mark w olson : basel ii - its implications for second - tier and community - size banks speech by mr mark w olson, member of the board of governors of the us federal reserve system, at the 2003 banking institute, center for banking and finance, university of north carolina, charlotte, 10 april 2003. * * * as important as the gramm - leach - bliley act has been to american banking - - codifying the new realities of the marketplace - - i would argue that the 1988 basel capital accord brought about an even more dramatic change in banking rules of the game. in the late 1980s, as the congress struggled unsuccessfully to reach agreement on a plan for managing interstate banking, the banking regulators of the group of ten ( g - 10 ) countries were able to develop a common set of rules for bank capital. what is referred to now as basel i established a competitive balance among the banking systems of the major industrialized countries. it made the international competitive climate considerably more fair, and it greatly improved bank safety and soundness worldwide. let me elaborate briefly on the advances embodied in basel i before i discuss the limitations that have become more evident in the years since it was implemented. in the mid - 1980s, it was a major step forward to acknowledge, for example, that residential mortgage lending carried substantially less credit risk than did automobile lending and that certain state and municipal bond issues carried less of a credit risk than home mortgage loans. as a result, when basel i allowed for loans and investments to be grouped into four " buckets " with risk weightings of 0 percent, 20 percent, 50 percent, and 100 percent, respectively, banks were allowed for the first time to allocate and maintain capital in a manner somewhat consistent with the risk profile of the asset side of their balance sheets. also, overwhelmingly, banks of all sizes in the united states now had risk capital ratios significantly in excess of their leverage capital ratios. though the risk buckets were limited and did not fully reflect the range of risk sensitivities in the 100 percent bucket, their implementation represented a significant improvement. the banking industry has changed in many ways, however, since basel i was implemented in 1988. two specific areas of change - - the expanded use of securitization and derivatives in secondary markets and vastly improved risk - management systems - - have significant implications for basel i. the use of secondary markets and the sophistication of risk - management systems correlate significantly with bank size. while

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