Capital Increases Weighed For Foreign Loans, Hedges

International banking supervisors are considering raising capital requirements on loans to developing countries and hedge funds, a senior regulator said Monday.

The new system would use bond ratings to determine the capital charge on loans to sovereign governments, said Stephen C. Schemering, deputy director of banking supervision at the Federal Reserve Board.

Reserves would not be required for loans to countries with the top credit ratings, such as AAA or AA-minus, he said. Credits to countries with A-plus or A-minus ratings could carry a 20% risk weighting, he said. That means the bank would hold 20% of the standard 8% capital charge, or 1.6% of the loan, as a reserve. Countries with very low credit ratings could be subject to a 150% risk weighting, which translates into a 12% capital charge, he said.

International regulators also are considering a 150% risk weighting for loans to "highly leveraged institutions not subject to regulation," Mr. Schemering said during a workshop at the Independent Bankers Association of America convention. That is how regulators typically describe hedge funds.

The 150% risk weighting also would apply to "impaired" loans, though he provided little detail on what it would take for a credit to be considered impaired.

Mr. Schemering cautioned that the proposal is a draft and significant changes could be made before its expected release next month. Yet this would be the first time international regulators ever set capital requirements above 8%.

The Basel Committee for Banking Supervision adopted the first global risk-based capital accord a decade ago. It requires banks to hold 8% reserves on all loans, though it provides for discounts, known as "risk buckets," for specific types of loans. For instance, banks only have to hold half the requirement for home mortgages and 20% for loans to government-sponsored enterprises.

The capital proposal also would change the treatment of loans to other banks and securities firms, Mr. Schemering said. The reserve requirement would be one risk bucket higher than the capital charge for loans to the borrowing bank's home country government, he said.

That means a loan to a U.S. bank would be subject to a 20% risk weighting.

Mortgage loans would continue to fall into the 50% risk bucket, he said. Regulators plan to continue to require the full 8% reserve on all corporate loans, though Mr. Schemering said there is some talk of discounting the required reserve for loans to AAA-rated companies.

Mr. Schemering's presentation got a lukewarm response from industry officials. "This doesn't seem vastly different than the current accord," said Karen M. Thomas, director of regulatory affairs at the IBAA.

Few community banks make international loans, extend credit to other banks or hedge funds, or serve AAA-rated companies, she said.

Pamela Martin, director of regulatory relations at Robert Morris Associates, said regulators should establish more risk buckets for corporate loans. "They are going to have to go further," she said. "But the good thing is that they have finally gotten the process moving."

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