william j mcdonough : bank supervision and credit standards under basel ii – perspectives for smes remarks by mr william j mcdonough, president and chief executive officer of the federal reserve bank of new york and chairman of the basel committee on banking supervision, at the gurzenich koln, cologne, germany, 25 april 2002. * * * introduction graf von hohenthal, herr dr. breuer, members of the panel, “ meine damen und herren … ” it is an honor to join your discussion on the efforts of the basel committee on banking supervision to ensure that the international rules on capital adequacy serve the needs of twenty - first century banking effectively. what makes this a special privilege for me is the opportunity to meet so many entrepreneurs, owners of small and medium - sized businesses, and others who make up the real engines of the economy. your interest in the work of the basel committee reminds us all that we must look beyond the banking sector to ensure that the foundation we lay provides for the stability and growth of the entire economy. i have long emphasized that the role of supervisors is not to hinder growth or profit, but rather to promote the responsible pursuit of opportunity and innovation. as we improve the rules for bank capital, we must certainly keep this mandate in mind and consider the effects that changes to those rules may have on the economy. like you, i recognize the need for small and medium - sized enterprises to retain access to credit at reasonable and fair prices. access to credit matters not just because credit can enable small businesses to grow, but more because small businesses enable the whole economy to grow. this is true not just for the “ mittelstand ” in germany, but also of entrepreneurial ventures around the world. in the united states, for example, small businesses traditionally create the majority of new jobs, invent a large proportion of all new technologies, and are responsible for nearly 40 % of our gross national product. preview i know that you are deeply interested in the steps that the basel committee is taking to ensure that small businesses continue to enjoy fair and open access to credit, and i am pleased to share with you the good progress that the committee has achieved since the release of the second consultative paper in january 2001. i ’ ll begin with an overview of the importance of regulatory capital to the stability of the banking systems – and that of the economy – and how the committee ’ s current efforts will reinforce that stability. second, i ’

confident enough of its success to make a substantial investment. the angel might be a single wealthy individual, an investment fund or, in some cases, even a bank. in exchange for the investment, the investor receives an ownership interest in the income and assets of that firm. the basel committee recognizes that both venture capital and equity investments often are catalysts for innovation and growth in the economy. at the same time, we recognize that such investments can represent high - risk activities for banks. consequently, the new rules are being designed to recognize the underlying risk while not discouraging or penalizing banks that wish to remain involved in venture capital and equity investing. our goal is to create a capital approach to equity exposures that builds upon sound internal bank practice and remains flexible enough to apply in any country. our challenge is to develop a treatment that makes sense today and that will be responsive to the evolution of banks ’ practices in equity funding. an equally important consideration is implementation, given significant differences in the nature of banks ’ equity holdings across countries and in the ways in which capital markets have evolved over time in each country. the committee wants to avoid disrupting equity holdings that have developed under existing capital regulations - - - whether these are long - term holdings, such as in germany, or those associated with small business investment corporations in the united states. to this end, only new equity investments would be captured under the internal ratings - based approach for the first ten years after the date that the new accord is implemented. this is an area where the committee has tried to navigate differences between national practices. we see the best way forward as offering two approaches to calculating regulatory capital for banks ’ equity exposures, one based on measures of market risk and a second based on the treatment of corporate loans. in either case, we intend for both methods to result in comparable capital requirements, which we will seek to confirm through our next impact study. responsibility would lie with the national supervisor to determine the approach most suitable for its banks. we expect that the new capital treatment will provide much better support for the healthy growth of equity financing and venture capital markets than the current accord. summary of changes and need for standards these important changes – modifying the capital charges, permitting greater recognition of collateral and trade receivables, and increasing the flexibility of the treatment of equity – should go a long way toward ensuring that banks that lend to small and medium - sized businesses are not disadvantaged under the internal ratings - based approach of the new accord. i