Financial regulation needs international effort

Nia Williams

October 5, 2010

This is according to Stephen Cecchetti, the head of monetary and economic department at the Bank for International Settlements. Speaking at the Westminster Economic Forum yesterday at the National Institute for Economic and Social Research, Cecchetti said that the principles of financial reform outlined by the Basel Committee “seem pretty straightforward”.

But crucially he added that “their application is complex”. This is because regulation is conducted by sovereign states but most of the world’s biggest banks operate on a global scale.

“The solution to the difficulties this poses is… to make sure national authorities are confident that they will not be punished for their openness. If we are to reap the benefits of a globalised economy and ensure a level playing field, then we have to maintain the momentum towards global financial integration,” he said.

Cecchetti also hit out against critics’ claims that the new capital ratio standards outlined in Basel III “represent tinkering at the edges rather than the needed fundamental change in how banks are regulated”.

He said: “The new standards will produce a significant increase in the capitalisation of the banking sector worldwide. Provided we handle the transition properly, these stronger standards should provide benefits from the day their implementation begins.”

Cecchetti also said a leverage ratio will be used in conjunction with increased capital ratios to protect our economies against future credit crises.

The Basel Committee’s move to ensure banks hold more, better quality capital on their balance sheets would protect banks against risk, he added, but said “there are circumstances in which risk-weighted capital ratios provide a misleading picture of banks’ overall health…and understate the actual risks”.

Cecchetti outlined a “backstop” measure that will assess banks’ leverage exposure, which he said “should help to contain the build-up of systemic risk that arises when leverage expands quickly”.

The detail of how banks’ leverage will be assessed remains a “work in progress” he added, saying “as always, the devil’s going to be in the detail”.

Cecchetti also noted that work was ongoing in the Basel Committee and Financial Stability Board to examine the role of additional macroprudential measures designed to mitigate systemic risk.

“This includes the possible usefulness of a capital surcharge for the largest, most systemically important firms (SIFIs) and the potential of bail-in debt to obligate lenders to these firms to bear more of the risk if the SIFI should fail.

“We need to do more to address systemic risks contained outside traditional banks, where a vast amount of intermediation still takes place.”

And he added: “Strengthened disclosure of securitisation instruments, tougher regulation of money market funds and other non-bank intermediaries, and stronger capital requirements for banks’ securitisation-related activities are all being implemented, and are part of the solution.”

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