After prolonged consultations held between December and March, the Basel Committee on Banking Supervision proposed to enact a new legislation that aims to prevent a recurrence of the financial crisis. The committee recommended that banks post additional Pillar One capital worth 1% of their respective fund arms’ assets. This is to counteract against the potential “step-in” risk – an event whereby banks have to cover the losses of investors’ assets that were held in its funds.
The committee pointed out that during the financial crisis, more than $12 billion additional funds have to be raised in order to support the money market funds. Had this measure failed, the funds would have fallen below their $1 par value and inevitably lead to investor panic. Citing this precedent as their main concern, the committee explained that the proposed legislation is not restricted to the money market funds, but expanded to cover all assets under management.
Big Banks Express their Disgust
Led by some of the biggest banks in the world, the industry released a statement on April 4th declaring the proposal as a flawed idea. Amongst these protests are representatives from Deutsche Bank, Wells Fargo, State Street, and Nomura. Should the proposal come into effect, it would effectively bind the banks to hold capital in excess of tens of billions of dollars.
As one of the world’s largest asset management firms with more than $2.25 trillion in client assets, State Street is expected to be hit the hardest. A quick calculation shows that if the new legislation is enacted, the bank would be legally compelled to hold more than $22 billion of additional capital. As State Street’s global head of regulatory, industry and government affairs, Stefan M Gavell was surprised by this proposal, explaining a lack of academic literature to warrant its foundation. Mr. Gavell also indicated that the proposal should be seen as a research paper and not a definite conclusion. Suggesting that more discussions from relevant parties would be required before making the penultimate decision.
The general consensus expressed by the banks seem to indicate that such an unprecedented move would ultimately force some banks to shut down their asset management divisions. The potentially higher operating costs and excessive capital requirements would offset the attractiveness of asset management.
Representatives from other financial associations have also voiced their displeasure towards the proposal. The British Bankers Association categorized it as a superfluous strategy that should be eliminated totally. The French Banking Federation expressed their objection in a written response, explaining that such a move would create an uneven playing field, where bank-owned asset managers would be significantly disadvantaged as compared to independent companies who are not bound by the same set of rules. It summarizes by warning that the enactment of such a proposal would create a new moral hazard whereby investors expect banks to step in and rescue their investments at the slightest hint of financial distress.
In light of such strong opposition to the proposal, the Basel Committee has refused to comment on the issue. A spokeswoman from the Bank of International Settlements, which oversees the Basel Committee’s activities, explained that the need for discussion and review would only be considered when the proposal is at its final approach.