Rising regulation may cause 'systemic reduction' in bank profits: KPMG

Regulatory pressures are building on banks across the world and  if there is no change to their business models, new measures affecting bank liquidity in particular will result in a 'systemic reduction in profitability', says a new report from KPMG International.

This will affect government tax revenues, pension fund income and, potentially, the overall level of employment in the financial services industry.

KPMG's report finds that European and US banks face the most intense regulatory pressure over the next couple of years and that liquidity is the highest pressure area for banks as a whole globally.

Though new proposals on the levels of capital that banks must hold may be stretching for many banks, the new liquidity requirements from the Basel Committee of Banking Supervisors will arguably have a greater impact, according to KPMG.

New liquidity buffers potentially three times their present size will increase the costs of liquidity sharply and permanently depress margins.

Liquid funds will have to be held in low-risk, low-return assets such as government bonds that yield very small returns, further reducing profitability. The cost of attracting long dated retail deposits will be a key business challenge over the next few years.

According to Jeremy Anderson, global chairman of KPMG's Financial Services practice, banks have recently returned to profitability following two or more years of heavy losses due to the economic crisis.

However, Anderson adds, "But the signs are that regulatory developments will introduce an era of permanently lower profitability.

The regulatory efforts are designed to ensure that banking is more stable and conservative than before, in order to protect the interests of individual depositors and avoid the risk of national bailouts.

Banks recognise the challenges – but the scale of regulatory reform is daunting. Lower profits are recognised as one potential outcome.''

KPMG's report, Evolving Bank Regulation, contains a ''Regulatory Pressure Index'', which seeks to capture the challenges that banks in different regions of the world face over the next two years.

The Index shows that, overall, European and US banks face the greatest challenges, while banks in ASPAC face considerably less pressure.

Commentators in ASPAC attribute the relatively lower pressure in that region to the changes that have already been made to the sector in the wake of the Asian banking crisis of 1999.

In terms of individual areas representing the greatest challenge for banks globally, liquidity issues emerged as the top area, followed by governance and then supervision and systemic risk.

KPMG's regulatory pressure index

Regulatory Reform	Europe	Americas	ASPAC	Total
Liquidity	5	4	4	13
Capital	4	4	2	10
Systemic Risk	5	5	1	11
Supervision	4	5	2	11
Governance	4	4	4	12
Remuneration	4	3	1	8
Traded Markets	4	4	1	9
Customer Treatment	3	4	1	8
Accounting & Disclosure	3	3	3	9
Total	36	36	19

Giles Williams, partner in KPMG's Financial Regulation practice, says, ''The regulatory challenge for banks continues - in Europe and the Americas in particular.

With ever closer supervision looming, additional regulatory requirements for banks deemed systemically important, game-changing reforms to traded markets rules, and fast-track changes to accounting and disclosure requirements, the list of challenges only gets longer.

"Despite the language coming out of the G20 around creating level playing fields, the reality may well be different. Regulatory reform uncertainty will continue for some time yet.

One thing though is for sure – banks have a major task to deal with the changes and are already channelling considerable time and resource into doing so.''