Global banking regulators are standing by a key reform tocapital rules in defiance of opposition from Europe, potentiallycomplicating efforts to complete work on the post-crisis frameworkby the end of the year.

Basel Committee on Banking Supervision Chairman Stefan Ingvessaid “good progress” was made during talks in Santiago, Chile, thisweek and the “contours” of an agreement on revisions to the capitalstandards known as Basel III are clear. That includes an “outputfloor” intended to prevent banks from gaming the rules, a proposalrejected by some top European Union policy makers.

“I expect an aggregate output floor will be part of our packageof reforms,” Ingves said in a speech in Santiago Wednesday afterthe Basel Committee's two-day meeting. The regulator's oversightbody, led by European Central Bank President Mario Draghi, willneed to endorse the rule, Ingves said.

Basel Committee members, including the ECB, the U.S. FederalReserve and Sweden's Riksbank, which Ingves also heads, arestruggling to bridge deep divides between the U.S., Europe andother nations on a package of rules billed as the finalinternational regulatory response to the 2008 financial crisis.

At issue are curbs on banks' ability to use their own complexmodels to estimate asset risk for setting capital requirements. TheU.S. has long been skeptical of such models, while Europe and Japaninsist they provide more accurate assessments in many cases. TheBasel Committee is trying to rein in abuse of the models whileliving up to a pledge that capital requirements won't increasesignificantly as a result of the revised rules.

Andreas Dombret, a member of the Bundesbank Executive Board,said preventing the introduction of an output floor was a priorityfor Germany. The Bundesbank is also a Basel member. Policy makersincluding Dombret have said that while they want to reach a globalagreement, they may walk away if key demands aren't met.

Bundesbank President Jens Weidmann said in Berlin on Wednesdaythat the talks in Santiago helped narrow differences and resolveopen issues. “We will work vigorously to conclude negotiations byearly January,” he added. “Regulatory uncertainty is a burden onthe proper functioning of the banking sector.”

Valdis Dombrovskis, the EU's financial services chief, said thisweek that the bloc is taking a “constructive” approach to the BaselCommittee talks and seeks a “balanced” solution. Like Dombret,Dombrovskis has said capital floors should be scrapped.

Ingves said the Basel Committee will deliver on its goal ofreducing the excessive variability in risk-weighted assets withoutboosting overall capital requirements. This doesn't mean capitalcharges won't rise for some firms, however.

Capital Shortfalls

“Capital requirements may go down for some banks and go up forothers,” he said. “At the global, aggregate level, the impact isnot significant, but it may well be significant for some banks.”The capital shortfalls produced by the changes will be only “smalland relatively concentrated,” he said.

A revised standardized approach for calculating operationalrisk, which encompasses the impact of litigation, misconduct andcyber crime, will be “capital-neutral overall, but there will nodoubt be increases and decreases in operational risk capitalrequirements for certain banks,” Ingves said.

That's in line with comments by Bank of England Governor MarkCarney, who said the Basel Committee's initial proposal onoperational risk would drive up capital requirements“substantially.” As a result, Carney said he expected “that elementof the original package will be taken off the table effectively, orwill be substantially reduced.”

While Basel Committee members didn't conclude a deal duringtheir meeting, discussions are continuing informally, since mostmembers remain in Santiago for an international conference,according to a person familiar with the talks. An additionalmeeting may be needed to wrap up the work, the person said.

Ingves was succinct: “It is time to get the job done.”

Bloomberg News

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