Banks will have to hold more capital after recent hefty fines, trading losses, money laundering and rate-rigging showed that operational risks are not being covered properly.
Finance ministers from the Group of 20 (G20) economies meet in Mexico this weekend to consider what else needs to be done to ensure that the world’s biggest banks do not come calling for fresh taxpayer bailouts.
The G20’s regulatory task force, the Financial Stability Board (FSB), said in a report to ministers that the recent spate of high-profile “events and failures” make a root-and-branch rethink of capital rules a matter of urgency.
“Supervisors have found real weaknesses in the assessment of capital for operational risk, and in the models used and their assumptions, leading to the need for material increases in capital,” the FSB report said.
The risks targeted include fraud, money laundering and technology failures.
Barclays PLC was fined a record ￡290 million (US$467 million) in June for rigging the London Interbank Offered Rate (LIBOR), a widely used benchmark interest rate. US energy regulators this week proposed fining the bank US$470 million for alleged rigging of California’s power markets.
Former UBS AG trader Kweku Adoboli, blamed for losses of US$2.3 billion, is on trial accused of fraud and false accounting, while HSBC PLC had to set aside US$700 million to cover fines and other costs after a US Senate report accused the bank of having lax controls against money laundering.
“The Basel Committee on Banking Supervision should update its capital requirements for operational risk by the end of 2014,” the FSB report said.
The committee, comprising banking supervisors and central bankers from the G20 countries, will also report by June 2014 on how existing capital rules for operational risk are being applied.
Extra requirements to cover operational risk would be separate from the basic 7 percent capital buffer that every bank will have to hold under the Basel III rules being phased in from January.
It will report by the end of 2015 whether changes are needed to supervisory guidelines on checking such risks.
The Basel Committee has already said that it is investigating how banks tot up their different types of risk.
Other examples cited by the FSB include JPMorgan Chase & Co’s US$5.8 billion loss from the “London whale” trades, a US$390 million hit for Knight Capital Group from a trading glitch and Standard Chartered PLC’s US$340 million settlement after allegations it hid transactions with Iran from regulators.
“These events underscore the need for supervisors to increase focus on operational risk management ... to improve the resilience of the financial system and overall confidence,” the FSB report said.
The Basel Committee will also set minimum control standards for managing operational risk within capital markets and trading operations, areas highlighted by the recent losses at banks.
G20 leaders have already agreed that the world’s top banks — they have listed 29 so far, including Goldman Sachs Group Inc and Deutsche Bank AG — should face more intensive scrutiny and hold higher levels of capital in their core cushions.
The FSB updated on Thursday its list of top banks that will have to set aside the extra capital from 2016.
The watchdog said supervisors must look beyond risks and “follow the money” to examine whether a business model is sustainable and a bank’s board has the right “culture.”
Supervisors will need to be on their guard as financial institutions seek new ways to generate earnings, such as expanding further into wealth management and other areas where capital requirements are currently low, the FSB said.