Hong Kong banks set to struggle with Basel II

In an annual report on Hong Kong financial institutions conducted by the firm, Hong Kong banks’ current risk management systems are insufficient for the demands made by the new regulatory capital proposals, due to be implemented in 2005. And the cost of implementing and maintaining these proposals could outweigh any benefits gained, warned Maria Xuereb, partner-in-charge of the Hong Kong banking group at Deloitte Touche Tohmatsu. “Even the simplest option of the new Accord is too extensive for some of the smaller banks to implement,” she said.

The new Basel Accord, by addressing the shortcomings of the original 1988 Accord, has adopted a more ‘risk-sensitive’ methodology to credit risk capital adequacy. Most Hong Kong banks, said Xuereb, would implement the standardised approach. Risk weights under this approach are to be determined by reference to external credit ratings agencies such as Moody’s and Standard & Poor’s. An area of contention for Hong Kong banks, pointed out Xuereb, is that a large number of corporates in emerging countries have a credit rating under ‘B’ or are un-rated. The external risk weightings for such corporates will remain at 100% or rise to 150%, leading to an increase in capital charges for the banks.

Additionally, a risk management benchmark survey, also conducted by Deloitte Touche Tohmatsu, found the lack of sophisticated risk management systems at Hong Kong banks has caused severe deficiencies in offsetting risk exposures. The over-capitalisation of banks has provided little incentive to integrate risk management on an enterprise-wide scale, which has led to inefficient allocation of capital, the report said.

In spite of these issues, Basel II should act as a catalyst for change in the risk management processes of Hong Kong banks. The banks will be obliged to perform a thorough review of the their risk management frameworks, and upgrade where necessary, said Xuereb.