Global markets are intertwined. The tsunami of 2008 on financial markets proved one thing. A financial crisis leaves no market unscathed. And the ill effects can be felt for years to come.
The rise and prominence of broader and deeper regulation has been undoubtedly necessary but pressure for governments to ensure they serve their national interest for political longevity continues to have an ironic twist.
Tighter control means greater restriction at source. Rightly so I hear you say. Complex banking structures have become the perfect breeding ground for the manipulation of markets. Tapping into these structures to avoid further crises has resulted in the rise of SUPER regulation – regulatory frameworks applied to multiple jurisdictions in order to intercept points of failure that structures, markets and countries invariably offer up.
But markets play forward. Decisions and actions made or taken at source have a multiplier effect and in the connected world we live, the consequences have and continue to ricochet along the financial supply chain – central bank to Mr & Mrs Smith.
Liquidity simply refers to level banks can lend. Markets thrive on the flow of money. But ‘money’ takes on different definitions depending on market sentiment. The tolerance for credit expands in bull markets and the cost of money drops – as credit becomes more accessible the line between credit and ‘cash’ takes on a far more porous quality. When things turn bear, then the liquidity quotient rises and the value of cash vs credit rises.
Everything gets more costly. For the banks – safeguarding against further penalties through higher levels of collateral lodged with a central bank is just one pressure weighing down on them. This means less freedom of movement. And that ultimately stifles the rest of the market.
The Basel III framework is calling for unprecedented levels of both liquidity and capital ratios. As a result liquidity costs have increased as a percentage of a bank’s total capital from 1% in 2008 to 30% in 2012 such that every $1 billion increase in the size of a bank’s liquidity buffers increases its costs by $10 million per year.
And it doesn’t stop there. All banks have inherent legacy costs. Structures, data and disconnected processes simply do not allow for compliance requirements that force unity. A 2011 study revealed that internal fragmentation of global collateral management costs banks over $4 billion a year. What this means is that many banks could be laying too much of their asset book at the central bank’s doors each day – just to ensure they are not exposed on intra-day liquidity requirements.
The result – even more throttle placed on flow of funding into the market – painful for a bank trying to remain competitive and for all market players big and small.
For the most part regulators have highlighted – what must not happen again as the enforcer. How to enable the journey is far tougher.
The Basel Committee recognizes this and by design & necessity – have evolved their thinking for Basel III implementation such that there is a willingness to engage with market recipients to explore the pragmatic so that that financial institutions can work alongside regulators to explore ways in which the ‘rules’ can be adhered in ways that are benefit the onward health of the market.
What is emerging is that regulators are needing to be an enabling force 1st and enforcer 2nd so that ways can be sought to bridge the gap between entrenched models and agile operations. There is way more to be gained by figuring out the implementation in unison. The cynical may say ‘better the devil you know’. I would argue such labeling solves very little. We all need our banks to be healthy. Amen!