An international financial group recently released new proposals for banks to follow. N.C. State University economist Mike Walden explains the proposals and why they are important.
“They are called the Basel rules, named after the city in Switzerland where these international bankers meet. And the idea here is very simple: … that one of the problems that we saw during the big build up in lending was that banks weren’t keeping much money back in the vaults. In fact, the average amount of money kept in the vaults, that is not loaned out, is about 2 percent of all deposits. And that meant when banks got in trouble, they didn’t really have any fall back there — they didn’t have any money in the vault to sort of bail themselves out.
“And so one idea that has been kicking around since we are sort of past, I think, the worst of the financial crisis is to increase the amount of money — the percent of deposits that banks have to hold back — and so the Basel meeting did propose that. They proposed increasing the minimum that you have to keep in the vault from 2 percent, which is about what it is now, up to 7 percent. This will not happen immediately; this would be phased in over a number of years, but many think this is a very simple solution to head off another big financial crisis.
“Now, granted, this is going to have some downsides. That is to say, banks exist in part to make loans. And by making loans, they let people buy what they want to buy; they let businesses start and prosper and grow. So if banks are making fewer loans because they have to keep more money back in the vault, that may lead to slower economic growth.”