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Tom Davies' blog on student life, economics, education etc.

Banking reform- is the tail wagging the dog?

When it comes to the Basel III banking reforms, the Eurozone and the US are dragging their feet. Some of the more sheltered economies have already begun enforcing changes to bank balance sheets. By comparison, the European arrangement still needs to be ratified by financial ministers before rules can come into full effect. In the US, it is a similar story.

Earlier in the year, the Basel committee amended the terms of the original agreement in what was seen as a major coup for global banks. Under new rules, they now have until 2019 to make adjustments to their balance sheets. This is an additional 4 years over the previously proposed deadline. Furthermore, capital requirements have also been made more lenient and banks can now hold a greater proportion of risky assets.

The politicization of banking reforms makes a mockery of the problem at hand. Regulators at all levels should have unchecked power to the impose reforms as they see fit. This is the very purpose of an independent supervisory body. At present, the tail is wagging the dog.

Any fall-out from imposing a tougher regulatory regime should be viewed as part-and-parcel of restoring stability to the system. If the appropriate reforms lead to a tightening of lending conditions, then so be it. If this has a knock-on effect on GDP figures then it must simply be concluded that the economy is being propped up by easy credit.

Those adopting a less interventionist stance will point to the importance of the banking sector in UK GDP figures. This zero-sum approach to global regulation is dangerous. If we are to learn one thing from the current financial crisis, it should be that a race-to-the-bottom is of benefit to no one in the long-run.

Given that the Basel committee consists of the industrial powerhouses that account for over 50% of world GDP, fears of losing domestic competitiveness might well be misplaced anyway.

Is the City on it’s last legs? Will compliance in 2019 be the straw that broke the camel’s back? I suspect not and, with all that’s gone on over the last 4 years, UK based banks might well consider the one-size fits all Basel III restrictions as a light touch. When it comes to regulation, the Basel committee should not be making concessions to the private sector whatsoever.

Policy makers should be prioritizing financial integrity in their home economy before even turning an eye to international competitiveness. Across the world, tougher capital requirements should just be the tip of the iceberg. Anything less and Basel III risks becoming systemic failure mark II.

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