2016/10/3 Basel Accord Basel Accord il · Basel i framework · Basel! Framework Capital Accord in 1988 established minimum The new capital accord released in June 2004 capital standard designed to protect against credit Formalized in 2006 The 1996 Amendment broadened the scope to Three"pillars"in Basel ll include market risk in calculating capital In 1998 the Committee discussed the importance Supervisory review of capital adequacy of operational risk as a substantial financial factor In 2001 guidelines on managing operational risk Market discipline through public disclosure Capital Requirements Capital Requirements Risk-Based Capital Guidelines Assets are classified in 4 types according to their risk Capital (asset)requirement provides buffer for ach is allocated a credit risk weigh commercial banks when market reverses afe assets do not require buffer in the market Safe assets preserve value in the downturn, while risky assets lose value and faster Risky assets depreciate more and need more buffer, Risk-based capital means the average value that and should be applied higher weights can be lost in severe market reverses The weighted average is the risk-based capital (or required to deal with the value loss Capital Requirements Capital Requirements Example of Assets Included U.S. Treasur Capital required is defined as Tier I and Tier ll capital. cked securities issued by the Goernment National Tier 1(Core Capital)includes common stock, certain preferred stock, and minority interest. Mortgage Corporal on or the Federal National Mortgage Tier 2(Supplementary Capital )includes loan-loss eserve, certain preferred stock, perpetual debt hybrid capital instruments, and subordinated debt. 0% mortgages Minimum requirements are established as 4% for Tier Do you need 100% cover of the risk-based capital?2016/10/3 2 Basel Accord I • Basel I Framework – Capital Accord in 1988 established minimum capital standard designed to protect against credit risk – The 1996 Amendment broadened the scope to include market risk in calculating capital – In 1998 the Committee discussed the importance of operational risk as a substantial financial factor – In 2001 guidelines on managing operational risk published 2-7 Basel Accord II • Basel II Framework – The new capital accord released in June 2004 – Formalized in 2006 • Three “pillars” in Basel II – Minimum risk-based capital requirements – Supervisory review of capital adequacy – Market discipline through public disclosure 2-8 Capital Requirements • Risk-Based Capital Guidelines – Capital (asset) requirement provides buffer for commercial banks when market reverses. – Safe assets preserve value in the downturn, while risky assets lose value more and faster – Risk-based capital means the average value that can be lost in severe market reverses. – A certainty amount of safe assets should be required to deal with the value loss. 2-9 Capital Requirements • Assets are classified in 4 types according to their risk. • Each is allocated a credit risk weight. • Safe assets do not require buffer in the market downturn as they depreciate little. • Risky assets depreciate more and need more buffer, and should be applied higher weights. • The weighted average is the risk-based capital (or risk-weighted assets). 2-10 Capital Requirements Do you need 100% cover of the risk-based capital? 2-11 Capital Requirements • Capital required is defined as Tier I and Tier II capital. • Tier 1 (Core Capital) includes common stock, certain preferred stock, and minority interest. • Tier 2 (Supplementary Capital) includes loan-loss reserve, certain preferred stock, perpetual debt, hybrid capital instruments, and subordinated debt. • Minimum requirements are established as 4% for Tier I and 8% for total (Tier I and Tier II). 2-12