Align Regulatory Capital More Closely to Economic Risk, says FSA Chairman

Speaking to an international bankers conference in London, he said:

Our judgement is that the Basel revision should aim at producing a system which maintains the same high overall level of protection, with broadly the same overall level of capital. But the revised system should be one which distributes that capital more closely in line with economic risk. This means that some banks will face lower minimum capital requirements, particularly banks operating in less risky areas of business while for others, the minimum capital requirement will increase.

For some banks affected, particularly in the UK, this might not mean they have to hold more capital in practice, since many already hold more reserves than we require. But there will be pressure on some banks, and that must be well understood.

In our view there is no necessary inconsistency between the twin objectives of designing a more risk sensitive capital framework, where regulatory capital and economic capital are more closely aligned, and an insistence that the amount of capital in the system should remain at least the same. It is right to focus on creating a set of rules which make capital more closely related to underlying economic risk. But at a global level, it is hard to see why the banking system should be less susceptible to shocks in the next decade than it was in the last. Markets remain highly volatile - indeed perhaps more volatile than before. And there are new risks emerging all the time which underlines our judgement that we should not reduce the overall level of protection against default.

Notes for editors

1. Howard Davies was addressing the Institut International dEtudes Bancaires (IIEB) conference in London.

2. The Basel Committee on Banking Supervision intends to produce early next year a second Consultation Paper on the proposed revision of the Basel Capital Accord which sets our minimum capital requirements for internationally active banks. The First Consultation Paper was published in June 1999.

3. The FSA regulates the financial services industry and has four objectives under the Financial Services and Markets Act 2000: maintaining market confidence; promoting public understanding of the financial system; the protection of consumers; and fighting financial crime.

4. The FSA aims to maintain efficient, orderly and clean financial markets and help retail consumers achieve a fair deal.