1. 1 The Asian Banker Summit 2004 Regulatory Forum on Basel II Simon Topping Executive Director (Banking Policy) Hong Kong Monetary Authority 6 May 2004

2. 2 Should “Asia” implement Basel II? Irrespective of whether we view Basel II as... –a regulatory initiative or an industry initiative –a G-10 initiative or a global initiative –a capital initiative or a risk management initiative –the best thing since sliced bread or the worst thing since… whatever The fact remains that it’s here to stay, & it represents the new standard against which banks - & banking systems - will be judged It’s therefore not a question of whether to implement it, but how & when.

3. 3 Should “Asia” implement Basel II? (2) It’s very easy to say that Basel II isn’t suited to “Asian banks” but it’s simply not true - all it takes is a bit of common sense on how it’s implemented, & a bit of adaptation & fine-tuning here & there. The key is to focus on the underlying principles of Basel II & not get bogged down in the detail. Simply put, Basel II says that: –banks need to be more clever about how they assess credit risks –they need also to think more about the other risks involved in their business –they need to have enough capital to guard against these risks putting them out of business How could anyone possibly disagree with this?

4. 4 “Compliance” with Basel II So what is necessary to “comply” with Basel II? –It is not intended that all banks should adopt advanced IRB for credit risk. This is only meant for the internationally-active banks & perhaps some of the other very big domestic banks. –For the vast majority of banks, adopting the standardised approach for credit risk will be what’s required to “comply”. –To “comply”, a capital charge for operational risk & market risk will also be necessary. –And banks will also need to assess all the other risks in their business - but the extent to which this is reflected in an additional capital requirement will vary.

5. 5 How, in practice, it will be implemented in Asia In some Asian economies - Japan, Hong Kong, Singapore, Australia - it will be implemented “fully’: –implementation will be in ‘06 –all/most major banks will be on IRB –all the elements of Pillars 2 & 3 will be in place For example, in Hong Kong: –we will be one of the first “non-G10” economies to implement –we expect to have the 8 or 9 biggest banks on IRB - & this includes local banks, not just the main international players In other Asian economies, the scope & pace of implementation will necessarily differ - but with the same end-game in mind

6. 6 How, in practice, it will be implemented in Asia (2) A different scope & pace of implementation does not mean that such economies are dragging their heels, it simply reflects the fact that banking systems are currently at different stages of development & have more ground to make up. “Each country has to decide its timing and sequencing. [Emerging market banks] should head towards it but act on the fundamentals of their markets, working on the three pillars of the accord - capitalisation, improving regulation & improving transparency. That is the emphasis. Basel II can be applied only when the fundamentals [of those markets] are improved.”

7. 7 Willingness & readiness to adopt Basel II From a bank's perspective, their willingness and readiness to adopt Basel II may depend on a number of factors, e.g. –State of existing risk management systems –Anticipated costs/benefits –Degree of pressure exerted by supervisor –Competitors’ actions –Market / rating agencies’ expectations Regulators also have a number of issues to consider: –National priorities –Readiness in terms of the legal & regulatory framework, accounting standards, human resources, soundness of corporate governance, market discipline, etc. –Competitive / level playing field issues

8. 8 Willingness & readiness to adopt Basel II (2) In practice, however, there are likely to be 2 key considerations: –How advanced, currently, is the state of risk management in the banking sector? There is no point expecting banks to implement advanced risk management techniques if they don’t even have the basic stuff yetThere is no point expecting banks to implement advanced risk management techniques if they don’t even have the basic stuff yet –How comfortable, currently, is the capital position of the banking sector? There is no point implementing higher capital requirements (which Basel II will certainly mean if banks are currently required to maintain only 8%) if there is no immediate prospect of banks being able to meet these requirements.There is no point implementing higher capital requirements (which Basel II will certainly mean if banks are currently required to maintain only 8%) if there is no immediate prospect of banks being able to meet these requirements.

9. 9 Willingness & readiness to adopt Basel II (3) In such a situation it will be best for the regulator, & the banks, to move at a measured pace - to commit to implementing Basel II, but in a manner & to a timetable that is appropriate given their particular set of circumstances. In conclusion, Asian economies / banks can benefit greatly from inplementation; but need to assess priorities & sequencing carefully; in particular, IRB may be less of a priority than other aspects. Effective implementation can improve the stability/resilience & boost development of the financial system regionally, so we should look upon Basel II as a great opportunity.