Basel committee & basel norms

BASEL COMMITTEE & BASEL NORMS

Submitted to:Prof. Ram Krishnan

Submitted by:Nishant HaranFPB1517/007Section-B

05/02/2023Property of Indus Business Academy. For Academy Purpose Only. 2

HISTORY OF THE BASEL COMMITTEE

• The breakdown of the Bretton Woods system of managed exchange rates in 1973 soon led to casualties.

• On 26 June 1974, West Germany's Federal Banking Supervisory Office withdrew Bankhaus Herstatt's banking licence after finding that the bank's foreign exchange exposures amounted to three times its capital.

• In October the same year, the Franklin National Bank of New York also closed its doors after racking up huge foreign exchange losses.


• Three months later, in response to these and other disruptions in the international financial markets, the central bank governors of the G10 countries established a Committee on Banking Regulations and Supervisory Practices.

• Later renamed as the Basel Committee on Banking Supervision.• The Committee was designed as a forum for regular cooperation between its

member countries on banking supervisory matters. • Its aim was and is to enhance financial stability by improving supervisory know how

and the quality of banking supervision worldwide.

HISTORY OF THE BASEL COMMITTEE


BASEL I: THE BASEL CAPITAL ACCORD

• Capital adequacy soon became the main focus of the Committee's activities.

• In the early 1980s, the onset of the Latin American debt crisis heightened the Committee's concerns that the capital ratios of the main international banks were deteriorating at a time of growing international risks.

• There was a strong recognition within the Committee of the overriding need for –• A multinational accord to strengthen the stability of the international banking system

and • To remove a source of competitive inequality arising from differences in national capital

requirements.


• A capital measurement system commonly referred to as the Basel Capital Accord (or the 1988 Accord) was approved by the G10 Governors and released to banks in July 1988.

• The Accord called for-• A minimum capital ratio of capital to risk-weighted assets of 8% to be implemented by the end

of 1992.

• Assets of banks were classified and grouped in five categories according to credit risk• 0% Ex: Bullion• 20% Ex: Mortgaged-Backed Securities• 50% Ex: Municipal Revenue Bonds• 100% Ex: Corporate Debt• Some assets given No rating

BASEL I: THE BASEL CAPITAL ACCORD


CAPITAL ADEQUACY RATIO (CAR)

• Expressed as a percentage of a bank's risk weighted credit exposures.

• The tier 1 capital ratio = tier 1 capital / all RWA

• The total capital ratio = (tier 1 + tier 2 + tier 3 capital) / all RWA

• CAR = Capital / Risk >= 8%

• Ratio is used to protect depositors and promote the stability and efficiency of financial systems around the world.


TOTAL CAPITAL

( AT LEAST 8% OF TOTAL

RISK-WEIGHTED

ASSETS)

TIER 1 CAPITAL• The book Value

of its stock + retained earnings

• At least 4% of total risk-weighted assets

TIER 2 CAPITAL• Loan-loss

reserves + subordinated debt.

TIER 3 CAPITAL• Include a greater

number of subordinated issues


BASEL II: THE NEW CAPITAL FRAMEWORK

• In June 1999, the Committee issued a proposal for a new capital adequacy framework to replace the 1988 Accord. This led to the release of the Revised Capital Framework in June 2004.

• Generally known as "Basel II", the revised framework comprised three pillars, namely: • Minimum capital requirements, which sought to develop and expand the standardised rules set

out in the 1988 Accord; • Supervisory review of an institution's capital adequacy and internal assessment process; and • Effective use of disclosure as a lever to strengthen market discipline and encourage sound

banking practices.


THE BASEL II FRAMEWORK

PILLAR 1: MINIMUM CAPITAL

REQUIREMENTS

PILLAR 3: MARKET

DISCIPLINE

PILLAR 2: SUPERVISORY

REVIEW

• Credit Risk• Market Risk• Operational Risk

• A guiding principle for banking supervision

Disclosure requirements


PILLAR 1: MINIMUM CAPITAL REQUIREMENTS

• The calculation of regulatory minimum capital requirements:

• Total amount of capital/(Total risk – Weighted assets ) >= 8%

• Definition of capital:• Tier 1 capital + Tier 2 capital + adjustments

• Total risk-weighted assets are determined by:• Multiplying the capital requirements for market risk and operational risk by 12.5.• Adding the resulting figures to the sum of risk-weighted assets for credit risk.


PILLAR 2: SUPERVISORY REVIEW

• Principle 1: Banks should have a process for assessing and maintaining their overall capital adequacy.

• Principle 2: Supervisors should review and evaluate banks internal capital adequacy assessments and strategies.

• Principle 3: Supervisors should expect banks to operate above the minimum regulatory capital ratios.

• Principle 4: Supervisors should intervene at an early stage to prevent capital from falling below the minimum levels.


PILLAR 3: MARKET DISCIPLINE

• The purpose of pillar three is to complement the pillar one and pillar two.

• Develop a set of disclosure requirements to allow market participants to assess information about a bank’s risk profile and level of capitalization.


BASEL III: INTERNATIONAL FRAMEWORK FOR LIQUIDITY RISK MEASUREMENT, STANDARDS AND MONITORING

• A new capital framework revises and strengthens the three pillars established by Basel II. The accord is also extended with several innovations, namely: • An additional layer of common equity• A countercyclical capital buffer• Proposals to require additional capital and liquidity to be held by banks whose

failure would threaten the entire banking system


KEY FEATURES

• Capital requirements

• Leverage ratio

• Liquidity Requirements


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Basel committee & basel norms

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