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 Gürzenich Köln, 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.
In this regard, the Committee has over the last six months been engaged in a significant research program to assess whether the size of a borrowing firm should be explicitly considered when banks calculate their capital requirements. BIS Review 27/2002  3  At this point, the Basel Committee is discussing whether and how to factor a firm’s size into the new framework. A lower capital charge for a portfolio consisting mainly of loans to many small companies makes economic sense because that portfolio is likely to be better diversified than one concentrated in loans to a handful of large companies. Assuming the discussions within the Basel Committee continue to proceed in this direction, it means that loans to small and medium-sized borrowers would have lower capital requirements than loans to larger companies that are otherwise rated the same. One point should be made about the treatment of loans to small and medium-sized enterprises. The Basel Committee wishes to ensure that our new framework reflects the sound risk management practices of banks. For example, many banks manage and evaluate their loans to smaller businesses in a way that is similar to the way they handle consumer loans. The design of the internal ratings-based framework will, therefore, allow a number of such loans to be treated like retail credits, as opposed to corporate loans. This principle also will apply to another important issue within our capital framework, namely the role of a loan’s remaining maturity.