Basel Liquidity Plan Praised for Tempered Approach

WASHINGTON — The Basel Committee on Banking Supervision's decision to ease international liquidity standards so far is getting positive reviews, but how well individual nations can adapt the rule for their own banks is still an open question.

The compromise deal by the committee's group of central bank governors and heads of supervision was meant to salvage an earlier proposal — released two years ago — that was criticized for being too stringent. The new proposal not only expands the types of "highly liquid" assets included in a required liquidity buffer, but also allows the globally active banks subject to the rule to build the mandated buffer over time instead of immediately.

Regulators have become increasingly aware that a one-size-fits-all approach to strong Basel III liquidity requirements may be more precarious even than capital requirements set by the committee, and so the new proposal is being viewed as a more cautious approach than the previous proposal released in 2010. Under the new plan, known as the Liquidity Coverage Ratio, a bank's buffer could rest at 60% of outflows over a 30-day period when the rule becomes effective in 2015, and then increase steadily until reaching 100% four years later.

"The Basel framework in 2010 was always flawed because it was a top-down effort of imposing a homogenous liquidity rule on nations with thoroughly heterogeneous funding and liability markets," said Karen Shaw Petrou, a managing partner at Federal Financial Analytics. "Some of what happened yesterday … recognized some of the difficulties of crafting the kind of top-down rule for individual nations with widely varying funding markets."

But observers are also being cautious with their praise for the new proposal, saying the devil will be in the details as individual nations begin to implement the LCR. Some said the new plan was an improvement in certain areas, but not others. For example, in the U.S. mortgage-backed securities and Federal Home Loan Bank advances would still get the same treatment in the liquidity buffer.

"We see the changes as only a partial victory," said Jaret Seiberg, a managing director for Guggenheim Partners' Washington Research Group, in an analyst note. "Despite the shortcomings, this is an improvement. We see this positive change to the Liquidity Coverage Ratio as consistent with our 2013 theme that we are moving from a period of onerous re-regulation to one of cautious deregulation."

Wayne Abernathy, executive vice president of financial institutions policy and regulatory affairs for the American Bankers Association, called the final agreement a "half-hearted effort" by regulators to reconcile the differences among countries. For example, he noted, the agreement suggests a weakness in bank deposits during stressful episodes for all countries, but concerns about deposit runoffs for U.S. banks is not an industrywide issue, he said.

"It still retains the basic problem that while trying to recognize that realities are different in different countries coming up with a harmonized program was certainly on their mind, but in an effort to achieve a harmonized program they didn't choose a program that fits with the U.S. very well," he said of the proposal.

Still, the committee insisted the plan represented clear progress. The proposal followed lengthy negotiations during which global policymakers had to reconcile several differences about what could be considered a highly liquid asset and the implementation period.

Among the changes were the additions of certain assets — such as highly rated residential mortgages — that could be considered part of the buffer. In addition, after starting out with 60% ratio, banks would have to increase the buffer by 10 percentage points each year until 2019.

"For the first time in regulatory history, we have a truly global minimum standard for bank liquidity," Mervyn King, chairman of the committee's Group of Governors and Heads of Supervision, said in a statement. "Importantly, introducing a phased timetable for the introduction of the LCR, and reaffirming that a bank's stock of liquid assets are usable in times of stress, will ensure that the new liquidity standard will in no way hinder the ability of the global banking system to finance a recovery."

Since the release of a package of Basel-related rules in December 2010, the liquidity plan has worried bankers and policymakers alike who considered it unworkable. Financial institutions have warned that if not drafted carefully, it could force institutions to pull back on loans to consumers and businesses.

But the deal struck on Sunday sought to address those concerns. (The group also published a revised charter of the Basel Committee as part of the package to reflect a renewed commitment to international harmonization.)

"They know that there are national differences at play. They know that not all supervisors are created equal in terms of their ability to develop and implement and follow through on policy, but they are also trying to still make a go of it," said an industry source from a large U.S. bank, who spoke on the condition of anonymity. "I think they are hypersensitive to it now based on critiques on risk-weighted assets and so forth. I think they're really trying to have the glue be freshened up."

Unlike capital requirements, designing a global liquidity rule has never been undertaken before by regulators and is a much tougher task to accomplish internationally, largely since liquidity can be so idiosyncratic.

"The amendments to the LCR represent an easing of the original standard, reflecting a review of the conservative calibration of the original proposal in light of actual industry experience during the crisis, and the reality that the liquidity position of global banks continues to vary widely," said Stefan Walter of Ernst & Young's Global Banking and Capital Markets Center and former secretary general of the Basel Committee. "The Committee therefore has taken a cautious approach to the calibration of the LCR, as this is the first time a minimum liquidity standard has been introduced at the global level."

Policymakers now plan to turn their attention to a second liquidity requirement known as the net stable funding ratio, which is a measure of a bank's liquidity strength over a longer period of time. It is not expected to kick in until 2018.