The oversight body of the Basel Committee on Banking Supervision has recently announced a substantial strengthening of existing capital requirements, fully endorsing agreements reached by the same body in July. Together with the introduction of a global liquidity standard, these reforms will make up the core of the global financial reform agenda.

Agreed measures include:

• banks will be required to hold at least 7% of “common equity” (the highest form of loss absorbing capital) –  over three times higher than the existing minimum level. This breaks down into:

• 4.5% of common equity to meet the “core Tier 1 capital” (i.e. top quality capital) requirement; and
• a further 2.5% of common equity to meet the “capital conservation” buffer requirement  (see below).

This change reinforces the stronger definition of capital agreed in July. The Tier 1 capital rule will take full effect from January 2015, and the capital conservation buffer will be phased in between January 2016 and January 2019.

• banks will now be required to hold a “capital conservation” buffer. The purpose of the buffer is to allow banks to absorb losses during periods of financial and economic stress. This reinforces the Basel III objective of sound supervision and bank governance.

• banks will be required to build a separate “countercyclical buffer” of between 0% and 2.5% of common equity when credit markets are booming. It is hoped that the buffer will slow down lending when credit markets threaten to overheat, preventing dangerous bubbles from forming.

To ease the burden on banks and financial markets, generous “phasing in” periods have been given to comply with the rules, with transition periods under Basel III extending to January 2019 or later in some cases.