Arab banks have enough resources to meet Basel 3 capital adequacy requirements prompted by the 2008 global fiscal turmoil but they should also enforce stress tests to avert fresh crisis, a top Arab banker has said.
After Basel 2 failed to prevent global banks from increasing their debt and precipitate a world financial crisis, Basel 3 declared new norms and standards to enhance the resilience of the global banking system, said Adnan Yousuf, chairman of the Beirut-based Union of Arab Banks (UAB).
In an article published by UAB’s June bulletin, Yousuf said Basel 3 would contribute to addressing the many flaws that caused the financial crisis, improving the quality of capital, controlling the level of loans, focussing on the importance of liquidity management and motivating banks to manage risk...
“But the question today, is that if these standards are able to protect from financial crises in the future? Are they able to address the weaknesses that were the cause of the crisis,” Yousuf said.
He said it was clear that most Arab banks currently maintain excellent capitalization ratios that enable them to meet the new capital requirements. “However, our Arab banks will find themselves sooner or later, facing crises of a new type that may impose a conservative and prudent policy, to avoid being victims of any emerging crisis,” he said.
“As we mentioned in previous articles, Arab banks are ready to meet the new Basel 3 requirements, since they hold excellent capitalization ratios. But these banks are required today to consider stress tests as integral part of the risk management process, as well as in the capital planning process, so that stress tests become part of the governance culture and risk management.”
Yousuf, a Bahraini, said result of these tests should affect the decisions taken at the appropriate management level, including strategic business decisions for the Board of Directors and senior management, whose participation is essential and effective, adding that the results of these tests give confidence about the status of the bank, their credibility and transparency.
He said stress tests, defined by experts as a forward-looking economic assessment, should also be a concern for supervising authorities as well.
“The supervisors should have an essential and active role in asking the bank's management to take corrective actions when material shortcomings are identified in the stress testing program or when results of stress tests are not taken into consideration sufficiently. They can also ask the management to conduct sensitivity analysis to portfolios or specific elements,” he said.
According to Yousuf, whose group comprises over 450 Arab banks, Basel 3 developed several requirements, including a set of standards that aim at bridging the financial gaps, and controlling the chaos in the global banking markets.
The most important of these criteria, is giving great importance to stress tests that would, and make banks ready to face quickly any emergency, he said.
“In fact, the global financial crisis drove many banks and supervisory authorities to raise the question whether the practices of the stress tests before the crisis were enough, and whether they were appropriate to meet the rapidly changing circumstances…the stress test has become one of the important tools for bank risk management as part of overall risk management,” he said.
“The stress tests warn the management of the bank from unexpected negative extreme events of a set of risks, and refer to the amount of capital necessary to absorb losses in the event of major shocks….they have also become an indication of the level of capital necessary to withstand the deteriorating market conditions.
Therefore, this test - which is a complementary tool to the approaches and measures of risk management - can provide forward-looking assessments of the risks, plan the procedures for liquidity and capital, determine the level of risk taking by the bank, and facilitate the development of risk mitigation, and emergency plans.”
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