The G20’s Commitment to Basel III: How will Emerging Markets be Affected? A New CGD Working Group Investigates

Following their recent summit in Germany, G20 leaders issued their official Declaration and the Hamburg Action Plan, highlighting the creation of a resilient global financial system as one of their main objectives. I was glad to see heads of the world’s leading economies commit to finalizing and implementing the Basel III Accord, the recommendations from the Basel Committee of Banking Supervision (BCBS) on financial sector reform. For us at CGD, it’s particularly timely, as we prepare to launch a program of work studying Basel III and its implications and suitability for emerging markets.

Here’s why it’s an important issue for development economists.

As is well known, Basel III is one of the most important regulatory frameworks for promoting financial stability largely through banks’ capital and liquidity requirements. A set of recommendations formulated by the BCBS in the wake of the global financial crisis, Basel III is expected to be adopted globally. The BCBS has set up a calendar of implementation with a phase-in plan that started in 2013 for some standards. Emerging markets have begun implementing these standards, and they are facing pressures from credit rating agencies and multilateral organizations to accelerate compliance with Basel III.

There are, however, some remaining discrepancies between European leaders and US representatives’ views on banks’ capital requirements. The ongoing disagreement between the US and the EU may result in the extension of the original 2019 deadline for full compliance. This presents an opportunity to discuss the most pertinent issues for emerging markets with regards to Basel III implementation.

Along these lines, CGD is establishing a high-level Working Group, led by myself and co-chaired by Thorsten Beck, professor of banking and finance at Cass Business School in London. The Working Group will be composed of leading experts on Basel III and economic development, and will identify challenges for emerging markets’ financial stability and development derived from the global implementation of Basel III. As I have documented before, using a case study of Chile, emerging markets face various advantages, disadvantages, and challenges in implementing Basel III in their countries. While there is wide recognition of the need to improve the regulatory standards for achieving financial stability, several questions remain as to which of the proposed Basel III recommendations are best suited for emerging markets and which might require a modified solution.

For example:

• Given large differences in the degree of financial market development between advanced economies and emerging markets, is a common standard suitable for all types of economies?
• Since most emerging markets and developing countries are net borrowers in international capital markets, how would the implementation of Basel III capital requirements affect cross-border capital flows?
• Does the inability of emerging markets to issue “hard currency” (that is, currencies that are used in international transactions and are accepted as international store of value—foreign exchange reserves) impact the efficacy of liquidity requirements as recommended by Basel III?

Effective and appropriate implementation of Basel III’s recommendations could make a huge contribution to global financial resilience with the attendant benefits for development progress. The G20’s commitment on this issue is welcome. I look forward to our new Working Group’s efforts and hope they will both inform the ongoing discussion by standard-setting bodies (multilateral organizations in addition to the BCBS), as well as guide policymakers on emerging markets to make Basel III work in their countries.

Stay tuned for more on our Working Group’s progress in the coming months.