19 April 2006

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Business Today

Basel II: The business impact starts to sink in

Financial services institutions worldwide are recognizing and embracing a new era of banking, instigated by Basel II, according to a new survey published yesterday by leading professional services provider Ernst & Young.
Processes and systems will significantly change, along with the way risks are managed, signifying a new era and fresh dynamic in the global financial services market place, according to the results of the poll of over 300 banks. “Basel II is recognized as more than a regulatory requirement. Our survey indicates that senior banking executives are beginning to appreciate the long-term impact of Basel II on their own organizations and banking as a whole,” Patricia Jackson, Partner at Ernst & Young UK and former member of the Basel Committee, said.
Over three-quarters of banks surveyed for ‘Basel II: The Business Impact’ believe these regulations will change the competitive landscape for banking. Those organizations with better risk systems will benefit at the expense of those who have been slower to absorb change. Eighty-five per cent of respondents believe that economic capital would guide some, if not all pricing. Greater specialization is also predicted, due to an increased use of risk transfer instruments.
“The expectation is that the new risk information required by Basel II will change product pricing and portfolio management – with more loan trading and greater use of derivatives. The more sophisticated, larger banks, that have the ability to leverage the new risk data, will gain a significant advantage. There will be winners and losers,” Jackson explained.
The majority of respondents (over 70 per cent) believe that portfolio risk management will become more active, driven by the availability of better and more timely risk information as well as the differential capital requirements resulting from Basel II. “This could improve the profitability of some banks relative to others, and encourage the trend towards consolidation in the sector,” Jackson commented.
Worryingly, the majority of respondents cited Pillar I challenges, which should be well advanced by now, as a key focus for 2006 alongside those challenges presented by the implementation of the other two pillars. “Banks continue to work on embedding Basel II into credit risk processes, model validation and technology planning,” Chris Maher, Principal at Ernst & Young, New York, explained. “Intense effort will be required for new credit processes to be embedded and understood across organizations. The survey results also indicate that work on Pillars II and III lags even further behind.”
Over half the respondents felt that internal stakeholders, in particular senior management and front office staff, require education on Basel II. “With IFRS and Sarbanes-Oxley reporting initiatives largely behind them, Basel II is now higher on the executive agenda. While banks understand that disclosures could greatly impact how external stakeholders evaluate their business, only 25 per cent of banks think they will be ready to meet Basel II disclosures.” Maher stated.

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