Bank of Canada sees new bank rules lifting economy

Wed Aug 18, 2010 5:06pm EDT
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By Louise Egan

OTTAWA (Reuters) - Tougher new global banking rules would boost Canada's economy, primarily because there would be less fallout from foreign financial crises, the Bank of Canada said on Wednesday.

The central bank estimated that gross domestic product would initially be cut by a maximum of 0.5 percent if capital ratios were increased by 1 percentage point over a two-year implementation period. The initial cost would be slightly smaller with a lengthier phase-in period.

But the long-term boost to the economy far outweighs any short-term pain, according to the bank's models.

"This study finds that Canada should benefit significantly from the anticipated reduction in the likelihood of future financial crises as a result of strengthened capital and liquidity requirements," the bank said in its report.

The assessment of the economic impact of proposed new bank capital and liquidity rules, known as Basel III, echoes two international studies that say the estimated costs of the changes are smaller than private banks have argued. Basel III is the cornerstone of the global effort to prevent future banking and financial crises.

The new standards have not yet been set, with G20 countries expected to endorse them in November.

By way of example, the bank said if bank capital ratios increase by 2 percentage points, gross domestic product would likely decrease by an average of 0.3 percent per year in the long run as higher financing costs for consumers and businesses dampen consumption and investment.

However, the economic gain arising from that same capital increase -- due to the decreased likelihood of financial meltdowns -- would be a 1.1 percent annual increase in GDP.   Continued...