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Monday, September 30, 2013

U.S. Implementation of the Basel Capital Regulatory Framework

Darryl E. Getter
Specialist in Financial Economics

The Basel III international regulatory framework, which was produced in 2010 by the Basel Committee on Banking Supervision at the Bank for International Settlements, is the latest in a series of evolving agreements among central banks and bank supervisory authorities to standardize bank capital requirements, among other measures. Capital serves as a cushion against unanticipated financial shocks (such as a sudden, unusually high occurrence of loan defaults), which can otherwise lead to insolvency. The Basel III regulatory reform package revises the definition of regulatory capital and increases capital holding requirements for banking organizations. The quantitative requirements and phase-in schedules for Basel III were approved by the 27 member jurisdictions and 44 central banks and supervisory authorities on September 12, 2010, and endorsed by the G20 leaders on November 12, 2010. Basel III recommends that banks fully satisfy these enhanced requirements by 2019. The Basel agreements are not treaties; individual countries can make modifications to suit their specific needs and priorities when implementing national bank capital requirements.

In the United States, Congress mandated enhanced bank capital requirements as part of financialsector reform in the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank Act; P.L. 111-203, 124 Stat.1376). Specifically, the Collins Amendment to Dodd- Frank amends the definition of capital and establishes minimum capital and leverage requirements for banking subsidiaries, bank holding companies, and systemically important nonbank financial companies. In addition, Dodd-Frank removes a requirement that credit ratings be referenced when evaluating the creditworthiness of financial securities. Instead, the U.S. federal banking regulators (i.e., the Federal Reserve, the Office of the Comptroller of the Currency, and the Federal Deposit Insurance Corporation) are required to find other appropriate standards by which to determine the financial risks of bank portfolio holdings when enforcing the mandatory capital requirements.

This report summarizes the higher capital requirements for U.S. banks regulated for safety and soundness. The U.S. federal banking regulators announced the final rules for implementation of Basel II.5 on June 7, 2012, and for the implementation of Basel III on July 9, 2013. Although higher capital requirements for most U.S. banking firms may reduce the insolvency risk of the deposit insurance fund, which is maintained by the Federal Deposit Insurance Corporation, it arguably could translate into more expensive or less available bank credit for borrowers. Whether higher capital requirements would result in a reduction of overall lending or systemic risk remains unclear. Prior to the financial crisis, banks maintained capital levels that exceeded the minimum regulatory requirements, yet the economy still saw widespread lending. Bank capital reserves also may have limited effectiveness as a systemic risk mitigation tool if a significant amount of lending occurs outside of the regulated banking system. For an introduction to some of the topics covered in this report, see CRS Report R43002, Financial Condition of Depository Banks, by Darryl E. Getter.

Date of Report: September 16, 2013
Number of Pages: 25
Order Number: R42744
Price: $29.95

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