Business

Basel III may hamper development

Lisa Steyn

Trade has been the most important driver of international growth over the past 60 years and is a key to creating jobs in emerging markets such as SA.

There are concerns that Basel III regulations could slow down global trade. (Chris Hondros, AFP)

The looming Basel III guidelines have pros and cons for the country. They could affect the availability and cost of trade finance, putting pressure on trade flows and ultimately affecting global development.

Basel III, a regulatory reform aimed at righting the wrongs that led to the economic crisis of recent years, aims to reduce banks' dependence on short-term loans (trade financing averages 115 days).

The potential effects of Basel III are so unfavourable to trade finance that the G20, a group of finance ministers and central bank governors from 20 major economies, has committed to reform in this area and the World Bank, the International Monetary Fund and the Financial Stability Board are conducting research into it.

Trade finance is considered a safe and profitable form of financing. Five years of data from 14 of the world's largest commercial banks showed only 3 000 defaults. This was on 11-million transactions representing more than $2-trillion and covering more than 65% of the world's trade finance transactions.

In its 2011 annual report, the International Chamber of Commerce concluded that trade finance was low-risk and should be treated as such by regulation.

A priority recommendation submitted to the G20 by the nations' business leaders at its summit in Mexico earlier this year was that Basel III regulations be reformed. The leaders' task force said "the G20 should recognise the low-risk nature of trade nance activity and the value it provides for emerging economies and take action to reverse the unintended consequences of the ­capital and liquidity treatment of trade finance".

Derivative-related exposures
The Basel III regulations cite the failure to capture major on- and off-balance sheet risks, as well as derivative-related exposures, as a key destabilising factor during the crisis.

Basel III, due to be phased in from next year, requires that all off-balance sheet items have a credit conversion factor of 100%. Instead of providing capital at 10% or 20%, such loans will have to be fully capitalised. This is less profitable for banks and not consistent with the low-risk nature of trade financing.

According to BAFT-IFSA, the association for organisations actively engaged in international transaction banking, Basel III could raise trade finance costs by 18% to 40% and this is likely to be passed on to corporate clients. The potential amount of trade finance available could also slow in favour of using the balance sheet for other, more profitable corporate products.

However, the South African Reserve Bank's registrar of banks, René van Wyk, said: "Only under specific circumstances will it contribute to restricting the businesses of banks that fail to comply with the limit imposed by the leverage ratio."

He said banks did not currently hold capital against 100% of their exposures to trade finance and this was not expected to become the requirement. Already, recent pronouncements by the Basel committee on banking supervision had introduced specific changes to the framework that reduced the capital requirement for specific trade finance transactions, Van Wyk said.

"Currently, the bank supervision department is in the process of incorporating these changes into the amended regulations relating to banks."

These changes followed an assessment of the effect of Basel II and III on low-income countries. They include waiving the one-year maturity floor for certain trade finance instruments under the advanced internal ratings-based approach for credit risk and the so-called sovereign floor (usually with a risk weighting of 100%) for certain trade finance-related claims on banks using the standardised approach for credit risk. But the chamber said more was needed to relieve constraints on developing and emerging economies. At the time, Kah Chye Tan, chairperson of the chamber's banking commission, said: "We have narrowed the gap and there is an opportunity for us to do more through continuing dialogue. We believe that banks and Basel have the responsibility to develop a robust banking environment to create jobs through trade."

Full implementation
The G20's business leaders agreed and recommended to the group more changes to regulation, including a consistent credit conversion factor of 20% for medium- to low-risk off-balance sheet trade nance exposures and 50% for medium-risk off-balance sheet exposures for the purpose of the leverage ratio, which has been applied under Basel I and II for certain trade contingents. It also suggested that a dened liquidity requirement for trade contingents was needed as well as a trade-specic asset-value correlation or risk curve.

A waiver of the one-year maturity oor for trade loans and receivables was also recommended.

Following the summit, the G20 leaders said they recognised progress in financial reform, including Basel, and were committed to work in these areas to achieve full implementation.

The treasury told the Mail & Guardian it had not seen evidence of substantial trade finance drying up because of tightened Basel II regulations and a fall in trade finance globally appeared to be mainly driven by European banks. "This is also in response to the ongoing difficulties faced by European banks in their home jurisdictions. Asian banks, and to a lesser extent South African banks, seem to have stepped into the breach in terms of providing trade finance," it said.

South African banks appear better prepared for stringent incoming capital requirements, but for those elsewhere that are not adequately capitalised "a country's competitiveness is one area which is likely to be affected", said Suresh Chaytoo, regional head for banks and development financial institutions in Africa at Rand Merchant Bank. "Banks will have to look at the return on equity and make necessary adjustments."

The secretariat of the Basel committee said both the capital and liquidity aspects of the treatment of trade finance remained under review. "Both the leverage ratio [capital] and the liquidity coverage ratio are works in progress for the Basel committee and the treatment of trade finance will be one of many issues considered during the course of work to finalise these new regulatory requirements."


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