Question

Explain the countercyclical capital buffer implemented under Basel 3 standards for minimum capital requirements of global banks.

Answer 1

The countercyclical capital buffer intends to make sure that banking system capital needs take into consideration the macro-economic situation in which banks operate. Its main objective is to use a buffer of capital to achieve the broader macro-economic goal of defending the banking system from periods of excess credit growth that have been associated with the build-up of risk through the banking system most of the time.

Due to its countercyclical nature, the countercyclical capital buffer regime in addition will help to incline against the build-up phase of the credit cycle. In recessions, this concept will help to minimize the risk that the supply of credit will be controlled by statutory capital requirements that could destabilize the working of the real financial system and result in supplementary credit losses in the banking structure. The Basel III countercyclical capital buffer is implemented as an extension of the capital conservation buffer.