Bankers agree that the Fed's proposal to let banks decide for themselves how much capital to set aside for their trading operations is definitely something new under the sun. But in comment letters sent to the agency, bankers and trade groups expressed widely divergent views on whether the "precommitment approach" praised by Mr. Greenspan is really such a good idea. Gay H. Evans, chairman of the International Swaps and Derivatives Association and a managing director of Bankers Trust International, called it "the only approach currently under discussion which recognizes the links and tradeoffs between a firm's internal models, risk management practices, business risk, and capital." But R.F.A. Brooks, managing director for trading risk at London-based Natwest Markets - an ISDA member - wrote that "the precommitment approach is unlikely to be workable in practice." The Federal Reserve proposal, published in the July 25 Federal Register as a "request for comments," would likely apply only to big banks that do a lot of securities, currency, and derivatives trading. But its ramifications could be much broader, possibly affecting risk-based capital guidelines for all banks and thrifts. Those guidelines, which factor credit risk into capital requirements, were approved in 1988 by the Basel Committee on Banking Supervision. More recently, the Basel committee - composed of banking regulators from 12 major industrial nations - has tried to bring market risk into capital calculations for banks with big trading operations. In 1993, the committee proposed uniform standards on how much capital banks must set aside for trading activities. This year, in response to banker protests against that plan, it proposed using banks' internal models to help calculate their capital requirements. The Fed, the Office of the Comptroller of the Currency, and the Federal Deposit Insurance Corp. published the new Basel guidelines as a proposed rule on July 25. Comments were due on the plan in September, and regulators expect to discuss the proposal at a meeting of the Basel committee later this month. The Fed's precommitment approach, proposed at the same time, goes a step further. Under the approach, banks would decide how much market-risk capital to set aside - or precommit - and face penalties if their actual trading losses exceeded the capital cushion. Thirteen banks and bank groups sent comment letters on the Fed plan by the Nov. 1 deadline. Some offered praise. "The precommitment approach by its nature results in capital requirements for market risks tailored to the particular circumstances of each affected institution," wrote Jill M. Considine, president of the New York Clearing House, which represents 11 New York banks. "It solves the 'one-size-fits-all' problem of the standardized model in the Basel Committee's proposal, and it avoids the inaccuracy created by the rigid uniform standards of the internal model approach as proposed." Donald H. Layton, vice chairman of Chemical Bank, also backed the Fed's proposal. But he urged that the precommitment option be open only to banks that are well-capitalized and have had their internal risk models approved by regulators. Bank of America, Keycorp, and Bankers Roundtable all wrote in support of precommitment - with some reservations. Barnett Banks Inc. argued that the proposal was beside the point. "If an institution's precommitment turns out to be insufficient but the institution has a large capital cushion, there should be no cause for concern about capital adequacy," wrote Nancy J. Kesler, the company's director of regulatory relations. Executives at two small Midwestern banks wrote in to say they feared that market risk standards - any market risk standards - might someday be applied to them. Natwest's Mr. Brooks was perhaps most critical of all. "The principle of a level playing field would be lost, as the amount of precommitment might reflect the aggressiveness of an institution and its willingness to gamble on capital allocation," he wrote. "To discourage this, penalties would have to be severe, but this would mean stringently penalizing a bank that has already incurred losses beyond those that it normally experiences."
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