SPEECHES AND CONGRESSIONAL TESTIMONY-OCTOBER 1 TO DECEMBER 31, 2003

US Office of the Comptroller of the Currency: Quarterly Journal, Mar 2004 by Hawke, John D Jr, Williams, Julie L, Nishan, Mark A

Remarks by John D. Hawke, Jr., Comptroller of the Currency before the American Academy in Berlin, on Basel II, December 15, 2003

Basel II: A Brave New World for Financial Institutions? The American Academy in Berlin has attracted a remarkable succession of speakers and presenters from various fields of accomplishment-people united by the world standard of their own work and a common commitment to German-American friendship and international cooperation. I am honored to follow them to this podium.

In light of the principles to which the Academy has dedicated itself, I can think of no better place to discuss the work we are doing in the Basel Committee on Banking Supervision to craft a new international accord on regulatory capital requirements for banks. That is my subject today.

I think it's quite appropriate that we discuss this subject in this splendid building, which I'm told was once the home of the eminent banker Hans Arnhold. Bankers have long been among the most international-and indispensable-of business people. When the absolute monarchs of centuries ago felt overwhelmed by the financial burdens of maintaining armies and appearances, they turned to private bankers. Indeed, the power of bankers came to rival-and in some cases to surpass-that of the sovereigns they served. It was the Duc de Richelieu, prime minister under Louis XVIII, who was supposed to have observed, "there are six great powers in Europe: England, France, Russia, Austria, Prussia, and Baring Brothers." These may have been the words of an obsequious loan-seeker or those of a resentful debtor. But they also were not that far from the literal truth.

Skip ahead two centuries and bankers were still playing a primary political role as well as a financial one. In the 1920s and early '30s, through their formal and informal networks, bankers were at pains to prop up the international order when economic nationalism and political paralysis threatened to send the whole structure careening into crisis. Ultimately that crisis could not be averted; but in retrospect it's remarkable that bankers were able to sustain capital flows, international ties, and political stability in the face of an increasingly dysfunctional world order as long as they did.

Although we need no longer count on bankers to fill such systemic vacuums of political leadership, they continue to perform many functions essential to international stability and economic growth. Indeed, the globalization of capital markets may be considered as one of the defining developments of the whole post-World War II era, and we assign it significant responsibility for some of the great economic successes of our times-and the success we hope to achieve in the future. As Walter Wriston memorably put it, capital today goes where it is wanted and stays where it is well treated. That doesn't mean governments are passive bystanders in the process: meeting today's daunting financial challenges requires a sound, competitive, and effectively supervised international banking system.

While the international integration of banking and financial markets has been a source of enormous strength to the world economy, it also exposed it to vulnerabilities from unexpected sources. The 1974 failure of the Bankhaus Herstatt-a modest sized bank that I'm sure would not have appeared on any global problem bank list, had one existed-sent shock waves through the financial sector, demonstrating that weakness in the banking system or the supervisory regime in a single country may have the potential to cause disruption not only within that country but also internationally. Herstatt became a catalyst for the G-10 nations to establish the Basel Committee a year later, with a view to promoting common standards and best practices of prudential supervision, and assuring that no internationally active banking establishment should escape competent supervision.

Much of the committee's work over the past two decades has focused on capital adequacy standards for internationally active banks. The principal objective has been to articulate a common set of rules for those banks confronting one another as competitors around the world, and to relate capital rules, as far as possible, to the varying risks presented in the asset make-up of these banks.

The committee's landmark Capital Accord issued in 1988-what we now refer to as Basel I-ran little more than two dozen pages and was adopted within seven months after the committee's first (and only) consultative paper was published for comment. Basel I established the framework for the risk-based capital adequacy standards for counter-party credit risk used by all G-10 countries and by most other banking authorities around the world. The first Capital Accord represented an important convergence in the measurement of capital adequacy, a strengthening in the stability of the international banking system, and a removal of a source of competitive inequality arising from differences in national capital requirements.