Global standard will force changes in banks' IT

A proposed international regulation that would require banks to tighten their integration of different back-office systems and use more sophisticated risk management tools is expected to be finalised in the fourth quarter, thus pushing companies to begin capturing customer data for compliance purposes by late 2004

A proposed international regulation that would require banks to tighten their integration of different back-office systems and use more sophisticated risk management tools is expected to be finalised in the fourth quarter, thus pushing companies to begin capturing customer data for compliance purposes by late 2004.

The Bank for International Settlements (BIS) in Basel, Switzerland, is overseeing development of the new standards, and it plans to require the 10 largest US banks to comply by the end of 2006. From an IT standpoint, the proposal being considered by the BIS calls for banks to take steps such as developing rules-based risk management engines and knitting together customer databases.

Complying with the new Basel Capital Accord, which is known as Basel II, could cost the US financial services industry $US12 billion by 2006, according to a report released last month by TowerGroup in Needham, Massachusetts.

Approximately 20 of the nation's largest banks would likely have to spend between $50 million and $100 million each on technology in order to minimise the amount of money they must keep in reserve to offset credit and business risks, said TowerGroup analyst Guillermo Kopp.

Exercising Caution

If it's approved as expected, Basel II will increase the minimum amount of money that banks need to set aside to cover potential risks, which currently equals 8% of the total capital they have on hand. The regulation will also add a new category of operational risk management, involving possible problems such as late payments or trades that don't get processed because of systems or data-entry errors.

But Basel II would provide undetermined financial incentives for institutions that manage risk more proactively through the use of rules-based engines and internal reporting standards, Kopp said. He added that improved automation of internal processes also could produce money-saving efficiencies and help users minimise their exposure to risks.

Nonetheless, the Basel II proposal is generating concerns among both large banks and smaller institutions.

For example, America's Community Bankers (ACB), a trade group in Washington that represents local banks, is opposed to Basel II as it currently stands. ACB spokesman Jim Eberle said the group believes that requiring the installation of sophisticated IT systems would place an unfair financial burden on small banks and savings-and-loan firms. "It's our understanding that it does require a big outlay for a small institution to be able to do the calculations for internal risk models," Eberle said.

Meanwhile, Citigroup Chief Financial Officer Todd Thomson said in a July 31 letter to the BIS committee shepherding the Basel II proposal that measures proposed in the latest revisions would place banks on an uneven playing field with one another and put them at a disadvantage against other financial services firms.

To meet Basel II's 2006 compliance deadline, banks would have to begin implementing the advanced policy engines and capturing data next year.

According to TowerGroup's report, US banks with international operations will be hardest hit by Basel II's increased capital reserves requirement. But the impact of the new regulation will be felt more widely, Kopp noted. "Over time, everybody will need to comply," he said.

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