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Basel III is a comprehensive set of reform measures, developed by the Basel Committee on Banking Supervision designed to strengthen the regulation, supervision and risk of the global banking sector. The Basel Committee is the primary global standard-setter for the prudential regulation if banks and provides a forum for cooperation on banking supervisory matters. Its mandate is to strengthen the regulation, supervision and practices of banks worldwide with the purpose of enhancing financial stability.
The Basel III reform measures aim to:
1.Improve the banking sector's ability to absorb shocks arising from financial and economic stress, whatever the source.
2.Improve risk management and governance.
3.Strengthen banks' transparency and disclosures.
The reforms target bank-level, or microprudential, regulation to help raise the resilience of individual banking institutions to periods of stress. It also concerns macroprudential system wide risks that can build up across the banking sector as well as the procyclical amplification of these risks over time. These two approaches to supervision are complementary as greater resilience at the individual bank level reduces the risk of system wide shocks.
One of the main reasons the economic and financial crisis became so severe was that the banking sectors of many countries had built up excessive on and off-balance sheet leverage. This was accompanied by a gradual erosion of the level and quality of the capital base. The banking system was therefore unable to absorb the resulting systemic trading and credit losses nor could it cope with the reintermediation of large off-balance sheet exposures that had built up in the shadow banking system. The crisis was further amplified by a procyclical deleveraging process and by the interconnectedness of systemic institutions through an array of complex transactions.
Basel 3 achieves far-reaching reform of the global banking system and the new standards reduce banks' incentive to take excessive risks, lower the likelihood and severity of future crises, and enable banks to withstand - without resorting to government support - stresses of a magnitude associated with the recent financial crisis.
Basel IV is expected to follow the third Basel accords and will require more stringent capital requirements and greater financial disclosure. It will require banks to meet higher maximum leverage ratios (an initial leverage ratio maximum is likely to be set as part of the completion of the Basel III package). It emphasises simpler or standardised models, rather than banks' internal models, for calculation of capital requirements (the Basel committee has made initial proposals on simpler models as part of the completion of the Basel III framework). It also requires more detailed disclosure of reserves and other financial statistics