A few weeks ago, representatives from the G20 (the 20 largest-country economies) made headlines by quickly agreeing on changes to the bank capital rules, promulgating a proposed set of changes, referred to as Basel III. The G20 is expected to formally adopt Basel III at their next meeting in November 2010 with little if any changes. The Basel III effort is designed to stiffen capital requirements for global financial institutions and large, important financial institutions within each of the 20 countries. Thomson Reuters has published a preliminary analysis of Basel III, "Reining in the Banks," which provides an excellent summary of the details, timeline for implementation and with some initial analysis.
What is important for readers to understand is what Basel III means and when will the changes from the past become mandatory at a country level or for large global financial institutions. Just as relevant is what is not addressed by Basel III and what may happen on these other issues which will also affect these banks. For example, earlier this year I devoted a column to FASB’s focus on mark-to-market lending (see "Mark to Market Lending: FASB Dances on Banking's Toes"). One of the high-level reactions to these developments is the uncertainty that creeps into the dialogue about the future prospects for institutions and the industry as a whole. Over the past 80 years, the U.S. banking industry (in broad terms) has gone through gut-wrenching traumas. Basel III will most likely turn out to be a chapter, at the most, in this journey. That statement is not meant to dismiss Basel III as a minor or trivial milestone, rather to put it into some context. Yes, there will be changes to how capital is measured and maintained against the stipulated criteria. Remember, this is Basel III, which of course has followed Basel I and II.
When I think about the impact of Basel III on U.S. financial institutions, the only ones that should be directly affected are the biggest ones -– like Bank of America, JP Morgan Chase, Wells Fargo, Citi and a handful of others, including U.S. affiliates of large international banks (e.g., HSBC, RBS, Banco Santander). The U.S. institutions are already positioning their response to Basel III -– we are already set. Beyond these giant institutions, the practical impact of Basel III will be interpretations and guidelines that are developed to fit into regulatory examinations by the relevant agency. These guidelines will not displace the primary focus of the regulators in the near term. Loan loss provisions, curing nonperforming assets, and restoring capital levels to existing standards will still dominate the mid-size and small institutions’ agendas with their regulator.
Any time the giant institutions have to focus energy on regulations that will not directly affect the rest of the industry can often provide a window of opportunity for other institutions. But, opportunistic institutions will not play a pat hand, especially with other U.S. banking reforms moving into the marketplace. One important initiative that bankers can consider is to optimize their opportunities with existing customers and look to expand relationships based on better customer insight. These efforts can cover lending needs, packaging services to better meet needs, and developing alternatives that can tap customer frustration points. Preparing for this type of initiative often requires some outside assistance and solution capabilities. Examining alternatives that provide more of a pay-as-you-earn-it model instead of a fixed-fee engagement may make sense, especially for a targeted initiative.
My answer to the question at the top of the column: Basel III will have a modest to minor affect at the biggest U.S. banks in managing their balance sheets over the next four to five years. Every other institution can wait to see what their regulator decides to incorporate into agency-level regulations. In the meantime -– stay focused on being the best possible bank in your market.
Bill Bradway, founder and managing director of Bradway Research LLC, analyzes the business strategies and IT investments of U.S. banks and credit unions.