The Group of Central Bank Governors and Heads of Supervision (GHOS), the oversight body of the Basel Committee on Banking Supervision, met on last week to reaffirm its expectations on implementing Basel III and to provide direction on key areas of work by the Committee.

Basel Committee

The resurgence of inflation in many jurisdictions, coupled with a deteriorating macroeconomic outlook and tighter financial conditions, may expose vulnerabilities accumulated in the financial system. While the global banking system has remained broadly resilient to date, thanks in part to the Basel III reforms implemented after the Great Financial Crisis, GHOS members underlined the importance of banks and supervisors continuing to closely monitor, assess and mitigate emerging risks and vulnerabilities. The unwinding of public support measures – which were critical in shielding banks from losses over the past two years – places greater importance on the resilience of the banking sector to absorb potential shocks.

Basel III implementation

Against that backdrop, GHOS members took stock of the implementation status of the outstanding Basel III reforms. These standards, finalised in 2017, seek to strengthen the resilience of bank capital by addressing some of the weaknesses in the regulatory framework that were exposed by the Great Financial Crisis, including by reducing excessive variability in risk-weighted assets and improving the comparability and transparency of banks’ risk-based capital ratios. Addressing these weaknesses remains as important today as it was pre-pandemic.

More than two thirds of jurisdictions plan to implement all, or the majority of, the standards in 2023 or 2024, with the remaining jurisdictions planning to implement Basel III in 2025. There are only a limited set of technical standards that are particularly subject to an implementation delay.

GHOS members unanimously reaffirmed their expectation of implementing all aspects of the Basel III framework in a full and consistent manner, and as soon as possible, in order to provide a regulatory level playing field for internationally active banks. These banks should continue preparing for the forthcoming implementation of the standards.

The GHOS also reviewed the Committee’s work on climate-related financial risks and cryptoassets. On the former, GHOS members reaffirmed the scope of the Committee’s work – which currently focuses on climate-related financial risks – and endorsed the Committee’s holistic approach to developing and assessing potential measures related to disclosure, supervision and/or regulation. On cryptoassets, members reiterated the importance of designing a robust and prudent regulatory framework for banks’ exposures to cryptoassets that promotes responsible innovation while preserving financial stability. The GHOS tasked the Committee with finalising such a framework around the end of this year.

GHOS members also took note of the ongoing work by the Committee to evaluate the impact of Basel III standards already implemented on the resilience and behaviour of the banking system. Members emphasised the importance of focusing on the implementation of outstanding Basel III reforms before considering any policy or supervisory implications related to findings of the Committee’s evaluation work.

Risks and vulnerabilities to the global banking system

The Committee discussed the implications for the global banking system of economic and financial market developments, including resurgent inflation and the deteriorating growth outlook. The discussion drew on the Committee’s recent assessment of how inflation-related risks and a snapback in interest rates would affect the global banking system.

Thanks in part to the Basel III reforms, banks have generally remained resilient to date. While rising interest rates are expected to support intermediation revenue on the one hand, the risk of persistently high inflation and possible economic downturns could test banks’ resilience. Banks and supervisors must therefore remain vigilant to the evolving outlook to ensure that the global banking system remains resilient.

Members also discussed medium-term structural changes and vulnerabilities affecting the banking system. This includes banks’ interconnections with non-bank financial intermediation (NBFI), which have grown considerably over the past decade. A recent thematic assessment by the Committee highlighted the wide range of direct and indirect channels by which banks could be exposed to NBFI. Recent episodes of NBFI distress have highlighted the potential spillover of risks to the banking system. Members agreed to continue to monitor NBFI developments and to assess the supervisory implications. The Committee also discussed cryptoasset market developments and took note of the recent direction provided by the GHOS with regards to finalising a prudential framework.

The Committee exchanged views on the supervisory implications of the use of artificial intelligence (AI) and machine learning (ML) by banks. Members discussed the challenges raised by AI/ML for banks when seeking to understand and explain the outputs from models, as well as for banks’ governance and accountability arrangements, and their use of third-party AI/ML applications. The Committee agreed to continue to assess these developments and exchange supervisory best practices.

Evaluation and implementation of Basel III reforms

The Committee discussed the additional empirical analyses on buffer usability and cyclicality in the Basel framework, following the publication of an interim evaluation report last year on early lessons from the Covid-19 pandemic. The Committee agreed to publish a second evaluation report ahead of the G20 Leaders’ Summit in November.

Members also discussed a more comprehensive assessment of the impact of the implemented Basel III standards over the past decade, in particular on bank resilience and systemic risk. The Committee plans to publish this third evaluation report around the end of the year.

As part of its Regulatory Consistency Assessment Programme, the Committee reviewed and approved the assessment reports on Japan’s implementation of the Net Stable Funding Ratio and large exposures framework. The reports will be published soon.

Climate-related financial risks

The Committee is currently assessing and developing a suite of potential measures – spanning disclosure, supervisory and/or regulatory measures – to address climate-related financial risks to the global banking system.

Following the publication of a set of principles for the effective management and supervision of climate-related financial risks earlier this year, members discussed the Committee’s ongoing work on possible approaches for addressing climate-related financial risk.

Global systemically important banks

The Committee approved the results of the annual assessment exercise for G-SIBs. The results will be submitted to the Financial Stability Board before it publishes the 2022 list of G-SIBs.

Source: Basel Committee