Friday, September 9, 2016

GFMA Measures the Costs of Basel Reforms

Recommends a Period for Observation and Adjustments to Basel Rules

Author: David Schwartz J.D. CPA

On August 10, 2016, the Global Financial Markets Association (GFMA) released a comprehensive analysis of the potential costs of the new Basel standards on lending and capital markets. The report was conducted by Oliver Wyman, a  leading global management consulting firm, on behalf of GFMA and represents a comprehensive review of the existing literature on the effects of the Basel III standards on capital markets and banking activities. Given the volume and rapidity of regulatory changes in response to the financial crisis and the complexity of the global financial system, GMFA felt it was necessary to have a better understanding of the costs of reforms, both intentional and unintentional.  


GFMA commissioned the study to provide some empirical background on which to base recommendations to the Basel Committee regarding ways to refine current regulations, and provide input on the direction of future reforms.  


"Given the volume and rapidity of regulatory changes in response to the financial crisis,  to a complex and varied global financial system necessitates a careful review. Further, there is less consensus on the need for additional reforms beyond those already completed by the end of 2015. Some observers believe it would be better to wait until these provisions have been fully implemented and their comprehensive impact on the wider economy has been assessed. There has been no comprehensive quantitative analysis to date of the impact of the full range of the Basel reforms, taken as a package, making judgments more difficult."


The report’s conclusions are drawn from a literature review of "about 100 academic papers, more than 100 letters or studies by the industry, and nearly 200 references and research papers from official sources.”  Oliver Wyman restricted their examination to the effects of rules already recommended by the Basel Committee, or which are targeted for completion by the end of 2016, and the Total Loss Absorbing Capacity (TLAC) rules proposed by the Financial Stability Board. The authors also limited their analysis to the long-term effects of new regulation, excluding costs of transition or national implementation. The empirical data developed by the study revealed, among other things, that: 



  • The median estimates from the studies show funding cost increases for loans of 60-84 bps, depending on the region. There is considerable variation across the studies. Different types of lending are affected to greater or lesser extents.


  • These estimates do not include ongoing Basel workstreams sometimes known as “Basel IV”, which could add substantially to these funding costs.


  • All studies which have considered the matter expect the Basel rules to reduce bank lending or to hold down its growth to some extent.


  • Basel standards are expected to reduce market liquidity, despite some offsetting developments. There is some evidence this is already happening, although it is not conclusive. It is likely that these impacts will increase substantially in the next few years.


  • There are a number of areas where the rules may be working at cross purposes or be mis-calibrated. To the extent there are problems, they could often be fixed by changes to the details or modest recalibration of quantitative requirements.


Based on these and the other findings in the Wyman report, GFMA recommends a period of observation and adjustment to the rules and further formulated the following high level recommendations to the Basel Committee:  


  • Building upon the issues identified in the Oliver Wyman Report, identify cases where there may be unnecessary duplication or conflicts between specific regulatory requirements and broader policy goals, as well as unintended consequences. Through this, we believe liquidity could be added back into the market without reducing safety and soundness.


  • Perform an overall assessment of the calibration and timing of the reforms in light of the cumulative impact of the full set of rules, including detailed empirical analysis that supports that such requirements are appropriately targeting activities at an appropriate level of risk tolerance consistent with economic growth and lending objectives.  In addition, in that Basel III is not yet fully implemented and its impact on markets and end-users unknown, we recommend a careful observation period of “Basel IV” until such time as the full impact of the Basel III program is considered.


  • Taking into consideration the literature and measures identified in the Oliver Wyman Report, develop a collection of usable metrics that should be considered both on a current and forward-looking basis in analysing broader impacts of the regulatory package. Particularly, we recommend rigorous analysis on the impact on capital markets including impact on specific market segments, specific instruments, primary vs. secondary markets, impacts on emerging markets, and the changing dynamics of investment behaviours.  Such analysis would involve more fully securities regulators in the development of a framework for an end-to-end impact analysis on the capital markets, including analysis of market liquidity, given the interplay between prudential and market regulation.


  • The FSB, in consultation with the BIS, and relevant stakeholders in the public and private sector, should develop a mechanism for a principles-based process by which financial regulators would conduct transparent and formalized consultations on a cross-border basis in order to support informed regulatory design and implementation that minimizes conflicts, redundancies and unintended consequences and takes into account the interaction, coherence and overall calibration of financial regulation.


The full text of the Oliver Wyman report is available at:  Interaction, Coherence and Overall Calibration of Post Crisis Basel Reforms