Basel Committee "keenly aware" of debate about complicated regulation that could make another crisis more likely

Stefan Ingves, the chairman of the Basel Committee, has said that "the Committee is keenly aware of the current debate concerning the complexity of the current regulatory framework", referring to the release of a new paper.

Writing for City A.M., Thomas Hogan and Neil Meredith have argued that the capital ratios mandated by Basel rules could make a crisis more likely:

In our recent Mercatus Center working paper (co-authored with Harry Pan), we set out to evaluate the effectiveness of risk-based capital ratios using data on US banks from 2001 to 2011. Our study compares a bank’s capital and risk-based capital ratios to five measures of bank risk. Three central findings emerge from our work. First, the risk-based capital ratio performs worse than the regular capital ratio against each measure of bank risk. The risk-based capital ratio does not predict bank risk well. Secondly, by itself, the risk-based capital ratio is a poor correlate of bank risk. While a bank’s risk-based capital ratio does correlate with its probability of failure, it does not correlate with other measures of risk. Thirdly, using the risk-based capital ratio and regular capital ratio simultaneously offers no improvement over using the regular capital ratio alone. Our evidence does not support using the risk-based capital ratio and regular capital ratio together to evaluate bank risk. As a central measure of bank risk used in the Basel system, it does not bode well that four of our five measures of bank risk are not significantly predicted by the risk-based capital ratio. It is especially unnerving considering that the regular capital ratio is a strong predictor of all five measures of bank risk. The evidence seems to suggest that the risk-based capital ratio is damaging, while offering no gains.

The Basel system should be simplified by using the regular capital ratio rather than the risk-based capital ratio. Reversing the present course of action would reduce risk in the banking system, lower the chances of a new financial crisis, provide a reason for banks to acquire less risky assets, and yield a better assessment of bank risk. This change would help protect the UK from crises in the US and on the continent. It might also help the world breathe a sigh of relief.

(Full article)

The committee is welcoming responses to the paper:

The Committee believes that it would benefit from further input on this critical issue before deciding on the merits of any specific changes to the current framework. The paper being released today is designed to encourage discussion amongst, and solicit views from, a broad set of stakeholders.

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