Basel 3 and Trade Finance

Transcription

1 2013/FMP/WKSP4/004 Session: II Basel 3 and Trade Finance Submitted by: International Finance Corporation Workshop on Trade Finance Lombok, Indonesia 1 July 2013

2 Basel 3 and Trade Finance Anurag Mishra Regional Head, APR Global Trade and Supply Chain International Finance Corporation July, 2013

3 Background Basel 3 Aims at Improving Resilience of Banking Sector In the process it has come up with set of recommendations - as far as Trade Finance is concerned it has made people nervous. Trade is also an important pillar of Economic Growth. Global Crises resulted in 23% decline in Trade volume in Present set of recommendations could have a similar impact on Trade Finance. This could have a crippling impact on the Transformational shift predicted in Trade Flows and in turn impact the role of Trade in Global Economic growth and Global Economic Growth itself.

4 Basel III Strengthened pillars Basel III focuses on bringing stability to financial markets by having Stricter Capital, Leverage and Liquidity Requirements.

5 Quality of Capital Basel III Capital Requirements Minimum Total Capital Ratio retained at 8%. Tier 1 Capital Ratio increased from 4% to 6% Tier 2 now constitutes only 2% of total capital Tier 3 instruments phased out Common Equity Tier 1 Capital Ratio increases from 2% to 4.5% Additional Capital Conservation Buffer - Additional common equity requirement of 2.5% to withstand periods of financial and economic stress Countercyclical Capital Buffer 0 to 2.5% of common equity or other fully loss-absorbing capital. Global systemically important financial institutions Additional 1 2.5% capital charge to be met with common equity

6 Phases of Basel III capital requirements 14 13% % % 8% 8% 8% 9.25% % <= >=2019 CET 1 Additional Tier 1 Tier 2 Capital conservation buffer Countercyclical buffer

7 Basel III Leverage and Liquidity Ratios Leverage Ratio - Non-risk based Tier 1 capital / Total exposure >= 3% Exposure includes credit risk adjustment of 10% for undrawn credit facilities and 100% for other off-balance sheet items Liquidity Ratios Liquidity coverage ratio (LCR) requires maintenance of high-quality liquid assets to equal or exceed highly-stressed one-month net cash outflows Net Stable Funding Ratio (NSFR) requires a sound funding structure on an ongoing structural basis. Focus is on Asset Liability Mismatch, Funding Concentration, etc. Additional liquidity monitoring metrics Maturity classification of contractual cash and security inflows & outflows Identification of sources of wholesale funding critical for liquidity

8 Impact of Basel III on Trade Finance Basel III regulations will have significant effect on trade finance Quality of Capital Most of the Capital Requirement needs to be met through Common Equity it will increase cost of doing business including Trade Finance. Amount of Capital - In addition to Tier1 and Tier 2 Capital the Capital Conservation Buffer plus Counter Cyclic Buffer and Additional Capital requirement for G-SIBs can add up to 15.5% - which again adds to cost. However non G-SIBs will also suffer on account of higher cost of funds as they typically borrow from G-SIBs who will have no choice but to lend at higher rates to recover their cost. It will also impact trade business denominated in non G3 currencies as local banks will be more liquid and therefore competitive than the G-SIBs in this space.

9 Impact of Basel III on Trade Finance (cont.) Leverage Ratio Universal Credit Conversion Factor for Trade Finance does not do justice to short term, self liquidating, well documented trade transactions. This mechanism also fails to recognize the credit enhancement through ECAs, Multilaterals like IFC, ADB, MIGA etc. Also it is important to note that trade is a self generating activity / business and does not grow exponentially in a leveraged scenario.

10 Impact of Basel III on Trade Finance (cont.) Liquidity Ratios Liquidity Coverage Ratio (LCR) and Net Stable Funding Ratio (NSFR) While on one hand Trade assets do not fall under Liquid Asset category - on the other hand deposit from Cash and Trade (they go hand in hand) will not be part of NSFR Calculation. Deposit run-off factors are not based on internal modeling methodology which defeats the purpose of applying the Deposit run off factor. Net Stable Funding Ratio (NSFR) - existing percentage of short term and long term assets that needs to be funded by long-term stable funding will result in Cost of funds going up significantly and at the same time make the Financial Institutions Deposit least attractive a main stay of all banks.

11 Impact of Basel III on Trade Finance (cont.) Counterparty Credit Risk - Basel 3 has come up with a higher Asset Value Correlation (AVC) for large financial institutions (FI) (US$100 billion worth of assets) and unregulated FI through an AVC multiplier of Standardized AVC places all Bank to Bank Exposures at par. Therefore trade finance will attract came capital as other riskier and more correlated products such as syndicated loans and bonds AVC multiplier for Trade Finance should not be applied.

12 Impact of Basel III on Trade Finance (cont.) Level Playing Field Given the fact that not all G-SIBs will have to hold same amount of capital will lead to Geographical Arbitrage which in turn will result in Concentration. Priority for all governments, including Basel Committee, to promote consistency of Basel III implementation world wide will be critical to prevent such a situation. One Year Floor - Tenor of instruments when measuring effective maturity (to calculate RWA) this is a step in the reverse direction as market and regulators do differentiate between 3 mt./ 6 mt / 12 mt risk.

13 Conclusion Bottom Line is that Trade Finance is a relatively low risk business. The Short Term, Self Liquidating and Well Documented nature of Trade Finance makes it inherently safer. There is sufficient empirical data to establish the same. Therefore Regulators need to look at Trade Finance with a perspective that is fair and takes into account the inherent nature of the business. Also regulators need to try and keep the rules of the game uniform or else it will lead to arbitrage.

14 Thank You