The document summarizes the Basel Accords I, II, and III.
Basel I (1988) focused on credit risk and set minimum capital requirements. It had a simple framework but did not account for other risks. Basel II (2004) built on this by including operational risk and allowing different approaches to risk weighting. It aimed to make requirements more risk sensitive. Basel III (2010) was a response to the 2008 crisis, strengthening capital standards and introducing liquidity and leverage requirements. It sought to promote bank resilience and stability.
The document summarizes the Basel Accords I, II, and III.
Basel I (1988) focused on credit risk and set minimum capital requirements. It had a simple framework but did not account for other risks. Basel II (2004) built on this by including operational risk and allowing different approaches to risk weighting. It aimed to make requirements more risk sensitive. Basel III (2010) was a response to the 2008 crisis, strengthening capital standards and introducing liquidity and leverage requirements. It sought to promote bank resilience and stability.
The document summarizes the Basel Accords I, II, and III.
Basel I (1988) focused on credit risk and set minimum capital requirements. It had a simple framework but did not account for other risks. Basel II (2004) built on this by including operational risk and allowing different approaches to risk weighting. It aimed to make requirements more risk sensitive. Basel III (2010) was a response to the 2008 crisis, strengthening capital standards and introducing liquidity and leverage requirements. It sought to promote bank resilience and stability.
The document summarizes the Basel Accords I, II, and III.
Basel I (1988) focused on credit risk and set minimum capital requirements. It had a simple framework but did not account for other risks. Basel II (2004) built on this by including operational risk and allowing different approaches to risk weighting. It aimed to make requirements more risk sensitive. Basel III (2010) was a response to the 2008 crisis, strengthening capital standards and introducing liquidity and leverage requirements. It sought to promote bank resilience and stability.
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1.
0 Basel I: The Basel Capital Accord in 1988 proposed by Basel Committee of Bank Supervision (BCBS) of the Bank for International Settlement (BIS) focused on reducing credit risk, prescribing a minimum capital risk adjusted ratio (CRAR) of 8percent of the risk weighted assets. Although it was originally meant for banks in G10 countries, more than 190 countries claimed to adhere to it, and India began implementing the Basel I in April 1992.The standards are almost entirely addressed to credit risk, the main risk incurred by banks. The document consists of two main sections, which cover A. the definition of capital and B. the structure of risk weights. Based on the Basle norms, the RBI also issued similar capital adequacy norms for the Indian banks. According to these guidelines, the banks will have to identify their Tier- I and Tier-II capital and assign risk weights to the assets. 1.1 Advantages of Basel I: Substantial increases in capital adequacy ratios of internationally active banks; Relatively simple structure; Worldwide adoption; Increased competitive equality among internationally active banks; Greater discipline in managing capital; A benchmark for assessment by market participants. 1.2 Weaknesses of Basel I: In spite of advantages and positive effects, weaknesses of Basel I standards eventually became evident: Capital adequacy depends on credit risk, while other risks (e.g. market and operational) are excluded from the analysis; In credit risk assessment there is no difference between debtors of different credit quality and rating; Emphasis is on book values and not market values; Inadequate assessment of risks and effects of the use of new financial instruments, as well as risk mitigation techniques.
2.0 Basel II:
On June 26, 2004, The Basel Committee on Banking Supervision released International Convergence of Capital Measurement and Capital Standards: A revised Framework, which is commonly known as Basel II Accord. Basel 1 initially had Credit Risk and afterwards included Market Risk. In Basel 2, apart from Credit & Market Risk; Operational Risk was considered in Capital Adequacy Ratio calculation. The Basel 2 Accord focuses on three aspects: 1. Minimum Capital Requirement 2. Supervisory Review by Central Bank to monitor banks capital adequacy and internal assessment process. 3. Market Discipline by effective disclosure to encourage safe and sound banking practices. 2.1 The Basel II Settlement has many advantages like: The credit institutions take into consideration the operational risk next to the credit risk and market risk;
The global risk approach;
The internal rating systems; A market discipline based on the transparency principle and a detailed reporting offering relevant, credible, opportune, comparable and comprehensible information; An increased competence for supervision authorities; The creation of a solid bank industry; contributes to the harmonization of bank practices between East and West Europe; An equitable bank competition; The three pillars represent a whole unit; 2.2 The implementation of Basel II Agreement has revealed its limits, like: The implementation implies high costs regarding the training of staff, IT, especially for countries in Central and East Europe; The discrimination between bank (small and large banks); Fewer loans for countries in the transitional period, especially for banks and companies with low rating; The increase of the bank concentration degree through fusions and acquisitions between banks in the system; The variation of interest based on the quality of the credit applicant.
3.0 Basel III:
Basel III guidelines were released in December 2010. The financial crisis of 2008 was the main reason behind the introduction of these norms. A need was felt to further strengthen the system as banks in the developed economies were undercapitalized, over-leveraged and had a greater reliance on short term funding. Also the quantity and quality of capital under Basel II were deemed insufficient to contain any further risk. These norms aim at making most banking activities such as their trading book activities more capital intensive. The purpose is to promote a more resilient banking system by focusing on four vital banking parameters viz. Capital, Leverage, Funding and Liquidity. 3.1 The Basel III Settlement has many advantages like: Higher Capital Requirement Basel III addresses both potential Short-term liquidity stress and longer-term structural liquidity mismatches in banks balance sheets. Supporting the proposal for adoption of an expected losses based measure of provisioning. Basel III requires banks to disclose all relevant details, including any regulatory adjustments, as regards the composition of the regulatory capital of the bank. 3.2 Weaknesses of Basel III: Requirement of additional CRAR between 2.5% to 5% Increased requirement of common equity share capital also.
4.0 Comparative Analysis Among Basel I, II, III:
Basel 1 Types of Risk Covered
Main tools of Risk Managemen t
Capital to Risk Weighted Assets Ratio (CRAR)
Ways of Calculation of Risk Weighted Assets and CRAR
*Simple but Standard *4 major risk categories of assets and risk weights according to it
Major Contributio n
First International Measure to cover banking risk
Limitations
Credit Risk Market Risk
Too simple to cover all risks Banks had to raise additional capital
Credit Risk Market Risk Operational Risk Liquidity Risk Counter Cycle Risk 1. CRAR 1.CRAR 2. Supervisory Review 2.Supervisory Review 3. Market Discipline 3.Market Discipline 4.Liquidity Coverage Ratio 5.Counter cycle Buffer 6.Capital Conservation Buffer 7.Leverage Ratio From Simple to Complex & flexible Same as Basel 2 but additional capital for Approach Capital Conservation Lesser Risk Weights in Complex & Contra Buffer Approaches Type of Method Method Method 3 Cyclical Buffer 1 2 Risk Credit Standard Foundati Advanced Risk ize on Internal d Internal Rating Approach Rating Based Based Market Standard Internal Model Risk ize Approach d Approach Operatio Basic Standard Advanced nal Indicator ized Measurement Approac Approach Approach Approach h 1. Covered Operational risk apart from credit 1. Covered & Operational risk apart market risk from credit & 2. Recognized differentiation & brought market risk flexibility 2. Recognized 3. Better asset quality helped banks to reduce differentiation & Capital Requirements brought flexibility 3. Better asset quality helped banks to reduce Capital Requirements 1. Additional Capital requirement for Op. Risk Requirement of 2. Higher capital requirement in stressed additional CRAR situation as asset quality reduces. Capital between 2.5% to 5% markets also dry at that time. Increased 3. High costs for up gradation of technology, requirement disclosure & information system of common equity 4. Increased supervisory review required in share capital also. case of advanced approaches 5. Subprime crises exposed the inadequate credit &
Minimum CRAR according to BCBS Minimum CRAR according to RBI Introductio n
CRAR= 8%
CRAR= 9%
1988: Credit Risk 1996: Market Risk
liquidity risk covers of banks
CRAR= 8% Tier 1= 4% CRAR= 9% Tier 1= 6% Common Equity= 3.6% GOI recommended CRAR for PSU= 12% 2004
CRAR= 10.5% TO 13%
Tier 1= 6% Common Equity= 4.5% CRAR= 11.5% Tier 1 = 7% Common Equity= 5.6% 2010
