The new Basel Accord for Capital Adequacy runs to over 500 pages and has had 270 submissions commenting or criticising
particular aspects of the new Accord. Most of those commenting are presenting, in a public arena, information which may be of
advantage to their competitors. Why have they done this?
Capital Adequacy relates to the amount of capital a bank must have as a buffer to cover them in the event of unexpected loss.
Under the terms of the 1988 Accord, this must not be less than 8% of the value of the financial institution's risk weighted assets. In
general terms, lending to sovereigns denominated in their own currency (e.g. holding of US Govt bonds denominated in USD) attract
a 0% weighting, residential mortgages backed by land attract a 50% weighting and everything else attracts 100%. This system is
reasonably straightforward and works well up to a point, but it has considerable deficiencies which the new Accord seeks to
In general, a Bank wants to minimise the capital that they need to set aside because it is money that they cannot use and for
which they incur a cost. On the other hand, a bank wants to stay in business and have investors with confidence that they will not fail.
These two goals pull the policy of a bank in opposite directions.
The complex systems in the new Accord, which now offers three methods for calculating capital adequacy (Standardised,
Foundation, Advanced) instead of the one in the 1988 Accord, result in different levels of required capital. On the other hand, local
regulators (Federal Reserve, FSA, Reserve Bank of New Zealand, etc.) need to be satisfied before a Bank is allowed to use one of
the more sophisticated models.
In the 270 or so submissions which have been received, issues have been raised by a great many financial institutions from all
over the world. Many of those who have responded to the request for submissions are direct competitors to some of the others, and
raise issues or make suggestions which, if implemented, would result in reduced requirements for capital.
Unfortunately, this will also mean that capital requirements for their competitors in similar markets will probably also fall,
possibly by a larger amount. The shape and quality of Bank lending portfolios is disclosed up to a particular point as required by
disclosure legislation, but the detail is kept confidential within the different banks. This makes it very difficult to be sure that different
banks are interpreting Acts and Accords in the same way, making comparison very difficult.
The submissions, pointing to both major and minor defects in the proposed new Accord, are so numerous that the Basel
Committee for Banking Supervision has this week delayed implementation of the Accord by one year to 2005.
The principle of the submissions providing information to the Basel Committee being beneficial to the Bank but also to their
competitors is reminiscent of the Prisoner's Dilemma, long debated by philosophers and mathematicians. Certainly I will
struggle to find the time to read all the submissions received. Many of the submissions run to dozens of closely argued pages, so I
have focussed on the submissions by banks which are competitors to my own organisation. They operate in the same market, face
largely the same issues and (we assume) have largely similar lending and loss experience to our own. Reading these has shown
me that this seems to be the case, but they also raise issues which I had not necessarily noticed or previously deemed