Asian banks gird for new capital accord

Asian banks gird for new capital accord

TOKYO (Reuters): New capital adequacy rules risk widening Asia's divide between strong banks and weak banks with far- reaching consequences for economies across the region.

Financial diplomats said the exact shape of the rules and how to apply them was high on the agenda of a two-day meeting of financial regulators from 15 countries which began in Tendo, northern Japan, on Wednesday.

The revisions, drawn up by the Basel Committee on Banking Supervision, are not due to take effect until 2005, but the wrenching changes the plan might entail for weaker banks in higher-risk countries have already drawn flak in Thailand.

At best, analysts say, weak banks will need to invest heavily in new risk management systems and perhaps raise new capital to comply with the new accord.

At worst, banks in some countries that are deemed more risky under the new rules will be priced out of the cross-border interbank market altogether, raising the cost of domestic credit.

"The new scheme will raise the capital requirements of multinational banks that might lend on a short-term basis to banks in the Philippines or Thailand or wherever the sovereign ratings are relatively low," said Jonathan Golin, a Hong Kong- based bank credit analyst.

"So it could restrict or even shut out some countries from the international interbank market, whether the regulators in those countries accept the accord or not," added Golin, who runs the website www.bankinsights.com.

This is because the Basel Two accord will replace the crude risk categories of the original 1988 pact with more discriminating assessments, designed to align banks' allocation of capital more closely with the credit risks they take.

For example, regardless of credit ratings, the capital set aside now for interbank loans is only 20 percent of the basic capital adequacy requirement of eight percent -- a low charge economists say probably contributed to the build-up in short-term debt in the run-up to Asia's 1997 financial crisis.

But under Basel Two, the risk-weighting will be as high as 150 percent depending on the credit rating of the borrowing bank.

That means a lending bank would have to allocate as much as $12 in capital for every $100 it lends instead of just $1.60 now.

Keith Irving, an analyst with Merrill Lynch in Hong Kong, said the impact could be greatest in interbank markets where foreign banks are particularly active, such as South Korea.

"Foreign banks may be less willing to commit funds, or they may demand a higher price. That may result in a tightening of liquidity in those markets and therefore a higher cost of funds for the local banks," Irving said.

Basel Two will also abolish the anomaly whereby a global blue- chip company like General Electric is deemed automatically to be as risky a borrower as a corner shop in a war zone.

But Irving said the change to allocating capital according to external credit ratings or banks' internal risk assessments was unlikely to have a substantial impact in Asia.

That is because all loans without an internal or external rating will retain a risk-weighting of 100 percent.

"Looking at Asian banks, we reckon that 95 percent of their loans are to unrated borrowers, and so the vast bulk of them will see no change in their capital allocation," Irving said.

While weak banks could come under pressure to raise capital, Irving said sophisticated banks with internal systems to measure risk might well be able to show that their higher-quality loan books need less capital. Australian banks feel they will fall into this category, he added.

It would seem obvious to conclude from the rash of bank failures after Asia's 1997 financial crisis that banks in some countries had insufficient capital to withstand the shock.

No other country in Asia has publicly objected to the Basel rules, perhaps for fear of sending the wrong signal to investors.