Stiffer equity rules for foreign banks set

Foreign banks operating in the Philippines face stricter capitalization requirements in line with efforts of the Bangko Sentral ng Pilipinas (BSP) to maintain the stability of the local financial system.

BSP Deputy Governor Nestor Espenilla Jr. said the regulator was preparing a proposal that would exclude advances received by local branches of foreign banks from their parent firms as part of their tier 1 capital.

This restriction, if approved, will go on top of higher capitalization requirements mandated for all banks in the country under Basel 3 rules that take effect in January 2014.

“As part of Basel 3 reforms, these net due to their parent firms shouldn’t be treated as tier 1 capital,” Espenilla told reporters last week. “This is a measure designed to promote the stability of the financial system.”

Espenilla said the proposal would be presented to the BSP’s policymaking Monetary Board soon. The implementation of these stricter rules on capital for foreign banks will be done not later than the January 2014 deadline for Basel 3 requirements for the entire industry.

Today, local offices of foreign banks are required to put up capital that is permanently assigned for their operations in the country. On top of this, banks are also allowed to count advances from their parent firms as part of their capital, even though these advances have to be paid back later.

Espenilla said these advances were riskier forms of capital since there was no assurance that this cash would stay in the Philippines.

He said if the bank saw that its capital adequacy ratio (CAR) would fall below the required level once the new rule is implemented, it could choose to either retain part of its profits and convert this into common equity, or ask for a higher investment from its parent firm.

A bank’s CAR level, which is its capital relative to the size of its portfolio, serves as a buffer for potential losses. Hence, the amount of money a bank lends to its clients is dictated by the amount of capital it has set aside.

Banks are currently required to maintain a CAR of 10 percent, which can be made up of tier 1 capital in the form of common equity and tier 2 capital, which are debt-like instruments.

Under stricter capital rules that take effect in January, banks’ CAR requirement will remain at 10 percent, but more of it should be made up of tier 1 capital.

If a bank’s tier 1 capital falls below 8.5 percent, the BSP will force that bank’s management to retain half of its yearly profits and convert this into capital.