WASHINGTON – Regulators are expected to miss a global deadline to finalize Basel III capital and liquidity requirements by yearend.

Already well into the fourth quarter and facing more than a thousand comment letters from financial institutions, the banking agencies simply don't have enough time to sort through a host of issues raised about their June proposal, observers said.

"There's a lot of substance in lots of letters on lots of important issues in key sectors of the industry that requires attention," said Karen Shaw Petrou, a managing partner at Federal Financial Analytics Inc. "Once the agencies have read them all, and summarized them all, they've got to sit down and figure out what are they going to do on all the outstanding questions, which is going to require a lot of negotiating. I can't see how they can finish that fast."

Community bankers have also successfully raised the stakes for regulators by enlisting the help of Congress. A majority of the Senate, including lawmakers from both political parties, sent a letter to the heads of agencies in September arguing that the proposal was too complex and expensive for community banks.

"It's going to be very difficult for regulators to meet the January 1 deadline," said Greg Lyons, a partner at Debevoise and Plimpton in New York, whose firm provided advice on a comment letter filed by the American Bankers Association, Financial Services Roundtable, and SIFMA. The trade groups asked regulators in their joint letter to undertake further study before adopting a final rule to prevent any negative economic consequences.

Regulators have yet to even answer some of the most basic questions for the industry, Lyons said.

"It's a very fundamental question: who does this apply to? Does it apply to community banks? Does it apply to insurance and savings and loan companies? When does it apply to them?" said Lyons.

All three banking regulators – the Federal Reserve Board, the Federal Deposit Insurance Corp., and the Office of the Comptroller of the Currency – have done extensive outreach with the industry to educate them about the proposal, including conference calls and meetings. Observers said their approach may indicate early optimism that they could make relatively few changes in an attempt to finalize the rule on time.

"Perhaps the agencies thought this would be … less of a remake, less of a divisive issue," said Gregg Rozansky, a counsel in the financial institutions advisory and financial regulatory group of Shearman & Sterling, who agrees regulators are unlikely to complete the rule by the deadline. "But now the industry is looking to greatly broaden the scope of the review. They're going well beyond the questions and trying to re-open so many different things for discussion."

Spokeswomen for the FDIC and Fed declined to comment, while a representative for the OCC did not respond to a request for comment.

Even with so many extra issues now in play, the January deadline set by global regulators was probably always unrealistic, especially given the other rules agencies had to complete under the Dodd-Frank Act.

"If this was one of the only regulations that the U.S. had to implement at the time perhaps it's reasonable, but obviously there was a full slate of derivatives reform and 'Volcker Rule,' which probably placed a tremendous strain on the agencies to get it out," said Rozansky. "Given the timing that they issued the notice of proposed rulemaking, I think that made it probably very unlikely, almost impossible, to issue rules on that timeframe."

Bankers argue that regulators need to slow down implementation of the rules, given that a proposal was only issued this summer.

"It's a bit much to ask the industry, especially the community banks and the regional banks, which are subject to some of these rules, to start living with it on such a quick basis," said Lyons.

Global leaders agreed in December 2010 to adopt new capital and liquidity standards that are supposed to go into effect on Jan. 1. So far, however, only eight of the 27 countries that are part of the Basel Committee on Banking Supervision have completed their rule-writing process.

U.S. regulators, along with 17 other counterparts including the European Union, have only published drafts of their rules while two other countries are still in the process of releasing proposals, according to a report released Oct. 29 by the Basel Committee ahead of a Group of 20 meeting of finance ministers in Mexico City this week.

Ahead of the last G-20 summit held in Los Cabos in June, U.S. regulators scrambled to release a draft Basel III proposal to avoid being seen as slow to move ahead with the accord.

In the eyes of the Eurozone countries, many of which have waning interest in adopting Basel III, a U.S. delay would have provided a "convenient scapegoat," Petrou said.

"They could say, 'Why should we when the U.S. isn't?' Now the Eurozone can't bash the U.S. and they have to confront their own problems," she said.

European leaders have already signaled they are considering postponing by as much as a year when banks would need to begin phasing-in tougher capital rules. The move could provide some cover to the U.S., which has been under political pressure by foreign counterparts to move ahead with Basel III for its banking institutions.

"The fact that Europe is taking time to delay it and thinking through things, it takes some of the external stress off of meeting Jan. 1 deadline," said Lyons. "It gives U.S. regulators more ability, more flexibility if they need to extend the date."

The slowdown, however, seems inevitable to some observers given the complexity of very granular, technical rules that spans a wide spectrum of countries with often different banking structures in place.

"This gets back to the big question I have is how much is the global framework in name only?" said Petrou, who recently wrote a paper illustrating the risk of a breakdown in Basel III if regulators don't make immediate fixes to the accord. "Because not only are the deadlines being missed all over, but the rules ... are being implemented so differently."

Global finance ministers concluded their two-day meeting on Monday where progress on Basel III by all 27 member countries was eclipsed by concerns over the U.S. looming fiscal cliff and the Eurozone's debt crisis. Absent from the meetings were U.S. Treasury Secretary Tim Geithner and Mario Draghi, president of the European Central Bank, who sent deputies in their place.

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