Basel III is an international regulatory framework that aims to promote financial stability, enhance risk management and improve transparency in the banking sector. It was developed by the Basel Committee on Banking Supervision, which is a group of central bankers and regulatory officials from around the world. Basel III was introduced in response to the global financial crisis of 2008, which exposed weaknesses in the banking sector and led to significant financial instability.
Basel III sets higher standards for capital, leverage, liquidity and risk management in banks and financial institutions. These standards are designed to make the banking sector more resilient to financial shocks and reduce the likelihood of future financial crises. Some of the key features of Basel III include:
- Higher capital requirements: Basel III requires banks and financial institutions to hold higher levels of capital to absorb potential losses. This includes a minimum common equity Tier 1 (CET1) capital ratio of 4.5%, a Tier 1 capital ratio of 6%, and a total capital ratio of 8%.
- Leverage ratio: Basel III introduces a leverage ratio that limits the amount of leverage a bank can use to amplify its returns. The leverage ratio requires banks to maintain a minimum Tier 1 capital buffer of 3% of their total assets.
- Liquidity requirements: Basel III sets new liquidity requirements that aim to ensure that banks have sufficient liquid assets to meet their short-term obligations. Banks are required to hold a minimum amount of high-quality liquid assets (HQLA) that can be quickly converted into cash in times of stress.
- Risk management: Basel III introduces new requirements for risk management and disclosure. Banks are required to identify, measure, monitor and control their risk exposures, and provide transparent information on their risk management practices to stakeholders.
Compliance with Basel III is mandatory for all banks and financial institutions that operate in the participating countries. The implementation of Basel III has been phased in gradually since its introduction, with the final phase expected to be completed by 2025. While some critics argue that Basel III may lead to higher costs for banks and reduced lending to the real economy, proponents argue that the framework will make the banking sector more stable and resilient to financial shocks.