It wasn't quite a steel-cage death match, or even a face-to-face debate.

But Mervyn King and Vikram Pandit's dueling assessments of Basel III, delivered in separate speeches spaced 90 minutes apart at a recent conference in New York, still offered a vivid illustration of the gulf between regulator and banker viewpoints on the international framework for supervision.

King, governor of the Bank of England and a vocal critic of the largest banks, made a cogent case for why the new Basel capital requirements are entirely insufficient to prevent another crisis. But he said that on the whole the new standards represent "a step in the right direction" and a "welcome" improvement over Basel I and II.

Pandit, in as impassioned and substantive a speech as he has delivered as chief executive of Citigroup Inc., argued the polar opposite. He said the Basel Committee on Banking Supervision generally has it right on raising capital ratios, but on most other fronts either falls short of solving problems or risks making them worse.

At the core of the differing judgments are the differing motivations of a regulator and a banking executive. "King of course is a regulator, and I have never met a regulator that found there was too much capital," said Linda Allen, an economics and finance professor at Baruch College in New York. "Their objective function is to make sure the world doesn't blow up on their watch, and they really don't get any points for having an active banking sector that is innovating and satisfying the need for capital in society."

To wit, in answering a question from the audience at the Buttonwood Gathering, a two-day conference sponsored by The Economist in late October, King said that the guiding principle of any banking reform should simply be to ensure that the costs of financial risk-taking are shouldered by the same people who reap its benefits.

But King also is a central banker, in a country that until recently had chosen to keep bank supervision housed separately from the responsibility for monetary stability. So it was still somewhat jarring, at least to American ears straining to imagine Federal Reserve Chairman Ben Bernanke arguing the same point, to hear King conclude that "if that means the cost of capital should rise in our society, then we should accept that."

Pandit, on the other hand, said he is deeply worried that Basel III as proposed would impede the flow of credit where and when it is needed most, putting low-income communities and small businesses at an even greater disadvantage than before.

According to Pandit's interpretation of Basel III, bankers' judgment of individual credit profiles will begin to matter less, while quantitative inputs such as FICO scores and credit performance during the recent high-stress period will matter more. The upshot for consumers and small-business owners seeking loans in the age of Basel III will be that "the past literally will count more than the future," Pandit said.

Whether his concern was born of altruism or not, standing up for the little guy was a savvy public relations move that seized on a popular political theme this election season: securing help for small-business owners, identified by candidates across the country and across party lines as the main driver for U.S. economic growth.

But Pandit's remarks also tapped into a broader debate, over determining the acceptable level of lending risk for a population practically raised on debt.

"Vikram obviously has got an agenda, but forgetting about the messenger, the point he's making has as much truth as the point Mervyn's making: It's a trade-off," said David Min, associate director for financial markets policy at the Center for American Progress, a progressive think tank. "Lending provides social value and economic value, but it also provides risk."

The real test of Basel III, Min said, will be to ask whether "once we're out of this hundred-year flood, are people getting credit at rates that reflect" the actual risk of lending to them.

Min said one of the best hopes for accurately calibrating credit risk is to drill down into the specifics of loans or lending categories. Bankers in low-income neighborhoods, for example, are better off conducting individualized loan assessments, he said. As evidence he points to the disparity in performance of Community Reinvestment Act loans, which typically are scrutinized on a case-by-case basis, and subprime loans made outside the bounds of the CRA, many of which in the go-go years were based on more standardized criteria, to the extent they were based on any standards at all.

Though the influence of the CRA on the mortgage meltdown remains a topic of debate, a November 2008 paper by Elizabeth Laderman and Carolina Reid of the Federal Reserve Bank of San Francisco found that loans made by CRA lenders in their assessment areas during the subprime boom in California were half as likely to be in foreclosure as loans made by independent mortgage companies.

In the same vein, many banks have found that their best-performing mortgages are the ones that were originated at a branch, speaking perhaps to the role of banker judgment.

But Basel III appears to be moving the industry farther away from individualized assessments of credit. Many observers tracking the Basel Committee's decisions are concluding, as Pandit did, that Basel III's emphasis on quantitative measures will lead to a more formulaic approach to calculating capital and, by extension, making loans.

That interpretation is largely rooted in "the expectations around stress-testing," said Mary Frances Monroe, vice president in the office of regulatory policy at the American Bankers Association.

"There isn't a paragraph in Basel III that says you will calculate your capital based on the most stressed scenario, but we have the overall capital levels increasing, and the definitions of Tier 1 capital tightening up," Monroe said. The net effect will be that banks will feel pressured to base more of their decision-making on the probable outcomes of high-stress scenarios, she said.

In its report to the Group of 20 in October, the Basel Committee said its reforms — which have not yet been finalized and will take years to be implemented — "seek to improve the banking sector's ability to absorb shocks arising from financial and economic stress, whatever the source, thus reducing the spillover from the financial sector to the real economy."

But the Basel reforms themselves also could have a spillover effect on the real economy. The Basel Committee has proposed raising the minimum common equity ratio to 7% from the current 2%, including a new 2.5% capital conservation buffer. The Institute of International Finance calculated that under Basel III, major economies might be about 3% smaller than they otherwise would have been five years out.

But Douglas Elliott, a fellow at the Brookings Institution, suspects the impact will be much smaller. His research shows that even a large increase in capital requirements will only bump up average loan pricing by a manageable 0.2 percentage points. He said that's a small price to pay for the financial stability gained in return, even if King and Pandit wouldn't quite agree.

"You do need more capital for riskier activities like lending to small and medium-sized enterprises, but you want the capital requirements to be in proportion to the genuine risk," Elliott said. "It's an important point that needs to be debated, but a balance is what we really are looking for."

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