Financial System Assignment Help
Commercial Banks play the most important role in a financial system. They are critical for the growth of the economy as they support the financial infrastructure in the business. It provides the much needed impetus to the business in the form of borrowings for both setting up the business infrastructure as well as the working capital requirements. Because of the critical role played by the banks, it becomes imperative for the financial regulators to supervise the banking sector. The financial regulators use various prudential standards to closely monitor the commercial banks. Out of the various prudential standards deployed by the regulators, one critical aspect is to meet the capital standards (BCBS, 2008).
On a global platform, the Bank of International Settlement (BIS) has set up various committees to monitor the banks and their functioning. The Basel Committee on Banking Supervision came up with certain regulatory capital standards for the banks so as to maintain a prudent and healthy financial system. The standards were globally accepted and came to be known as Basel I Accord and were introduced by BIS in 1988. Subsequent to many years of study and observation of financial crisis in various parts of the globe, the Basel II Accords were introduced and implemented by most of the countries by 2008.
The coming of 2008 saw a new dent in the global financial system. Many of the big giants in the banking sector across the globe had faltered; some economies have collapsed leading to a global financial crisis. Although the severity of the crisis is over, the after-effects are still felt in the global financial system. The key areas susceptible to problems are to be looked at and stringer norms are to be envisaged so that any future event can be prevented and Basel III norms came into being (BCBS, 2010d).
- After-effects of banking crisis
History shows that the severe economic crises are related to banking crises. There is precedence that distress in banking sector has led to the major economic crises. A study in 2010 by the Basel Committee on Banking Supervision on the long-term economic impact shows that due to the problems faced in the financial industry, the outcome declines by around three-fifths of the previous output (BCBS, 2010a). Distress in the banks is the most destructive and the reason behind that are the high leverage and the cross-linkages of the banks with the other institutions in the financial system. Because of the significant reliance upon banks for the flow of funds, other industries are highly dependent upon banks. Besides, the other sectors of the economy are totally dependent upon banks for lending funds so as to run the businesses. Any liquidity mismatch in the flow of funds by the banks leads to inability to service the maturity deposits and hence leads to loss of customer confidence. In the very recent part of the global crisis, it has been seen that the destabilized banking risk is passed on to the sovereigns (BCBS, 2010b). The governments have to come out with major bail-out packages for the banks to be able to survive and float. This results into increased debt borrowings for the governments and hence the sovereigns become highly leveraged. Therefore, it is critical that the banking norms are revisited and made stringer so that the effects of a financial crisis are undermined in the future.
- Frequency of banking crises
Not only are the economic effects of the banking crises been very harsh and damaging; the number of banking crises has been very high. A study in August 2010 by the Basel Committee on Banking Supervision shows that we have witnessed financial distress in banks of the member countries of Basel Committee as many as thirty times in the past thirty years (BCBS, 2010c). This shows that the chances of occurrence of banking crises have been very high even in these countries. Hence it becomes imperative to go for some more stringer norms so that this number can be brought down.
In times of financial crises, there is no possibility of shielding one’s financial system. Although many countries have not been the cause of the crises, they have to bear the heat of it. There is precedence that banking crises are not restricted to geographies; they reach all the regions in the world and affect all the asset class (ARPA, 2009).
- Advantages associated with Basel III far outweigh the costs associated with it
The primary objective with which the Basel III was devised was to minimize the occurrence and brutality of financial distress in the years to come. The Basel III norms will call for increased capital and liquidity requirements leading to increased costs for the banks. In addition to this, the higher supervisory requirements will also incur increased costs. Although the capital costs increase, the benefits are many – stability of the financial system, lower chances of occurrence of financial distress, sustainable economic growth. As we have already seen that the Basel II norms could not prevent the possibility of a banking crisis, it becomes necessary to tighten the norms with a strong belief that stricter and stringent norms will reduce the chances of a crisis (BCBS, 2009a).Order Now