Basel-II News

Broader Implementation of Recent Regulatory Standards Could Have Mitigated Subprime Crisis Say BearingPoint Experts

(Oct 08, 2007)-- Foreclosure rates are skyrocketing and the effects of the credit meltdown continue to spread across global markets and financial institutions. Technology and management consultancy BearingPoint believes that this crisis has revealed serious limitations to the Basel II bank regulatory regime, along with a litany of additional structural deficiencies related to lending. According to BearingPoint, these issues have contributed to and possibly exacerbated the current strain on the financial markets. BearingPoint has also identified a series of prescriptive steps for market participants that can improve their risk posture and potentially lessen the impact of future market shocks.

“The fissures that first appeared in the subprime market are linked to a seriously deficient risk management structure in the United States, highlighted by major limitations of the Basel II regulatory framework,” said Sandeep Vishnu, managing director, Enterprise Risk Management at BearingPoint.

Vishnu added, “Because Basel II’s advanced requirements were limited to “core banks” in the U.S., large sections of the nation’s financial services market were left unaddressed. In fact, one of the largest originators of subprime mortgages was not considered a core financial institution under U.S. implementation of Basel II and therefore did not need to comply with its risk management structures. ”

These structural limitations were further compounded by Basel II’s unbalanced focus on credit origination versus new credit derivative instruments, as well as market participants’ over-reliance on credit ratings, all of which hamstrung the industry’s ability to address diversification and concentration of risk.

BearingPoint recommends that financial institutions take several immediate steps towards heading off problems highlighted by the subprime crisis:

* Refine governance policy to give the risk management function a mandate to question and, if called for, constrain sales strategies that may increase risk exposure.
* Clarify and improve management reporting and risk reporting communications with executives and the board of directors.
* Examine the creditworthiness of all portfolios using rigorous scenario analysis, stress testing and analysis of data gaps. Use scenarios to reveal which portfolios lack the data necessary to assess their risk profile, and then resolve the data deficiency.
* Invest in technology now to 1) aggregate loan details by portfolio risk, 2) capture and analyze risk information at a sufficiently granular level, and 3) present that information to the board of directors, senior management, line of business managers, regulators, investors and other stakeholders.

BearingPoint financial services and risk management experts Christopher Hamilton and Sandeep Vishnu are available for comment on Basel II and other structural issues that have contributed to the current environment. They can also provide additional detail on proactive steps the industry can take to ease the reverberations being felt across the markets.

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