Regulators propose firewall for banks

Published 8:11 am Sunday, September 26, 2010

The implosion of Wall Street investment house Lehman Brothers two years ago triggered a conflagration in the banking industry that laid low economies around the world. Now, international banking regulators propose to build a firewall.

Under rules crafted in the Swiss town of Basel, banks would be required to hold more capital in reserve than they have in the past, most of it in common stock. Shareholders would be on the hook if a bank overreaches.

These sensible requirements should reduce the risk of another firestorm in financial markets.

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But the Federal Reserve and other agencies charged with bank oversight must protect consumers while also ensuring that banks feel free to make sound loans and take the calculated risks so necessary in a vibrant system.

The new rules would require the largest global banks to hold common equity equal to at least 7 percent of their assets, compared with current standards that demand as little as 2 percent. Banks that fail to hit the new standard couldn’t raise dividends.

The rules should discourage the kind of speculation that brought down Lehman, Merrill Lynch and others that invested heavily in mortgage-backed securities. Banks could still take risks, even big ones, but they would need an ample capital cushion to do so. If approved, the first requirements would take effect in 2013, but most banks wouldn’t have to comply until 2019.

The new firewall is needed to protect the banking system. But the government must balance that need for protection with the need for credit in a languid economy.