BIS paper flags ‘barren patches’ in post-crisis reforms

Reforms since the 2008 crisis have boosted the “shock-absorbing capacity” of the financial system, but there are some “barren patches” where vulnerabilities may remain, a Bank for International Settlements paper warns.

Claudio Borio and Nikola Tarashev of the BIS, and Marc Farag of the Basel Committee on Banking Supervision, study the key global reforms since 2008 from the perspective of regulators. Studies to date have tended to focus on the cost and availability of banking services, they say, but fewer have examined regulators’ motivations.

They conclude reforms have made “decisive strides” in boosting shock-absorbing capacity through both reducing exposures to losses and increasing loss-absorbency. Some key benefits of the reforms stem from their interaction with one another – for instance, risk-based capital tailors requirements to risk, but the leverage ratio provides a backstop to prevent the system being gamed.

However, they highlight several “barren patches” in the “forest” of regulation. Provisioning and “charge-off practices” can overstate capital; some “functionally similar” transactions such as swaps and repos face different regulatory treatment; sovereign debt has a “privileged regulatory treatment”; and there are flaws in the treatment of interest rate risk in the banking book.

For these reasons, they urge authorities to adopt a “conservative” approach in future.