Impact of Basel III on International Trade Finance

Basel III regulations are attempting to bring back some the much-needed checks and balances in the Finance Industry so that we do not see a repeat of 2008 crisis. The set of guidelines is all about re-establishing the rules to ensure a brighter future for the global economy.

I’m pro-Basel III. After all, no one wants to experience the 2008 financial fallout again. The regulators are correct to exert their authority to make sure banks have sufficient capital to return deposits in the event of a crisis, are able to survive a protracted liquidity freeze, and are less dependent on the vagaries of short-term credit markets. These rules had to be implemented, especially in retail banking, where it was necessary to curb high risk mortgage and credit card lending.

However, the regulators are taking an umbrella approach to addressing the problems of the finance industry, which may have unforeseen outcomes. There are so many different aspects to it and the Basel III rules may not only restrict some of these sectors, but it could also hinder parts of the global economy.

What I’m talking about more specifically is the trade finance business.

The mature markets are expecting flat GDP rates in the near term and are battling with de-flation, currency crises and resorting to quantitative easing. However, the emerging markets are experiencing exponential growth.  It is predicted that GDP of emerging markets will grow at a rapid pace of 6.3 per cent in 2011 and 6.2 percent in 2012. Yet, this economic growth could be seriously threatened by the Basel III regulation, thanks to the impact the rules will have on the trade finance business.

 The emerging markets dependency on trade is significant and Basel III is likely to result in an increase in trade finance pricing and consequently a reduction in the volume of trade finance, due to the new capital and liquidity ratio requirements. Standard Chartered Bank estimates that trade finance pricing will increase by between 15 and 37 per cent and the impact of this could see the volume in activity reduce by six per cent, which would result in a reduction in global trade by $270 billion per annum. This equates to a 0.5 per cent reduction in the global GDP.

Also, a study conducted by the Chamber of Commerce found that based on the trade finance activity of nine global banks from 2005 to 2009, out of the 5.2 million transactions that took place, only 1,140 defaulted and only 445 of those defaults were during the banking crisis from 2008 to 2009. Basically, the statistics prove that the existing trade finance system works, but it will become ten times more expensive to do a low-risk trade guarantee than it previously was, due to new regulations which are based on a set of rules which are formulated for the mass finance industry but are not able to address specific needs of the niche markets within it.

Emerging markets are breathing life into the existing world economy and are an integral part of driving the growth of the global market going forward. As the final details of the Basel III regulations are being worked out, it is essential that they take into consideration the potential outcomes that the new rules could have on existing financial structures that already work and aid economic growth. If they are able to do that successfully, the acceptance and deployment of Basel III will become much easier.