Lobbyists for the European banking industry have expressed disappointment at reports that the Basel Committee of global bank regulators is on the verge of adopting a so-called output floor of 72.5%, severely restricting the ability of lenders to calculate the risk in their books according to their own formulas.
Sources told Reuters and Bloomberg News that national central bank heads have informally agreed to implement the 72.5% floor, 2.5 percentage points lower than the original suggestion of 75%. Andreas Dombret, head of the German central bank, said at an event Oct. 11 in New York that a deal was near, with further details seen as likely to emerge from the sidelines of the IMF annual meeting in Washington later in the week.
A spokeswoman for the Basel Committee declined to comment on the reports.
The committee, which sets out guidelines for global banks that jurisdictions must then legislate for, has been wrangling for over a year with the notion of an output floor, which is designed to limit banks' use of proprietary models to calculate the risk of default on their loans and in turn the capital that must be held as a safety cushion. The measures would comprise the final peg of the Basel III package of postcrisis reforms, but are considered so sweeping in their nature that many, especially in Europe, have dubbed them Basel IV.
An output floor would mean that a bank could not assign a given loan a weighting any less than 72.5% of what it would have had to use under a so-called standardized approach to measuring risk. Risk weights are set at a percentage of a loan's value, with lenders then having to hold high-quality capital, mainly equity, at a set proportion of that risk-weighted value.
The original proposal came amid widespread suspicion, particularly among investors, that banks were using internal models to game capital requirements in their favor. But the measures have been met with fierce opposition among European firms, politicians and regulators, who fear that lending will be impeded, in turn hurting economic growth and their ability to compete with U.S. rivals. Banks that hold large proportions of mortgages and corporate loans will be the most affected, calculations by S&P Global Market Intelligence have revealed; relative to their U.S. peers, European lenders do far more direct corporate lending and hold far more mortgages on their books.
To a lesser extent, Canadian and Japanese banks have also opposed the proposals, although the Basel Committee previously said the majority of banks worldwide would experience no material increase in their capital requirements as a result of the output floor.
'Difficult to accept' even a lower floor
In spite of the Basel Committee's reassurances about overall capital requirements, industry insiders told S&P Global Market Intelligence that European banks would have to increase their buffers and that the compromise would prove unwelcome.
"[72.5%] is definitely not a floor that's in line with the declaration of the Basel Committee that there should not be a material increase in risk-weighted assets. There would be a material increase in RWAs," a source lobbying for German banks said, asking not to be named. Even a floor of 70% would be "difficult to accept" because of the damage it might do to the real estate sector, the source added.
"The European banking system [relies] on balance sheet lending, mostly for property financing, which means that any kind of output floor would have a bigger impact on European banks doing property finance than on U.S. banks," the source said, adding however: "My understanding is that many countries, all the small countries, except France, seem to be willing to compromise on that level."
France, meanwhile, reiterated its opposition to any measure that would require its banks to grow their capital base, according to the Financial Times, which cited Finance Minister Bruno Le Maire as saying: "We do not want any increase in capital requirements; this is the constant position of the French government."
"A compromise in the Basel negotiations should respect the interests of all sides," said a second lobbyist for German banks who requested anonymity because of the sensitivity of the talks. "The proposal currently under discussion would not be acceptable to us since it would place European banks at a one-sided competitive disadvantage. If a 72.5% floor were introduced, European banks would be forced to cut back on lending. This would affect both long-term property loans and corporate finance. The upshot would be a clear setback for the economy in Europe."
Danish lenders are no less dismayed by the mooted compromise.
"We are, like everybody else, waiting to see if and what the Basel Committee may or may not have agreed upon," said Nina Munch-Perrin, communication director at Finans Denmark, the country's bank trade association. "But it is no secret that we do not consider an output floor, no matter the level, the right path to follow. In the case of Denmark an output floor will remove the healthy link between risk and capital holdings, which will have negative consequences for borrowers, society, and for financial stability in general."
Representatives of the Swedish banking industry declined to comment.
For the output floor to become official, it must be approved in a meeting of the global Group of Central Bank Governors and Heads of Supervision, or GHOS, the governing body of the Basel Committee, chaired by ECB President Mario Draghi. The last GHOS meeting was scheduled for January 2017 but was postponed indefinitely amid deep disagreement between the participants over the output floor. A new meeting has not been scheduled.