UK and US toe the edge of a “regulatory trade war” over banking

Banks could be forced to hold loads of money in every country they operate in.
Banks could be forced to hold loads of money in every country they operate in.
Image: AP Photo/Keystone, Martin Ruetschi
We may earn a commission from links on this page.

The financial crisis was a wake-up call to regulators across the world. It taught them that they were ill-prepared to deal with global contagion. The outcome of that lesson was Basel III, a set of rules that promises better regulation of global banks.

But that beautiful cooperation could be too good to last. The sluggish pace of the global economy, not to mention the turmoil in Europe, have forced regulators to delay implementing parts of Basel III in some countries. National regulators, trying to ring-fence their financial systems from danger, have been imposing extra rules of their own on local banks. Rules adopted in the UK and the US make it more costly for foreign banks to do business there, which only adds to the pressure on other countries to ring-fence their own systems.

In fact, say several insiders representing large US banks, the varying speeds of reform in the US, UK, and European Union could even cause a sort of “regulatory trade war.” And though the point of all the regulation is to keep banking systems safe, global banks that stand to lose out.

The UK is leading the charge. Its Financial Services Authority (FSA) has taken a firmer grip on foreign banks since 2008, pushing them to open subsidiaries that must keep more capital in the UK and follow stricter rules. This policy has angered some; for example Chinese banks have already said they’re pulling out of London and moving more business to Luxembourg.

Similar rules are contemplated in the US. Section 165 of the Dodd-Frank bill would force foreign banks to hold far more capital in the country than they had to before. Essentially, it would force them to construct self-contained US banks, pushing up the costs of doing business.

In both cases, national regulators argue that the rules are crucial to help them wind down a foreign bank’s operations in their country in the event of a failure, with or without the cooperation of regulators overseas. Multinational banks obviously don’t like this; it makes things more expensive for them. But it’s more than that; when regulators in one country make new rules, it forces those in other countries to play catch-up.

This isn’t necessarily bad. Forcing a foreign bank to maintain a certain level of capital in a country would help protect depositors there if it fails. And if foreign banks fail, regulators shouldn’t rely on their counterparts in the bank’s home country to step in and help out. “In the past, we expected that other countries would react in a way we expected. And that didn’t really happen in 2008,” explains Kevin Blakely, a long-time regulator at the US Office of the Comptroller of the Currency who now advises Deloitte. “Many of the things the regulators are proposing to do are just good sense,” he says.

Other industry insiders, though, are more critical. If a systemically important subsidiary of a bank should fail, they say, capital and liquidity will need to flow across borders in order to properly wind down—or “resolve”—the bank. Moreover, regulators would have to act in concert to keep the bank’s remaining subsidiaries healthy. Otherwise, they would risk a run on all the bank’s assets.

“This is a reversal of 50, 60, 70 years of policy being very open, very transparent, to foreign banks being able to operate freely,” said one former regulator, who spoke to Quartz on the condition of anonymity as he’s involved in negotiations between banks and regulators. “There’s definitely a distrust of some of the other US agencies and certainly other governments’ [regulatory] agencies.”

Recent statements from Michel Barnier, the EU Commissioner for financial regulation, and Mark Carney, governor of the Bank of Canada (and future governor of the Bank of England), have pinpointed these problems. Both have complained about the inefficiency these new regulations would cause, and the fact that they would require banks to hold coffers of capital which would sit around unused in every country they do business. This would limit how much money they can lend out and thus invest in the economy. In response, the Fed has agreed to take more time to consider new regulations on foreign banks operating in the US, extending the comment period on those regulations by one month.