Basel 3 Endgame vs Basel 4: A Regulatory Comparison

The Basel 3 endgame and Basel 4 are two major regulatory frameworks that aim to strengthen banking regulations and prevent future financial crises. Basel 3 was introduced in 2010 in response to the 2008 global financial crisis.

Basel 3 focuses on increasing capital requirements for banks and introducing liquidity requirements to ensure they have sufficient funds to withstand economic downturns. It also introduced the concept of countercyclical buffers, which allow banks to build up capital during good times to absorb losses during bad times.

The Basel 3 endgame is expected to be implemented by 2027, with the goal of ensuring that banks have sufficient capital to absorb losses and maintain stability in the financial system. This will help prevent another financial crisis like the one in 2008.

Basel 4, on the other hand, is still in the development stage and is expected to be finalized in the coming years. It will likely build on the foundations laid by Basel 3 and introduce new requirements to address emerging risks and challenges in the banking sector.

The U.S. regulatory proposal for Basel III Endgame was released in July 2023 by the Federal Reserve, along with the FDIC and OCC. This proposal aims to implement the final Basel III reforms in the United States.

The proposal seeks to apply a broader and more conservative regime of capital requirements than the Basel Committee suggested, citing the turmoil in the spring of 2023 and the collapses of Silicon Valley Bank and First Republic Bank.

The proposal would require banks with assets exceeding $100 billion to face a substantial increase in required capital holding requirements, with estimates ranging from 16-20% for domestic non-GSIBs and 30% for U.S. GSIBs.

The regulating agencies accepted public comments on the proposal until January 16th, 2024, and comments overwhelmingly opposed the proposal in its current form, recommending substantial revisions or rescinding the proposal.

Covered financial services organizations will need to begin transitioning to the new framework by July 1st, 2025, with full compliance by July 15th, 2028.

Here's a breakdown of the estimated increases in required capital holding requirements:

Note that these increases can vary substantially by firm depending on their business model.

The EU has included market risk capital changes in the FRTB, but only for reporting purposes, with a proposal to move to binding capital requirements for market risk and CVA by 1 January 2025.

The timeline for implementation diverges with the BCBS proposal of 1 January 2024. The EC can amend the market risk capital calculation approaches if there are any major discrepancies with other major jurisdictions by 31 March 2024.

Individual member states and their central banks will have the authority to establish the timeline and infrastructure to implement the new standards domestically, although the Basel standards are not legally binding treaties or laws.

The 2017 Revisions to Basel III were a significant step towards improving international comparability among financial institutions. The Basel Committee released a package of reforms, often referred to as "Basel 3.5" or "Basel IV", in December 2017.

The revised package aimed to ensure banks' capital ratios are transparent and their risk-weighting calculations are credible. One of the core elements of the proposal revised and expanded the current use of "standardized approaches" to calculating a firm's risk-weighted assets (RWAs).

The proposal would revise and generally increase the riskiness assigned to certain types of assets and introduce a new method of assigning credit risk and operational risk. This would limit banks' ability to use their own internal risk models to determine the riskiness of their lending activity.

The new rules are intended to improve transparency and sensitivity to market dynamics, and some supporters of the proposal suggest the internal models banks currently use underestimate risk to keep operating costs low. Critics of the proposal, however, note standardized approaches are blunt tools that cannot fully consider a firm's individual portfolio and business model.

The 2017 reforms have introduced increased minimum capital requirements from the 2010 proposal. Qualifying banks must now hold a Common Equity Tier 1 (CET1) Capital buffer of 50% of their overall risk-weighted capital.

Most banks with $100 billion or more in assets are required to hold a minimum CET1 ratio of at least 8%. The new non-risk-based leverage ratio serves as a backstop to the risk-based capital requirements.

The implementation of financial reforms is a complex process, but understanding the timeline and requirements can help you stay on track.

The European Union has included market risk capital changes in the FRTB, with a proposal to move to binding capital requirements for market risk and CVA by 1 January 2025.

Most member states are on track to implement the new Basel III rules by July 2025, although some have delayed due to the COVID-19 pandemic.

The BCBS proposal for Basel III implementation diverges from the initially planned timeline, with some member states adopting more stringent standards, known as "gold plating."

The agencies have proposed a three-year transition period for compliance, with a proposed compliance date for the final rule of July 1, 2025.

Here's a summary of the proposed compliance dates for different reforms:

The proposed compliance dates are subject to change, and it's essential to stay up-to-date with the latest developments to ensure timely implementation.

Capital requirements are a crucial aspect of banking regulations, and the proposed changes under Basel III Endgame and Basel IV have significant economic implications.

The proposed revisions to capital requirements under Basel III Endgame aim to increase the granularity, robustness, transparency, and comparability of the credit risk capital framework, which could lead to a more accurate assessment of a bank's risk.

Banks with assets exceeding $100 billion could face a substantial increase in required capital holding requirements under the proposal, with estimates suggesting a 16-20% increase for domestic non-GSIBs and a 30% increase for U.S. GSIBs.

The expanded standardized approaches for risk-weighting in the proposal could limit banks' ability to use their own internal risk models, which could lead to increased costs for regular lending practices.

The new non-risk-based leverage ratio introduced in the 2017 BCBS proposal serves as a backstop to the risk-based capital requirements, but it also makes regular lending practices more expensive.

Qualifying banks must hold a Common Equity Tier 1 (CET1) Capital buffer of 50% of their overall risk-weighted capital under the new requirements, which is a significant increase from the current minimum CET1 ratio of at least 8% for banks with $100 billion or more in assets.

Here's a breakdown of the estimated increases in capital requirements for different types of banks under the proposed changes:

The increased capital requirements could lead to higher costs for banks, which could be passed on to consumers in the form of higher interest rates or reduced lending options.

The proposed changes under Basel III Endgame and Basel IV aim to improve the stability of the global financial system, but they also have the potential to impact economic growth and credit availability.