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Bank for International Settlements

2011-08-18 11:17:27

The Bank for International Settlements (BIS) is an intergovernmental organization of central banks which "fosters international monetary and financial cooperation and serves as a bank for central banks."[2] It is not accountable to any national government. The BIS carries out its work through subcommittees, the secretariats it hosts, and through its annual General Meeting of all members. It also provides banking services, but only to central banks, or to international organizations like itself. Based in Basel, Switzerland, the BIS was established by the Hague agreements of 1930. The name of the BIS in German: Bank f r Internationalen Zahlungsausgleich (BIZ), in French: Banque des R glements Internationaux (BRI), in Italian: Banca dei Regolamenti Internazionali (BRI). It has representative offices in Hong Kong and Mexico City.

Organization of central banks

As an organization of central banks, the BIS seeks to make monetary policy more predictable and transparent among its 60 member central banks. While monetary policy is determined by each sovereign nation, it is subject to central and private banking scrutiny and potentially to speculation that affects foreign exchange rates and especially the fate of export economies. Failures to keep monetary policy in line with reality and make monetary reforms in time, preferably as a simultaneous policy among all 60 member banks and also involving the International Monetary Fund, have historically led to losses in the billions as banks try to maintain a policy using open market methods that have proven to be unrealistic. Central banks do not unilaterally "set" rates, rather they set goals and intervene using their massive financial resources and regulatory powers to achieve monetary targets they set. One reason to coordinate policy closely is to ensure that this does not become too expensive and that opportunities for

private arbitrage exploiting shifts in policy or difference in policy, are rare and quickly removed.

Two aspects of monetary policy have proven to be particularly sensitive, and the BIS therefore has two specific goals: to regulate capital adequacy and make reserve requirements transparent.

Regulates capital adequacy

Capital adequacy policy applies to equity and capital assets. These can be overvalued in many circumstances because they do not always reflect current market conditions or adequately assess the risk of every trading position. Accordingly the BIS requires the capital/asset ratio of central banks to be above a prescribed minimum international standard, for the protection of all central banks involved. The BIS's main role is in setting capital adequacy requirements. From an international point of view, ensuring capital adequacy is the most important problem between central banks, as speculative lending based on inadequate underlying capital and widely varying liability rules causes economic crises as "bad money drives out good" (Gresham's Law).

Encourages reserve transparency

Reserve policy is also important, especially to consumers and the domestic economy. To ensure liquidity and limit liability to the larger economy, banks cannot create money in specific industries or regions without limit. To make bank depositing and borrowing safer for customers and reduce risk of bank runs, banks are required to set aside or "reserve".

Reserve policy is harder to standardize as it depends on local conditions and is often fine-tuned to make industry-specific or region-specific changes, especially within large developing nations. For instance, the People's Bank of China requires urban banks to hold 7% reserves while letting rural banks continue to hold only 6%, and simultaneously telling all banks that reserve requirements on certain overheated industries would rise sharply or penalties would be laid if investments in them did not stop completely. The PBoC is thus unusual in acting as a national bank, focused on the country not on the currency, but its desire to control asset inflation is increasingly shared among BIS members who fear "bubbles", and among exporting countries that find it difficult to manage the diverse requirements of the domestic economy, especially rural agriculture, and an export economy, especially in manufactured goods. Effectively, the PBoC sets different reserve levels for domestic and export styles of development.

Historically, the US also did this, by dividing federal monetary management into nine regions, in which the less-developed Western US had looser policies.

For various reasons it has become quite difficult to accurately assess reserves on more than simple loan instruments, and this plus the regional differences has tended to discourage standardizing any reserve rules at the global BIS scale. Historically, the BIS did set some standards which favoured lending money to private landowners (at about 5 to 1) and for-profit corporations (at about 2 to 1) over loans to individuals. These distinctions reflecting classical economics were superseded by policies relying on undifferentiated market values more in line with neoclassical economics.

Tier 1 vs. Total capital

The BIS sets "requirements on two categories of capital, Tier 1 capital and Total capital. Tier 1 capital is the book value of its stock plus retained earnings. Tier 2 capital is loan-loss reserves plus subordinated debt. Total capital is the sum of Tier 1 and Tier 2 capital. Tier 1 capital must be at least 4% of total risk-weighted assets. Total capital must be at least 8% of total risk-weighted assets. When a bank creates a deposit to fund a loan, its assets and liabilities increase equally, with no increase in equity. That causes its capital ratio to drop. Thus the capital requirement limits the total amount of credit that a bank may issue. It is important to note that the capital requirement applies to assets while the bank reserve requirement applies to liabilities."[3]

Goal: a financial safety net

The relatively narrow role the BIS plays today does not reflect its ambitions or historical role.

A "well-designed financial safety net, supported by strong prudential regulation and supervision, effective laws that are enforced, and sound accounting and disclosure regimes," are among the Bank's goals. In fact they have been in its mandate since its founding in 1930 as a means to enforce the Treaty of Versailles.

The BIS has historically had less power to enforce this "safety net" than it deems necessary. Recent head Andrew Crockett has bemoaned its inability to "hardwire the credit culture," despite many specific attempts to address specific concerns such as the growth of Offshore Financial Centres (OFCs), Highly Leveraged Institutions (HLIs), Large and Complex Financial Institutions (LCFIs), deposit insurance and especially the spread of money laundering and accounting scandals.

History

The BIS was formed in 1930. The main actors in its establishment were the then-Governor of The Bank of England, Montagu Norman, and his German counterpart Hjalmar Schacht, later Adolf Hitler's finance minister. The Bank was originally intended to facilitate reparation payments imposed on Germany by the Treaty of Versailles after the First World War.[4] The need for the bank was suggested in 1929 by the Young Committee, and was agreed to in August of that year at a conference at the Hague. A charter for the bank was drafted at the International Bankers Conference at Baden Baden in November. The charter was adopted at a second Hague Conference on January 20, 1930.

During the period 1933 45, the board of directors of the BIS included Walter Funk, a prominent Nazi official, and Emil Puhl, who were both convicted at the Nuremberg trials after World War II, as well as Herman Schmitz the director of IG Farben and Baron von Schroeder, the owner of the J.H.Stein Bank, the bank that held the deposits of the Gestapo. There were allegations that the BIS had helped the Germans loot assets from occupied countries during World War II.

As a result of these allegations, at the Bretton Woods Conference in July 1944, Norway proposed the "liquidation of the Bank for International Settlements at the earliest possible moment". This resulted in the BIS being the subject of a disagreement between the American and British delegations. The liquidation of the bank was supported by other European delegates, as well as the United States (including Harry Dexter White, Secretary of the Treasury and Henry Morgenthau),[5] but opposed by John Maynard Keynes, head of the British delegation. The disagreement led to Chase Bank representative Dean Atchison interrupting Keynes at one of the conference sessions. Fearing that the BIS would be dissolved by President Franklin Delano Roosevelt, Keynes went to Morgenthau hoping to prevent the dissolution, or have it postponed, but the next day the dissolution of the BIS was approved. However, the liquidation of the bank was never undertaken.[6] The British delegation did not give up and the dissolution of the bank was

still not accomplished when Roosevelt died. In April 1945, the new president Harry S. Truman and the British suspended the dissolution and the decision to liquidate the BIS was officially reversed in 1948.[7]

The BIS was originally owned by both governments and private individuals, since the United States and France had decided to sell some of their shares to private investors. BIS shares traded on stock markets, which made the bank a unique organization: an international organization (in the technical sense of public international law), yet with private shareholders. Many central banks had similarly started as such private institutions; for example, the Bank of England was privately owned until 1946. In more recent years[when?] the BIS has forcibly bought back all shares held by private investors, and is now wholly owned by its member central banks.

Since 2004, the BIS has published its accounts in terms of Special Drawing Rights, or SDRs, replacing the Gold Franc as the bank's unit of account. As of March 2007 (end of month) the bank had total assets of $409.15 billion, given a dollar/SDR exchange rate of 1.51 for March 30, 2007. Included in that total is 150 tons of fine gold.

Role in banking supervision

The BIS provides the Basel Committee on Banking Supervision with its twelve-member secretariat, and with it has played a central role in establishing the Basel Capital Accords of 1988 and 2004. There remain significant differences between US, EU and UN officials regarding the degree of capital adequacy and reserve controls that global banking now requires. Put extremely simply, the US as of 2006 favoured strong strict central controls in the spirit of the original 1988 accords, the EU was more inclined to a distributed system managed collectively with a committee able to approve some exceptions. The UN agencies especially ICLEI are firmly committed to fundamental risk measures: the so-called triple bottom line and were becoming critical of central banking as an institutional structure for ignoring fundamental risks in favour of technical risk management.