Alert July 20, 2010

Basel Committee Issues Countercyclical Capital Buffer Proposal

The Basel Committee on Banking Supervision (the “BCBS”) issued a consultative document regarding its proposal for a countercyclical capital buffer (the “Proposal”).  The Proposal provides that a buffer would be “deployed when excess aggregate credit growth is judged to be associated with a build-up of system-wide risk to ensure the banking system has a buffer of capital to protect it against future potential losses.”  Accordingly, such countercyclical capital buffers are expected to be deployed in a given jurisdiction only on an infrequent basis, “perhaps as infrequently as once every 10 to 20 years.”  In general, national bank regulators would inform banks 12 months in advance of their judgment of any necessary “buffer add-on” in order to give banks time to meet the additional capital requirements, while reductions in a buffer would take effect immediately to help reduce the risk that the supply of credit would be constrained by regulatory capital requirements. 

Under the Proposal, internationally active banks would look at the geographic location of their credit exposures and calculate their buffer add-on for each exposure on the basis of the buffer in effect in the jurisdiction in which the exposure is located.  (In other words, an internationally active bank’s buffer would effectively be equal to a weighted average of the buffer add-ons applied in jurisdictions to which it has exposures.)  Accordingly, internationally active banks “will likely find themselves carrying a small buffer on a more frequent basis, since credit cycles are not always highly correlated across the jurisdictions to which they have credit exposures.”  The Proposal also notes that the BCBS is continuing to consider the home-host aspects of the Proposal. 


To assist the relevant national banking regulators in each jurisdiction in making buffer decisions, the BCBS developed a methodology to serve as a common starting reference point.  The methodology “transforms the aggregate private sector credit/GDP gap into a suggested buffer add-on,” with a zero guide add-on when credit/GDP is near or below its long-term trend and a positive guide add-on when credit/GDP exceeds its long term trend by an amount which suggests there could be excess credit growth.  The BCBS noted, though, that national authorities are not expected to rely mechanistically on the credit/GDP guide, but rather are expected to apply judgment in the setting of the buffer in their jurisdiction after using the best information available to gauge the build-up of system-wide risk.

Public Comment

The BCBS is accepting comments on the Proposal until September 10, 2010.

Other Action

The BCBS also announced in a press release that it will be presenting to the Central Bank Governors and Heads of Supervision at an upcoming meeting later in July concrete recommendations for the definition of capital, the treatment of counterparty credit risk, the leverage ratio, the conservation buffer and the liquidity ratios.  In addition, the BCBS announced that it reviewed proposals for the role of “going concern” contingent capital and will issue shortly a proposal for consultation.  Furthermore, the press release notes that the BCBS continues to review specific proposals to address the risks of systemic banking institutions, including a “guided discretion” approach for a systemic capital surcharge in combination with other mitigating regulatory and supervisory measures.