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Banking has always been subject to a greater degree of regulation than other industries and the international financial crisis has led to a range of new regulatory measures that seek to reduce the chances of the crisis being repeated.
Banking regulation is largely the responsibility of national financial supervisors. These supervisors are usually either formally part of the central bank or work closely with it. The supervisors generally set rules on the types of assets that banks may hold, their total level of borrowing relative to their capital (whether in absolute or risk-adjusted terms), bank liquidity, foreign currency exposure and many other areas.
In financial reporting terms, bank supervisors generally require the banks to produce specifically constructed compliance reports or they work from modified versions (using “prudential filters”) of the banks’ conventional financial statements to monitor the banks’ compliance with the prudential limits set by the supervisors.
As banking and finance has become more internationalized, there has been a gradual move over the last couple of decades for these national regulators to work more closely with their equivalents in other countries. For many years, the bank supervisors of the leading industrialized countries met regularly in the Basel Committee on Banking Supervision (BCBS or “Basel Committee”) and this group has gradually evolved into effectively being the global standard setter for banking regulation. The Basel Committee drew up the Basel rules on capital adequacy and their successor, Basel II. When the international financial crisis broke in 2007, only some of the world’s leading economies had introduced Basel II.
The Basel Committee’s membership was expanded to include bank supervisors from the G20 countries in 2009 and this expanded group has been at the centre of the moves to tighten the regulation of banks in the wake of the financial crisis. The new guidelines, generally known as Basel III, were agreed in 2009-10, and set out revised capital requirements for banks, tightening up the definition of capital and increasing the risk weights attached to certain assets. In addition, the Basel III guidelines set out for the first time liquidity requirements intended to ensure that banks have adequate liquid resources to cover their short-term liabilities.
The Basel III rules and their predecessors are not legally binding until they are incorporated into national legislation. In the EU, the European Commission is responsible for drawing up the Capital Requirements Directive (CRD) to implement the Basel rules, while the European Banking Authority (EBA) is responsible for coordinating the work of national bank regulators in supervising banks in the EU. The Basel II rules have been incorporated into the current version of the CRD. The European Commission published its proposals for a new version of the CRD – generally known as “CRD IV” – to implement the Basel III rules in July 2011.
Recent developments/current issues
Globally Systemically Important Financial Institutions (GSIFIs)
The international financial crisis has renewed concern that the very largest financial institutions – general known as Globally Systemically Important Financial Institutions (GSIFIs) or, when restricted to banks, Globally Systemically Important Banks (GSIBs) - may be so large that the economic costs of any of them failing would force their home governments to support in them in any future financial crisis. The market perception that some banks are "too big to fail" means that such banks can obtain funds more cheaply than their smaller competitors, so allowing them to grow even larger and encouraging to take on excessive levels of risk. This increases both the likelihood and the cost of further financial crises.
As a result of these decisions, GSIFIs will be subject to stricter regulation, including a requirement to draw up resolution plans (often described as "living wills") by the end of 2012. They will also be required between 2016 and 2019 to gradually increase their loss absorption capacity, above that required by the Basel III rules. The list of banks classed as GSIFIs will be updated every year by the FSB and the Basel Committee, with the FSB publishing the new list of GSIFIs each November.
National regulators imposing more stringent requirements than set by Basel III
The Basel Committee has stressed that the Basel III rules should be viewed as an international framework which is to be implemented by national central banks and banking regulators.
Several countries are considering whether to impose stricter capital requirements than are laid down in Basel III. Switzerland is the leading example of this, with the Swiss Financial Markets Supervisory Authority (FINMA) announcing in October 2011 that the capital requirements for Swiss banks would be significantly higher than specified in the Basel III rules. In the UK, the final report of the The Independent Committee on Banking recommended in September 2011 that retail banking activities be backed with a higher level of capital, while the Swedish Central Bank called in May 2011 for Swedish banks to have a higher level of capital than required by Basel III.
European bank stress tests
In response to concerns about the financial robustness of banks in the EU, European bank regulators have carried out a series of stress tests on European banks designed to investigate how the banks would cope with a significant deterioration in economic conditions. The initial tests were coordinated by the Committee of European Bank Supervisors (CEBS, the predecessor to the EBA) in mid-2010, while the second round of stress tests, which were designed to be more challenging, were carried out by the EBA in mid-2011. Both sets of stress tests found that all but a very small number of European banks would still have adequate levels of capital and liquidity in the adverse economic scenarios described in the tests.
However, both these stress tests were criticized for not taking sufficient account of the effects of the sovereign debt crisis in the peripheral economies of the euro zone. In response to these criticisms, the EBA updated the second (2011) round of stress tests in October 2011 to take full account of changes in the prices of the sovereign debt. At the same time, the EU and the EBA ordered that EU banks raise their levels of core Tier 1 capital to 9% of risk-weighted assets (measured using the Basel III rules) by 30 June 2012. The EBA published the final results of this Capital Exercise, which will require several European banks to raise significant amounts of capital, on 8 December 2011.
There is a wealth of information available on the Basel III rules. The Basel III documents produced by the Basel Committee and a range of supporting materials can be found on the BIS website.
The current consolidated text of the EU’s Capital Requirements Directive (formally two separate directives 2006/48/EC and 2006/49/EC) can be found here:
The institutions pages on the CFRR's website give more background information on the main global and European institutions involved in regulating the banking sector.
Presentations for download
The following materials were presented at CFRR events and provide additional information on the regulation of banks. The most recent presentations contain the most up to date information. While the CFRR tries to ensure that this material is as up to date as possible, some of the content, especially in the earlier presentations, may not reflect the latest developments. Presentations in languages other than English are available for the materials given at GDLN events - please follow the link to the webpage of the original event to find these materials.
Right click or option-click the link and choose "Save As..." to download these files.
These three presentations were given at the workshop for the IFRS for Prudential Regulators group held on 8-9 February 2011. The first gives an overview of the main elements of the Basel III rules and the planned timeline for its adoption, while the second looks in more detail at Basel III's measures to limit the tendency for bank lending to grow too quickly during economic upswings. The third presentation describes Basel III's most innovative feature, its approach to regulating liquidity management.
This presentation, which gives a brief overview of developments in bank and insurance regulation in 2010, was given during a GDLN event organized for the IFRS for Prudential Regulators group on 15 December 2010.
These two presentations were given at the workshop for the IFRS for Prudential Regulators group held on 6-7 September 2010. The first describes the 2010 stress tests on European banks and evaluates their results, while the second looks at the Basel III rules from an accounting perspective.
This presentation, which was given at the workshop for the IFRS for Prudential Regulators group held on 3-4 May 2010, outlines the similarities and differences between the treatments of impairment under Basel II and IAS 39.
Technical Update for Banking and Insurance Regulators Shamim Diouman
1. Overview and update on financial reporting and other related issues 2. Update on accounting for financial instruments and Basel III for banking regulators 3. Update on accounting for insurance contracts and Solvency II for insurance regulators