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Basel

The Basel Committee on Banking Supervision released a near-final version of its new bank capital and liquidity standards in December 2010, and issued subsequent revisions in June 2011 and in January 2013 for the Liquidity Coverage Ratio (LCR).

The measures, known as Basel III, are designed to make the banking system more resilient to shocks by strengthening regulation, supervision, risk management and transparency.

Stronger regulatory capital and risk management

As well as increasing the ratios for Tier 1 and core Tier 1 capital, Basel III enhances the quality, consistency and transparency of the capital base through stricter rules on the eligibility of instruments included in core Tier 1 capital. Basel III also introduces new capital buffers (i.e. conservation buffer and countercyclical buffer) which will further increase the regulatory ratios, in particular in the case of the largest financial institutions which may pose a systemic risk (SIFIs).

The new regime significantly strengthens rules on counterparty credit risk, in particular with the introduction of a new capital charge for Credit Valuation Adjustments (CVA) applicable to derivative transactions.

Basel III also targets better risk management through improved firm-wide governance and better management of collateral.

In addition, the new measures introduce for the first time, global liquidity standards including a stressed Liquidity Coverage Ratio (LCR) on a 30-day horizon and a longer-term structural liquidity ratio, the Net Stable Funding Ratio (NSFR).

Finally, Basel III plans to introduce a Leverage Ratio to limit the size of credit institutions’ balance sheets.

Timetable and challenges

Regulators have adopted a staggered, extended timetable for the implementation of Basel III. Within the E.U. the transposition takes the form of a regulation (CRR I) and a directive (CRD IV) and a final agreement is expected during Q1 2013.

Although, the exact starting date for implementation is still unknown, the first key elements of the new measures (i.e. the transitional arrangements for the capital requirements and measures covering counterparty risk) should start to come into force at the earliest in Q3 2013 in the E.U. Post the observation period, the LCR will be progressively put in place by 1 January 2015, while the NSFR and the Leverage Ratio are not expected to be implemented before 2018.

In assessing the impact of Basel III, individual banks will have to review the effect on their overall business strategy, cost structure and policy on shareholder returns.

Banks’ funding strategy may change significantly because of new liquidity requirements and the potential effect of higher capital requirements on funding costs.

Institutions will need to examine the impact on particular business activities, particularly in investment banking, and to what extent increased costs may be passed on to clients. Cost structures may also undergo further changes, for example to remuneration.

Banks should also review their customer base to decide whether to focus on less capital-intensive, high-quality borrowers or riskier, high-margin assets.

At the heart of these challenges is the return on capital banks target to meet shareholders’ expectations.

The impact of Basel III and other regulatory changes will span many businesses, functions and aspects of strategy. Deloitte offers a multi-dimensional, coordinated service designed to meet this challenge.

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