Scoring by liuqingyan


									                                          Regulatory Scoring
Treasury et. al.
Rule title:
Risk-Based Capital Guidelines; Capital Adequacy Guidelines; Capital Maintenance: Standardized Risk-Based
1557-AD07                                                                      RIA                   Yes
Stage                                                                          Publication Date
Proposed Rule                                                                  7/29/2008
Rule summary:
The Office of the Comptroller of the Currency (OCC), Board of Governors of the Federal Reserve System
(Board), Federal Deposit Insurance Corporation (FDIC), and Office of Thrift Supervision (OTS) (collectively,
the agencies) propose a new risk-based capital framework (standardized framework) based on the
standardized approach for credit risk and the basic indicator approach for operational risk described in the
capital adequacy framework titled „„International Convergence of Capital Measurement and Capital
Standards: A Revised Framework‟‟ (New Accord) released by the Basel Committee on Banking Supervision.
The standardized framework generally would be available, on an optional basis, to banks, bank holding
companies, and savings associations (banking organizations) that apply the general risk-based capital rules.

Openness                                                                     Score     Comments
1. How easily were the RIA, the proposed rule, and any supplementary
materials found online?                                                      3         See Topic 1 Tab
2. How verifiable are the data used in the analysis?                         1         See Topic 1 Tab
3. How verifiable are the models and assumptions used in the analysis?       2         See Topic 1 Tab
4. Was the Regulatory Impact Analysis comprehensible to an informed
layperson?                                                                   3         See Topic 1 Tab

Total Openness (Sum of 1-4)                                                  9

Analysis                                                                     Score     Comments
5. How well does the analysis identify the desired outcomes and
demonstrate that the regulation will achieve them?                           1         See Topic 2 Tab

6. How well does the analysis identify and demonstrate the existence of a
market failure or other systemic problem the regulation is supposed to solve? 3        See Topic 2 Tab
7. How well does the analysis assess the effectiveness of alternative
approaches?                                                                   3        See Topic 2 Tab
8. How well does the analysis assess costs and benefits?                      2        See Topic 2 Tab

Total Analysis (Sum of 5-8)                                                  9

Use                                                                          Score     Comments
9. Does the proposed rule or the RIA present evidence that the agency used
the Regulatory Impact Analysis?                                              2         See Topic 3 Tab
10. Did the agency maximize net benefits or explain why it chose another
alternative?                                                                 3         See Topic 3 Tab
11. Does the proposed rule establish measures and goals that can be used
to track the regulation‟s results in the future?                               1        See Topic 3 Tab

12. Did the agency indicate what data it will use to assess the regulation‟s
performance in the future and establish provisions for doing so?               3        See Topic 3 Tab

Total Use (Sum of 9-12)                                                        9

Total Score                                                                        27
Topic         Category   Score
         1    A                  3
         1    B                  1
         1    C                  2
         1    D                  3
         1    Total      9
         2    A                  1
         2    B                  3
         2    C                  3
         2    D                  2
         2    Total      9
         3    A                  2
         3    B                  3
         3    C                  1
         3    D                  3
         3    Total      9

Total Score              27
Crirerion                      Score Com. No. Comment
                                              The RIA cannot be found via links or
                                              searches from the Treasury web
1. How easily were the RIA ,                  page. The proposed regulation can
                                              be found on with a
the proposed rule, and any                    RIN or keyword search. The
supplementary materials                       regulation contains a link to the RIA
found online?                  3     1        on the Treasury website.

                                                The RIA uses data but not enough
                                                information is given for a reader to
                                                verify the data. The analysis is heavy
                                                on description, not documentation.
                                                Phrases like "Based on rough
                                                assessment," "we expect," and "we
                                                estimate" should be replaced with
                                                relevant citations. Specifically, the
                                                methods for calculating numbers in
2. How verifiable are the                       tables 1 and 3 should be explained
data used in the analysis?     1     2          clearly and sourced (24, 30).

                                                Market failure is the theory but there
                                                are no empirics. Calculation of costs
                                                are based on plausible assumptions
                                                that aren't verifiable. The analysis
                                                cites some publications or analyses.
                                                The most helpful citations includ
                                                those to papers on moral hazard and
                                                savings and loan crisis (14), the
                                                three mutually reinforcing "pillars,"
3. How verifiable are the                       and a description of comprehensive
models and assumptions                          supervision: CAMELS assessment
used in the analysis?          2     3          (22).
4. Was the analysis            The analysis requires knowledge of
comprehensible to an           banking and financial economics to
informed layperson?    3   4   understand.
Criterion                          Score   Com. No. Comment

5. How well does the
analysis identify the desired
outcomes and demonstrate
that the regulation will
achieve them?                      1

                                                     A large body of research suggests that banks
                                                     matter for human welfare. Most noticeably, banks
                                                     matter when they fail. The impact analysis states
                                                     outright that the “improved risk sensitivity” afforded
                                                     by the Standardized Option will enhance social
                                                     welfare through decreasing the probability of
                                                     financial failure by allowing banking organizations
                                                     to achieve prudent objectives more efficiently.
                                                     Specifically, it reasons that better alignment of
                                                     capital with risk will be able to support a “higher
                                                     level of banking activity” while maintaining the
                                                     same degree of confidence regarding “bank safety
Does the analysis clearly
                                                     and soundness” and ensure “a higher effective
identify ultimate outcomes                           level of solvency” for overall banking activity (OCC
that affect citizens‟ quality of                     25). A little more connection with the concerns of
life?                              4       5A        the average person would have been helpful.
Does the analysis identify
how these outcomes are to
be measured?                       0       5B        Items listed as "benefits" are not measured.
Does the analysis provide a
                                                     The analysis repeatedly asserts that the proposed
coherent and testable
                                                     regulation will lead to same level of safety and
theory showing how the                               soundness with less sacrifice of efficiency. There
regulation will produce the                          is no proof of the first claim, but the second is
desired outcomes?                  1       5C        somewhat plausible since it's voluntary.
Does the analysis present
credible empirical support
for the theory?                    0       5D        The analysis does not address this topic.
                                                     The analysis identifies the number of banks opting
                                                     for this regulation as a key uncertainty and notes
Does the analysis
                                                     that this makes both costs and benefits uncertain.
adequately assess                                    It argues plausibly that most benefits would be
uncertainty about the                                bigger if all banks either chose or were forced to
outcomes?                          2       5E        adopt the new standard.
6. How well does the
analysis identify and
demonstrate the existence
of a market failure or other
systemic problem the
regulation is supposed to
solve?                         3

                                        This analysis clearly identifies that capital
                                        regulation “seeks to address market failures” that
                                        stem from “the unique structure and role of banks
                                        in the financial system” (OCC 4). The analysis
                                        notes the presence of two market failures in bank
                                        capital regulation. First, the examination notes that
                                        market failure arises due to asymmetric
                                        information because the nature of the risk in a
                                        bank‟s portfolio “hinders the ability of creditors and
                                        outside monitors” to discern a bank‟s “actual risk
                                        and capital adequacy” (OCC 4). Moral hazard is
                                        presented as the second market failure in the
                                        analysis. In banking, moral hazard refers to the
                                        incentive financial institutions have to accept
                                        “greater risks in pursuit of higher returns” when
                                        they do not bear the full cost of losses associated
                                        with risky ventures (OCC 4). More specifically, the
                                        bank‟s creditors fail to restrain the bank from
Does the analysis identify a            taking excessive risks because “deposit insurance
market failure or other                 either fully or partially protects them from losses”
systemic problem?              5   6A   (OCC14).

                                        Throughout the RIA, the OCC implies that the
                                        purpose of financial regulation is to reduce the
                                        likelihood of systemic crisis. It follows that since
                                        bank failures are bad for society, the overarching
                                        goal of bank capital regulation is to ensure that
                                        such failures are avoided. The analysis describes
                                        the enormous systemic effect that the capital
                                        adequacy of one bank has on “depositors,
                                        borrowers, and the local economy” by mentioning
                                        that the failing of one institution affects how the
                                        market perceives the solvency of other banking
                                        organizations and that a loss in confidence in the
                                        banking system can “impose considerable costs
Does the analysis outline a             on the macroeconomy” as a whole (OCC 14).
coherent and testable                   Aside from the justification to correct market
theory that explains why the            failures, “risk of a systemic crisis” in the financial
                                        realm is therefore an additional basis of the
problem (associated with
                                        classical argument in favor of proposing bank
the outcome above) is                   capital regulation to insure banks against “liquidity
systemic rather than                    shocks” despite its interference with the free
anecdotal?                   5     6B   functioning of markets (Santos 12).
                                        Surprisingly, aside from briefly referencing how
                                        banking externalities contributed to the Savings &
Does the analysis present               Loan crisis of the 1980s and ensuing systemic
credible empirical support              financial meltdown, empirical evidence about the
for the theory?                1   6C   systemic nature of bank crises is lacking (OCC 14).
Does the analysis
adequately assess
uncertainty about the
existence or size of the
problem?                       0   6D   The analysis does not address this topic.
7. How well does the
analysis assess the
effectiveness of alternative
approaches?                    3
Does the analysis
enumerate other
alternatives to address the             There are three options: baseline, proposed
problem?                       4   7A   regulation, and mandatory approach.
Is the range of alternatives
considered narrow (e.g.,
some exemptions to a
regulation) or broad (e.g.,
regulation vs. command and
control, market
mechanisms, nonbinding
guidance, information
disclosure, addressing any              Options are relatively narrow, but the volunatry
government failures            3   7B   approach is relatively novel.
                                         While it may not be realistic to expect the analysis
                                         to include a thorough cost-benefit analysis of every
                                         alternative available, it is surprising that the
                                         assessment does not discuss any alternatives
                                         besides a manipulation of the Standardized Option
                                         itself. In its shortsightedness, the analysis leaves
                                         several unanswered questions about the efficiency
                                         of the proposed rule. Because adoption of the
                                         Standardized Option is mandatory under the
                                         alternative approach, the analysis assumes that
                                         “more banks will be subject to the Standardized
                                         Option provisions and the aggregate level of
                                         benefits…” of increased risk reduction will be
                                         higher (OCC 35). Claiming that a 100% adoption
                                         rate of the Standardized Option will enhance risk
                                         sensitivity to capital charges, and thus aggregate
                                         social benefits, at the sole cost of losing its
                                         optional provision clause, is a roundabout way of
Does the analysis evaluate
                                         proving that the proposed rule is the most effective
how alternative approaches               mechanism to enforce bank capital regulation.
would affect the amount of               Again, the analysis would be improved if a broader
the outcome achieved?           3   7C   range of alternatives had been suggested.
Does the analysis
adequately address the
baseline? That is, what the
                                         The analysis specifies a baseline. However, it also
state of the world is likely to
                                         mentions that many banks carry more capital than
be in the absence of federal             required by regulation but does not explain how
intervention not just now but            the regulation might alter bank practices compared
in the future?                  2   7D   to what they currently choose to do.
8. How well does the
analysis assess costs and
benefits?                       2
                                      Additional costs calculated for the two options are
                                      considered. The RIA describes the costs to
                                      banking organizations of implementing the
                                      proposed rule involve both startup and ongoing
                                      costs. In terms of the costs to banking
                                      organizations, the explicit costs of implementing
                                      the proposed rule fall into two categories in the
                                      analysis: setup costs and ongoing costs. Startup
                                      costs include expenses related to the development
                                      of the regulatory proposals, costs of establishing
                                      new programs and procedures, and costs of initial
                                      training of bank examiners in the new programs
                                      and procedures. Ongoing costs include
                                      maintenance expenses for any additional
                                      examiners and analysts needed to regularly apply
                                      the new supervisory processes. In the case of the
                                      Standardized Option, the analysis claims that
                                      “because modest changes to Call Reports will
                                      capture most of the rule changes,” these ongoing
                                      costs are likely to be minor (OCC 31). Based on
                                      this rough assessment, the analysis estimates that
Does the analysis identify
                                      implementation costs for the Standardized Option
and quantify incremental              could range between $200,000 and $5 million
costs of all alternatives             depending on the size of the institution, and
considered?                  5   8A   approximately $74 million would be spent by all
Does the analysis identify all
expenditures likely to arise            Identifies implementation expenditures by banks
as a result of the regulation? 4   8B   and government.
                                        The analysis assumes that costs are 100% borne
                                        by banks with no effect on customers. The OCC
                                        notes that because many factors besides
                                        regulatory capital requirements “affect pricing and
                                        lending decisions,” that they do not expect the
                                        adoption or non-adoption of the Standardized
                                        Option to affect pricing or lending of goods and
                                        services. It follows that they do not anticipate any
                                        costs or benefits of the Standardized Option to
                                        affect the customers of competing institutions. For
                                        these reasons, the cost and benefit analysis of the
                                        Standardized Option is organized as primarily an
                                        analysis of the costs and benefits “directly
                                        attributable to institutions that elect to adopt its
                                        capital rules” (OCC 7). This section of the analysis
                                        could be improved if it acknowledged that the
                                        effect of the price of a bank loan to lenders and
                                        borrowers, oftentimes the effective “good” in
                                        question, depends on several factors like the cost
                                        of a bank‟s funds, which determines the supply of
Does the analysis identify
                                        loans, the interest rate, or, effectively the price of
how the regulation would                money, and the demand for loans, which is
likely affect the prices of             inversely correlated with the interest rate, to name
goods and services?           3    8C   a few.
Does the analysis examine
costs that stem from
                                        The analysis examines only compliance costs. It
changes in human behavior
                                        does not consider any behavioral changes even
as consumers and                        though it acknowledges that the proposal could
producers respond to the                alter banks' level of capital or the mix of
regulation?                   0    8D   investments.

If costs are uncertain, does
the analysis present a range            The analysis acknowledges uncertainties, and the
of estimates and/or perform             costs calculated for the voluntary vs. mandatory
a sensitivity analysis?      3     8E   option establish a range.
                                        The analysis appears to be groping toward this,
                                        but since benefits aren't measured, there's no way
                                        to figure out which option offers the greatest net
                                        benefits. The analysis claims that the proposed
                                        rule “aims to enhance safety and soundness by
                                        improving the risk sensitivity of regulatory capital
                                        requirements” and accomplishes these goals via
                                        nine direct benefits. The analysis‟s implication that
                                        each of these nine “benefits” contributes equally to
                                        net benefits, however, is incorrect, as prolific
                                        research by critics had concluded that most of the
                                        listed “benefits” not only do not help, but actually
                                        hinder the safety and soundness of banking
                                        institutions. Additionally, since the cost analysis of
                                        alternative sceneries in the analysis is not broad
                                        enough to include regulatory considerations
                                        outside scope of the Standardized Option, it is
Does the analysis identify              difficult to say with conviction that the proposed
the alternative that                    rule maximizes net benefits for bank capital
maximizes net benefits?       1    8F   regulation nowadays.

Does the analysis identify              The analysis concludes that the benefits "justify"
the cost-effectiveness of               the cost, but since the benefits aren't quantified, it
each alternative considered? 1     8G   can't calculate cost-effectiveness.
                                        The analysis notes that social benefits of the
                                        proposed rule are benefits that accrue directly to
                                        those subject to a proposal plus benefits that
                                        might accrue indirectly to the rest of society.
                                        Similarly, the overall social costs of a proposal are
                                        costs incurred directly by those subject to the rule
                                        and costs incurred indirectly by others. In the case
                                        of the Standardized Option, direct costs and
                                        benefits are those that apply to the banking
                                        organizations‟ borrowers and lenders that are
                                        subject to the proposal. Indirect costs and benefits
                                        would then stem to other financial institutions that
                                        are not subject to the proposal, their bank
                                        customers and lenders, and, through the safety
                                        and soundness externality, society as a whole
                                        (OCC 22). The analysis mentions that direct
                                        influence of the Standardized Option will be felt by
                                        the banks who adopt it, and that broader effects
                                        will relate to society as a whole (OCC 22). Though
                                        the analysis considers the costs and benefits of a
Does the analysis identify all
                                        proposal as they relate to society as a whole, it
parties who would bear                  does not asses the direct incidence of the costs
costs and assess the                    and benefits. However, in theory, capital reserve
incidence of costs?            2   8H   ratios constrain the quantity of loans made,
Does the analysis identify all
                                        The analysis states that banks and the general
parties who would receive               public will receive benefits. It hints that banks with
benefits and assess the                 more mortgages might be more likely to take the
incidence of benefits?         2   8I   proposed voluntary approach.
Criterion                     Score Com. No. Comment
                                             The agencies assert that the RIA was used and
                                             present a summary of the main results from the
                                             analysis within the proposed rule but there is no
9. Does the proposed rule
                                             direct evidence of this. Though not explicitly
or the RIA present evidence                  stated, the idea to make the proposal voluntary
that the agency used the                     seems to be driven by a desire to keep the costs
analysis?                     2     9        down.
                                             The voluntary nature of the regulation is justified
                                             on the grounds that this will ensure banks adopt
                                             the alternative when the benefits justify the
10. Did the agency
                                             costs. This maximizes net social benefits only if
maximize net benefits or                     the social benefit is the same under either option
explain why it chose                         the bank might choose; this is asserted but not
another alternative?          3     10       proven.

                                                 No explicit measures or goals for the future are
                                                 enunciated. Since OCC notes that "capital
                                                 regulations cannot be static" and innovation in
                                                 and transformation of financial markets require
                                                 "periodic reassessments of what may count as
                                                 capital and what amount of capital is adequate,"
11. Does the proposed rule                       it is likely that the continued changes in financial
                                                 markets will create a need to change capital
establish measures and
                                                 standards in the future (4) . As such, while the
goals that can be used to                        Standardized Approach presents methods that
track the regulation's results                   can be used to track capital adequacy measures
in the future?                 1     11          in the future, they will likely be amended.
12. Did the agency indicate
what data it will use to
assess the regulation's
performance in the future                        The agency mentions that it might reconsider
and establish provisions for                     this proposal if banks' capital falls significantly
doing so?                      3     12          after it adopts it.

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