Role reversal: U.S. leads race to bottom in global bank rules

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WASHINGTON — The Trump administration's push to deregulate the banking industry is having a ripple effect internationally as foreign banks are pressing their home jurisdictions to stall implementation of cross-border standards.

An Aug. 30 letter obtained by American Banker from a group of 15 large banks based in the European Union — including Barclays, the Royal Bank of Scotland, Societe Generale, Santander, Deutsche Bank and HSBC — urges European Commission Vice President Vladis Dombrovskis to broadly reconsider the applicability of certain capital and liquidity rules to EU-based banks.

They point to the Treasury Department's June report in which the Trump administration calls for a reconsideration of several outstanding or unfinished rules, including a pending long-term-liquidity rule and regulation of banks' trading books.

“In light of this, it is important that the EU considers its own implementation plans and potential impacts, and in particular, possible competitive distortions if regulation governing major financial markets does not move forward on a consistent timetable and with consistent terms,” the letter says.

The letter adds that the EU should push the U.S. to maintain the Dodd-Frank Act’s Orderly Liquidation Authority, saying that if it were repealed, it would make cross-border resolutions far more complex.

“Such political intervention is necessary in order to build upon the current progress towards strong cross-border cooperation, and reaffirm the commitment to financial stability in resolution,” the letter says.

The letter demonstrates how much the international regulatory system has changed in the past year. After the Basel III accords, U.S. regulators were seen as pushing other countries to go above and beyond the international accord. But the Trump administration's ambivalence toward Basel III has led international regulators to have second thoughts about building on the accord. What was once a race to the top has been turned on its head, said analysts.

“This is just more evidence that the Basel process is fragmenting into national jurisdictions, with each country looking to use the complicated state of the credit risk negotiations to its advantage,” said Karen Shaw Petrou, managing partner at Federal Financial Analytics. “If you believe in international standards and want to give them the benefit of the doubt, then this is certainly a race to the bottom.”

Members of the Group of 20 industrialized nations agreed in 2009 to a set of international bank capital and liquidity standards known as Basel III in the wake of the financial crisis.

In subsequent years, the Basel Committee on Banking Supervision and the Financial Stability Board have developed various standards to ensure that banks are adequately capitalized and can withstand the kinds of liquidity shocks that ensued in the early days of the crisis.

But the final few provisions in the Basel III accords, which set standards for regulators on how they assess risk-based capital, among other provisions, have been stalled for almost a year amid heightened skepticism from the EU about their benefit.

That tension has made the final few provisions of Basel III, sometimes referred to as Basel IV, especially difficult to hammer out. The Basel committee was expected to complete the final rules late last year, but the deadline keeps being delayed — most recently, the committee’s September meeting was postponed until October because of a lack of resolution on the issue.

Chen Xu, an associate at Debevoise & Plimpton, said the more likely immediate and medium-term effect of the letter is something akin to a freeze of new rules in the U.S., with perhaps somewhat less rigorous adherence to existing capital rules in the EU.

“It’s not a race to the bottom, because at the end of the day the regulators still care about the safety and soundness of the banks,” Xu said. “But it’s not a race to the top anymore.”

Hugh Carney, vice president of capital policy at the American Bankers Association, said that the indifference among regulators and industry around the Basel accords is not a reflection of some political sea change, but rather a sense of fatigue around the resolution of issues that have not changed despite decades of trying. The idea of an international baseline degree of financial regulatory compatibility began with the original Basel accords in the late 1980s, he said, and remains elusive despite some progress.

“It’s been a challenge for some time," he said. "Things are reaching the point where a lot of folks are wondering whether this effort, which has been going on for decades now, will lead to increased harmonization. A lot of my members are starting to wonder what the point is.”

The administration, for its part, has made it known that its priority with respect to international agreements is to make U.S. markets competitive. Craig Phillips, counsel to Treasury Secretary Steven Mnuchin, said during a conference sponsored by the International Swaps and Derivatives Association here Monday that international agreements should ensure a “level playing field” for U.S. markets to compete.

“It’s fair to say that harmonization and appropriate tailoring of regulatory regimes and issues is of critical importance,” Phillips said.

But Xu said the short-term effects of international fragmentation may be more limited in the U.S. because the Collins amendment in Dodd-Frank set a minimum capital floor on all depository institutions, which is the most restrictive applicable capital ratio. That limits how accommodating regulators can be in their capital rules, he said, unless Congress changes the law.

“I don’t think the U.S. regulators are looking at significantly scaling back their capital or liquidity regulations,” Xu said. “That will be a little more difficult, because the Collins amendment is baked into the statute, so the regulators have a little less control.”

Carney said that aspect of Dodd-Frank may have overstayed its welcome. The existing risk-based capital rules include six separate ratios, Carney said — if the Basel IV rules are ever completed, he said, it could add still more.

“The Collins amendment has certainly created some issues in simplifying the capital standards, and not just for the largest banks,” Carney said.

Petrou said the biggest question is whether the administration will content itself to stall the Basel IV rules or will go still further, rethinking other more settled capital ratios that banks have been complying with for years.

“The real question we’ve been thinking a lot about is, now what?” Petrou said. “The U.S. regulators intend to wait to see the outcome of the net Basel meeting … and that’s really as far as they intend to go.”

Carney said that kind of broad reconsideration of the U.S. capital regime would be a welcome change of pace.

"A fundamental rethink is absolutely essential at this stage,” Carney said. “I see a lot of these [Basel] proposals as, frankly, adding more complexity.”

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Basel Risk-based capital rule Capital requirements Treasury Department Basel Committee on Banking Supervision