Basel II
What is it?
Basel II is a new set of banking regulations put together by the Basel Committee on Banking Supervision, put in effect in early 2008 in Europe and January 2009 in the US.
The big idea is to create a set of international standards to dictate the amount of capital banks need to set aside to cover their liabilities and the risks they face. Basel II was designed to improve upon the shortcomings of its more rigid predecessor, Basel I, by allowing banks some discretion in estimates the risk of different categories of assets they hold.
What liabilities? Try the promise that they'll give you the money in your bank account when you wish to withdraw it. What risks? Anything from householders who are unable to repay their mortgages, to rogue traders like Jérôme Kerviel, who lose hundreds of millions in secret trades.
In the European Union Basel II is being implemented under the auspices of the Capital Requirements Directive.
What's it got to do with the financial crisis?
Basel II was implemented in phases, with different deadline dates set for different countries. It wasn't particularly popular: banks already hit by the credit crunch didn't want to be forced to tighten their capital standards just when markets were seizing up and finding additional capital became difficult. At the same time, bankers were being forced to write down billions of assets that no one wants to buy - further eroding the value of the capital they've already got.
Moreover, some people argue that the Basel Rules on capital adequacy encouraged banks to move their risks off-balance sheet into special purpose entities and structured investment vehicles, where they wouldn't be visible to regulators. Use of these off-balance sheet vehicles helped create the massive growth in the availability of credit in the run-up to the credit crunch. For these reasons and others, in September 2009, US Treasury Secretary Timothy Geithner advocated for a new global capital accord that would replace Basel II.
Last updated on 7 September 2009.
