August 7th, 2012
Multi-lateral ‘regulation’ was not able to impede the global financial crisis that is said to have begun in 2007. These regulations had been produced by the International Organization of Securities Commissioners (“IOSCO”) and the Bank for International Settlements (“BIS”) Banking Committee on Banking Supervision. Although some call it by its acronym, “BCBS” most know it as Basel while its associated supervision guidance is known as Basel ll.
Where Basel II needed to upgrade, its generation III aka Basel III intends to address some of the open concerns of what are characterized as “Macro (economic) imbalances”. Other imbalances included problems with the Sub-prime (or higher risk real estate and other loans) and its bubble.
Additional targets for Basel attention include “Financial” innovation (or the pre-eminence and “fair” valuing of financial engineering to produce financial products for investors and management use at financial companies), an over-reliance on complex sometimes flawed quantitative models, and pro-cyclicality built into the Basel II compliance framework. Basel compliance’s framework also included a requisite to rely on the use of rating agencies’ ratings. In the fall of 2008 while the markets were correcting to reflect the economy’s poor economic condition, all of these aforementioned factors contributed to the large financial institutions in the financial system while in distress asking for Government rescue.
When in 2007 the major US financial institutions reported record breaking profits, the need for emergency rescue of banks that also appeared to meet all required capital regulations showed that some key regulations were flawed. When underwriting loans moreover, banks’ measurement of asset quality relied too heavily on ratings agencies, which often gave investment grade ratings to structured financial products such as mortgage-backed securities and associated synthetic structured mortgage product that in their extreme complexity turned out to have hidden serious asset quality problems. Moreover, off-balance sheet risks were also understated. These risks included credit default swaps and exposure to losses of ‘shadow’ banks aka the investment banks and other non-banking financial intermediaries such as the private-label (non-Government Sponsored Agencies aka “GSEs”) mortgage banks and private label groups securitizing mortgage paper and producing synthetic product.
CMA can advise and coordinate with industry level working groups in conjunction with standard setters to address the structural funding challenges encountered by financial institutions. CMA also can work with and advise SIFIs on addressing treatment by the regulators. CMA has a great deal of experience on advising on eligibility of non-common equity Tier 1 and Tier 2 instruments, to improve a firm’s counter-cyclical capital buffer that would facilitate putting the firm on better, more stable footings.
