Large European banks will spend, on average, €115 million over five years to comply with Basel II. In a recent brief, Forrester Research (Nasdaq: FORR) advises that they should not pursue compliance for its own sake but should instead embed Basel II changes into a core business improvement strategy.
“With budgets secured and Basel II implementation under way, most European banks feel they’re in good shape to meet the upcoming compliance deadlines. But those that focus on regulatory compliance for its own sake will miss out on the real benefits of Basel II,” said Forrester Research Director Remus Brett. “Instead, Europe’s banks should embed Basel II into core business processes and tie their investments to superior capital efficiency and reduced operational losses. In our view, firms must: make governance dynamic; use enterprise visibility to manage data complexity; design Basel II systems with business users in mind; and partner in industry hubs to overcome operational risk hurdles.”
To adjust as smoothly as possible to modifications caused by high-profile outbursts from industry groups like the Securities Industry Association, banks should adopt an adaptive governance strategy that will put flexibility into budgets and staffing. Also, enterprise software vendors wrongly promote huge data warehouses as the answer to Basel II. Basel II’s single greatest challenge lies in identifying what data is needed to populate the risk models and where, among the hundreds of heterogeneous systems, it lives. Basel II leaders will adopt enterprise visibility to prioritize the cross-functional domains that justify data synchronization. Basel II project leaders should also ensure that business heads use these systems on a day-to-day basis to, for example, align SME lending decisions more closely with actual risk.
Finally, accurately measuring operational risk factors like employee fraud and systems failure will pose a huge challenge to the majority of financial firms that have never systematically tracked these loss drivers. Analyzing the current, flawed records of operational loss will be a waste of time. Instead, banks should follow the lead of their Swiss counterparts and participate in industry hubs like ORX Association, which pools and analyzes operational risk data from member banks.
“Tier one universal banks like Credit Suisse that have practiced risk-based pricing for years stand to gain the least from Basel II,” Brett added. “In contrast, successful implementation of advanced IRB techniques will allow large retail banks like Lloyds TSB to reduce minimum capital requirements by a significant degree. The result? Leaders will snap up Basel II laggards and implement their superior risk management practices to free up blocks of capital.
“Vendors of all stripes are pounding on the doors of Basel II budget holders to try and claim their share of the Basel II pie. Bank executives, suffocating under piles of vendor literature, will bolt their doors and retrench to trusted internal IT teams. More than ever, reputations and relationships will win out. We expect that a select group of Basel II specialists, working in partnerships, will emerge from the pack — vendors like Mercer Oliver Wyman for consulting and SAS for analytics.”