Active since: Currently implemented before January 2022
Succeeded by: Basel IV
Target: Financial institutions world wide
Goal: Increase Liquidity and Capital requirements
During the credit crisis of 2007 it became apparent that the capital requirements stated in the Basel II accord had too many 'pitfalls' for financial institutions to end up with unsufficient capital leading to bankruptcy or governmental support.
Risky products were securitized via Special Purpose Entities and brought on the market to free (risk) capital and gain more liquidity. By investing back into these SPEs they basically took the risk back in the bank without the need for holding risk capital.
Risk capital was also harder to free at the moments nescessary because it was stored in financial products that appeared harder to cash out during a crisis or the money was held in a different currency than the actual risk. This lead to problems when the currency devaluated.
In order to straighten this out and to make sure that banks can forecast their liquidity the Basel III accord was created with the following main ingredients:
- increase of minimal captital ratios in order to gain more stability during a crisis
- introduction of the Liquidity Coverage Ratio in order to closely monitor the liquidity in the next 30 days in order to facilitate a 30 day time window to restructure a bank if things turn sour (remember the weekends in which banks had to be taken over by the government to avoid bankruptcy).
- introduction of the Net Stable Funding Ratio in order to require a stable funding over a one-year period of extended stress.
- make sure that capital is held in high-quality liquid assets in the currency (and country) where the risk is at
- increase the capital ratios during periods of stress and for the so called 'to big to fail' banks