Basel rules ‘curbing infra investment in emerging markets’
Hopes of attracting private finance to fill the funding gap for much-needed infrastructure projects in developing and emerging countries are being threatened by new rules aimed at making banks safer.
New rules aimed at making financial institutions safer have been blamed for a slump in investment in infrastructure projects in developing and emerging countries over the last decade.
The task force of experts looking at the impact of the Basel III banking rules called on regulators to loosen liquidity requirements for infrastructure lending in domestic currencies. It also recommended development banks offer credit guarantees to make bank lending less risky.
A task force, co-chaired by Thorsten Beck and Liliana Rojas-Suarez, respectively professor of banking and finance at Cass Business School in London and senior fellow at the Center for Global Development think tank, found that finance volumes for infrastructure had stalled since about 2010 in developing and emerging countries, while doubling in advanced countries.
While other factors are also at play, Basel rules do not help, it said. Banks can only gain a certain amount of capital relief from using their own models rather than standardised ones. This could make project finance more expensive, particularly when external credit ratings for projects are non-existent in developing countries.
Furthermore, banks can only be exposed to a counterparty to the extent of 25% of their tier one capital under the 2014 Basel large exposures framework. This could force smaller banks out of the market, according to the task force.
It also highlighted two standards on liquidity that made infrastructure finance more burdensome. The net stable funding ratio (NSFR) pushes banks to match long-term lending like infrastructure with long-term funding, which is perhaps less accessible. Secondly, the liquidity coverage ratio (LCR) demands 100% high quality liquid assets for special purpose vehicles (SPV) commonly used for project finance.
New asset class
Their report recommended that infrastructure finance be categorised as a specific asset class. This would mean that if some projects were determined to be less risky under certain criteria, banks could receive better capital treatment.
Agreement on how to quantify the risk of infrastructure finance could enable the issuance of securities backed by projects, possibly through an aggregator SPV — a walled-off subsidiary for the purpose of pooling and selling loans. This type of financing could help global banks take projects off the balance sheet and find capacity for new ones, it said.
The Basel rules are the banking standards laid out by the Basel Committee on Banking Supervision, a body of central banks and supervisors. Basel III, which sets out new capital requirements for banks, is the first to respond to the global financial crisis. Its standards are non-binding until they are adopted by the relevant legislators around the world.
Russia and Turkey are compliant with the liquidity coverage ratio and risk-based capital element of Basel III, but the rules on the large exposures framework are not yet in force in either country, according to the Financial Stability Board’s report last November. The NSFR is in force in Russia but not in Turkey.