Why Are Regulators Easing Up on Banks?

Global regulators pulled back on strict new global liquidity rules for banks on Sunday, giving them four more years and greater flexibility to build up their cash reserves.

Banks had complained that they could not meet the January 2015 deadline set by regulators for them to comply with the new rule on minimum holdings of highly-liquid assets, known as the liquidity coverage ratio, while continuing to supply credit to businesses and consumers.

But the pull-back was greater than banks had expected. The Basel Committee of banking supervisors not only agreed to phase in the rule over four years, but also to widen the range of assets banks can count toward the liquidity requirements, most notably allowing them to include shares and retail mortgage-backed securities.

While these less-liquid assets can only be included at a steep discount to their actual value, the changes will nonetheless ease the burden placed on banks by the original draft of rules that was unveiled two years ago. The Basel Committee hopes the changes will prevent banks from cutting back on lending in order to meet liquidity requirements.

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“Importantly, introducing a phased timetable for the introduction of the liquidity coverage ratio…will ensure that the new liquidity standard will in no way hinder the ability of the global banking system to finance a recovery,” Mervyn King, chairman of the Basel Committee and Bank of England governor, told a news conference in Basel, Switzerland on Sunday…

It is the hope of regulators that the changes will help revive the mortgage-backed securities market. The inclusion of RMBS in the liquidity buffer is a big part of that.

The changes will also make it easier to follow the rules for banks in Asia, where efforts to increase liquidity were complicated by illiquid government and corporate bond markets and low credit ratings for emerging market debt.

Of course, there are two sides to the coin. Some are concerned that banks are being let off too easily — that regulations have lost some of their strength. The point of the Basel rule is that it requires banks to hold enough liquid assets to cover net outflows for up to a month, thereby avoiding the need for a taxpayer bailout. But the Basel Committee agreed to ease the “stress scenario” for calculating the amount of liquid assets banks must hold, effectively shrinking the buffer, and bringing up the question of whether banks could potentially be in compliance with the rule without truly being liquid enough to keep themselves afloat.

Banks will have to start complying with the rule in 2015, when they are expected to hold at least 60 percent of the total buffer. They will build up to 100 percent by January 2019, at which point, Basel’s tougher capital requirements must also be met in full. The third Basel III rule — the net stable funding ratio — will be enacted by the end of 2018.

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