E14 5GN David Prowse Senior Analyst Fitch Wire +44 20 3530 1250 Media Relations: Elaine Bailey, London, Tel: +44 203 530 1153, Email: The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at All opinions expressed are those of Fitch Ratings. ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT WWW.FITCHRATINGS.COM. 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