Global banking regulators shouldn’t see debt limits, known as leverage ratios, as a panacea for how to prevent excessive risk-taking at lenders, according to the chief official at the Basel Committee on Banking Supervision.
“Despite its apparent simplicity, an internationally comparable leverage ratio is anything but simple to design,” Wayne Byres, the Basel Committee’s secretary general, said in a speech in Portugal. “Believe me, it is not easy.”
Byres’s warning of the limitations of the debt limits follows a growing push from regulators to simplify capital rules for banks, with more reliance on leverage ratios. U.S. Federal Deposit Insurance Corp. board member Thomas Hoenig called last month for most Basel rules to be scrapped in favor of an indebtedness limit. Andy Haldane, the Bank of England’s executive director for financial stability, has also said that Basel rules may be too complicated to function effectively.
Leverage ratios force banks to hold a minimum amount of capital against their assets, with the capital requirement measured as a percentage of the assets’ total value. This restricts how far lenders can finance their activities through debt.
An overhaul of the Basel group’s bank rules in 2010 included a leverage ratio alongside other capital rules that require lenders to assess the riskiness of the assets they hold.
Byres defended this approach, saying that relying only on a leverage ratio might encourage banks to increase, rather than reduce, their risk taking.
“A simple capital-to-assets ratio will, on its own, create incentives for banks to undertake riskier activities,” he said. Banks may also find ways to get around the measure, he said.
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