WASHINGTON - Bowing to pressure from major banks, an international supervisory body proposed Wednesday to let bankers judge their own exposures to market risk, rather than use regulatory formulas.
The proposal from the Basel Committee - composed of regulators from 12 countries who meet under the auspices of the Bank of International Settlements in Switzerland - covers only assets banks actively trade.
Regulators' goal is to protect an institution against swings in interest rates, foreign exchange rates, commodity prices, and other measures.
This is one of a series of Basel Committee initiatives to require banks to maintain reserves against different forms of risk. Previously, the committee tackled credit risk.
Bankers would be able to use internal risk assessment models to calculate the capital needed to guard against these market variables.
Industry advocates praised the proposal Wednesday, saying it is a major improvement from the April 1993 first draft.
"It sounds like a great approach," Bankers Roundtable executive director Anthony Cluff said. "We would be very pleased with it. It is a great step forward."
"Allowing greater flexibility to use internal models for measuring market risk is a positive step," agreed Mark Brickell, managing director at J.P. Morgan and a director at the International Swaps and Derivatives Association. "Basel's proposal could give banking supervisors better ability to take advantage of rapid improving technology for measuring risk."
Senior Deputy Comptroller Susan Krause said industry pressure convinced the Basel Committee to include both the self-assessment option and a standard formula.
"They all sent back to us loud and clear that this is not consistent with the risks we face," Ms. Krause said of the original plan, adding that bankers told her the plan was "too crude and it overstates our risk in many ways."
The earlier draft would have locked bankers into a formulaic model, effectively preventing banks from using enhanced computer capabilities to create more accurate models.
The proposal lets banks customize market risk assessments, said Gil Schwartz, a partner at Schwartz & Ballen.
"That is very beneficial because it is clear that a very large institution is going to have a different profile than a medium-sized institution," he said.
But, the proposal may contain an unintended drawback.
"What you will end up with is spending a lot more time demonstrating to regulators that your models work," Mr. Schwartz said. "They ought to make sure they have not just adequate documentation, but over-documentation to support their model."
Ms. Krause agreed the proposal does not give bankers carte blanche to use any model.
Rather, models must meet minimum standards. For example, the models must compute risk daily, and bankers must use them as part of their daily risk- management activities.
The Basel Committee also said the models must meet several technical requirements. For example, bankers must be 99% certain their model covers changes in all variables.
The proposal may give securities firms a competitive edge over banks. The International Organization of Securities' Commissions, the securities industry's version of the Basel Committee, has not agreed to the proposal. But regulators said they hope to resume negotiations to get the securities regulators to sign on.
The U.S. banking agencies plan to incorporate the Basel plan into a proposed regulation. A Federal Reserve Board official said the proposal should be finalized by late this year.
Banks that do not make many international securities trades will not be covered by the proposal.
"There just isn't much point to having a bank without much trading activity slog through this," Ms. Krause said.
The public can comment on the Basel plan through July 31.