UPDATE 1-Capital reforms do not work for small banks-NY regulator

Mon Oct 22, 2012 6:30pm EDT

* Small banks should be exempt from some new rules-regulator

* Comments due Monday on Basel III rules

By Emily Stephenson

WASHINGTON, Oct 22 (Reuters) - New York's top state bank regulator called on Washington on Monday to spare community banks from the most complex parts of new rules requiring more capital to withstand financial shocks.

Benjamin Lawsky, head of the New York State Department of Financial Services, said in a letter to federal regulators that the proposed stricter capital rules would be an undue burden on community banks.

"Most community and regional banks did not engage in the risky behaviors that led to the financial crisis, and yet ... they will be affected disproportionately by the increased complexity," Lawsky said in a letter offering formal comment on the proposed rules.

Lawsky's statement gives the banks a strong ally in their attempt to push back against the proposed Basel III capital rules. The banking industry says it agrees with the concept of bigger capital cushions, but it is worried the proposal is too complex and is punitive against certain classes of banks.

Lawsky, whose office was created in 2011, caused a stir earlier this year by threatening British bank Standard Chartered's state banking license as part of a money-laundering investigation.

"Based on our experience, simpler rules are more likely to be successfully implemented by banks themselves and more efficiently monitored by their regulators," Lawsky said in the Basel letter.

The Federal Reserve, Federal Deposit Insurance Corp (FDIC) and Office of the Comptroller of the Currency (OCC) proposed the capital rules this past summer to carry out the international Basel III agreement.

That agreement is considered one of the most critical reform efforts in the aftermath of the 2007-2009 financial crisis to make sure the global banking system is more sturdy.

Under the Basel rules, banks would have to hold about three times more basic capital than under current rules. The biggest banks would have to hold even more.

The amount of reserve capital required would be determined, in part, by the riskiness of banks' assets.

The new standards are expected to be phased in over six years starting in January, but U.S. regulators have not yet finalized the reforms.

Comments initially were due in September, but the deadline was extended until Monday after state banking groups and others said they did not have enough time to evaluate the proposal.

Banks across the globe have supported boosting capital requirements, but they have criticized the particulars.

Large firms have said Basel III goes too far in forcing them to hold extra capital. Community banks, which initially hoped to avoid the brunt of the rules, have said extra compliance costs could hurt their ability to lend to small businesses and stifle the U.S. economic recovery.

The American Bankers Association, Securities Industry and Financial Markets Association and Financial Services Roundtable said in a formal comment letter on Monday that banks should have at least a year after the U.S. capital rules are finalized before they have to comply. Community banks and other small institutions should get even more time to adjust.

They also called on regulators to study the proposed calculations that banks would use to determine how much capital to hold for various types of assets, such as residential mortgage loans.

Some regulators have also criticized the reforms. Bank of England director of financial stability Andrew Haldane said in August that Basel could be too complex to work. FDIC director Thomas Hoenig has said the rules should be tossed out in favor of a simpler approach.

Comptroller of the Currency Thomas Curry said at a recent ABA conference in San Diego that portions of the Basel rules could be adjusted based on feedback from bankers. He also said hundreds of community institutions have failed since 2008 because they did not have enough capital to back risky bets.

Lawsky said banks below a certain size should be required to meet higher capital ratios, but keep the risk-weighting calculations established under a previous Basel accord.

He also identified several provisions that could be simplified or eliminated to make it easier for banks to comply with the new rules.

ADDITIONAL TWEAKS

SIFMA also released separate comments sent to regulators on Monday suggesting tweaks to portions of the Basel rules that would apply to U.S. public sector debt.

The rules proposed by U.S. regulators would consider public sector bonds that are tied to revenue from specific projects to be riskier than bonds backed by the "full faith and credit" of an entity, SIFMA said.

To streamline the rules with current policy, the industry group suggested instead assigning higher risk-weights to bonds that do not qualify as "investment grade" under existing federal definitions.

The group also said certain requirements established in the Basel rules should not apply to over-the-counter derivatives transactions by certain borrowers in the municipal securities who are seeking to hedge risk related to tax-exempt debt and energy purchase prices.

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