US banking experts express concerns over Basel II

At an open session of the Senate Banking Committee last week, further concerns were expressed over the implementation of Basel II in the United States. The meeting chaired by Senator Richard Shelby and attended by Ranking Member, Senator Paul Sarbanes, along with US supervisors, industry experts and academics gave opportunity to discuss the development of the new Basel Capital Accord.

The US announced a few weeks ago that they intended to proceed with the implementation of Basel II, albeit in a revised format to include what the four US Federal banking agencies described as "additional prudential safeguards". The safeguards are being included to mitigate concerns resulting from the fourth Basel Committee Quantitative Impact Study (QIS4) which showed a significant and unexpected reduction in regulatory capital requirements.

Despite the plans of the Federal banking agencies to move forward with their proposals for Basel II, it is clear there is still considerable opposition in the US to the new Accord. Some opponents have proposed that it should be abandoned in favour of only continuing with the original Basel Accord in an amended format (known as Basel IA) for all US banks, not just smaller establishments. Senator Sarbanes, co-author of the Sarbanes-Oxley legislation for corporate governance, warned that Congress could still block implementation of Basel II in the US.

William Isaac, Chairman of the Secura Group and former Chairman of the Federal Deposit Insurance Corporation, told the meeting that he had "grave reservations" about Basel II.  He criticised Basel II for being too complex, being based on inadequate and unreliable data, and causing excessive reductions in bank capital ratios. "I believe it carries the potential to do enormous harm to the US banking system, which is the strongest, most profitable, and most innovative banking system in the world", Isaac said.

The potential for lowering minimum capital levels beyond what they believe would be safe was also the main fear of the meeting's other opponents to Basel II. Katherine Wyatt, Head of the Financial Services Research unit at the New York State Banking Department expressed concerns about the effect on smaller banks if their larger competitors, because of Basel II, were allowed to hold less capital. She urged US regulators to carry out a comprehensive impact study across the entire banking system, not just the large internationally active banks that will be the focus of Basel II in the US.

Whilst concerns about capital requirements was the central issue for opponents, Susan Schmidt Bies, Governor at the Federal Reserve Board, one of the four agencies involved with framing the US rules for Basel II, was keen to highlight other considerations for implementing the Accord. "Risk management techniques employed by many banking organisations continue to change, improve, and adapt to the ever-changing financial landscape", Governor Bies said. "For instance, operational risk was not part of our risk management thinking ten years ago, but tools to identify, measure, and manage it are now becoming prevalent." The original Accord Governor Bies said was "simply not appropriate for identifying and measuring the risks of our largest, most complex banking organisations".

John Dugan, Comptroller of the Currency at the US Department of the Treasury also supported the move to the new, more risk-sensitive Accord. "The Basel II Framework offers necessary and appropriate improvements to address recognised flaws in the existing risk-based capital regime for our largest, most complex banks", Dugan said. "Basel II will promote significant advances in risk management that will benefit supervisors and banks alike and that will enhance the safety and soundness regime under which the largest institutions operate."