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FDIC Offers Guidance on Basel Capital Rules

JANUARY 17, 2003


FDIC Offers Guidance on Basel Capital Rules

For several years, international banking authorities have been struggling to design revised bank capital rules that would be more risk-sensitive than the current rules, adopted in 1988 and known as the Basel Accord for the town in Switzerland where they were drafted. Because the revisions are extremely complex, the FDIC has undertaken to issue a series of papers to "demystify" the proposal.

FDIC Chairman Don Powell commented that "the capital changes now being discussed by banking supervisors will shape the global financial system for years to come." According to the FDIC, the infrastructure needed by banks and their regulators will be considerable to ensure capital integrity, and the role of human judgment in setting capital requirements for large banks will increase substantially.

To help bankers understand the proposed changes, the FDIC has issued the first paper, Basel and the Evolution of Capital Regulation: Moving Forward, Looking Back. The paper places the ongoing discussions into historical context, discusses the forces behind the process (including industry consolidation and increasingly complex large banks), and demonstrates significant changes that could take place. For example, a bank currently must hold approximately $8 in capital for every $100 in commercial loans. Under the revised rules, depending on the risk-rating of the loan, that same bank could be required to hold capital as little as 37 cents to $4.45 for AAA-rated credits, to as much as $3.97 to $42 for B-rated credits.

Also, "for the first time," the paper notes, "the very largest banks will be operating under a completely different set of formal capital regulations than will other, smaller banks." This has the "potential to affect the terms of competition among banks of various sizes," the paper continues, with the long term competitive effects "uncertain," but deserving of "serious consideration."

The FDIC intends to issue similar reports on the Basel proposal each month, covering topics such as which banks qualify for the internal rating based systems and how securitizations will be treated. The FDIC hopes that these papers will help promote "informed comment" as the proposal is developed.

The full text of the FDIC report is available at www.fdic.gov.