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BASEL II
Objectives
          The objective of Basel II Capital
                      accord is:
1.       To promote safety and soundness in the
         financial system
2.       To continue to enhance completive equality
3.       To constitute a more comprehensive
         approach to addressing risks
4.       To render capital adequacy more risk-
         sensitive
5.       To provide incentives for banks to enhance
         their risk measurement capabilities
Basel II „three pillars”
     Basel three pillars
        Pillar I                    Pillar II                   Pillar III
 Minimum Capital              Supervisory                    Market Discipline
  Requirements               Review Process
Establishes minimum        Increases the                    Bank will be required to
standards for              responsibilities and levels of   increase their information
                           discretion for supervisory       disclosure, especially on the
management of capital
                           reviews and controls             measurement of credit and
on a more risk sensitive                                    operational risks.
                           covering:
basis:
                              • Evaluate Bank’s Capital
  • Credit Risk                 Adequacy Strategies         Expands the content and
  • Operational Risk          • Certify Internal Models     improves the transparency
  • Market Risk               • Level of capital charge     of financial disclosures to
                                                            the market.
                              • Proactive monitoring of
                                capital levels and
                                ensuring remedial action
The three pillars of Basel II and their
principles                                                                                                Objectives
                                                                                                        • Continue to
                                                    Basel II
                                                                                                          promote safety
                 Minimum capital              Supervisory review
                                                                                                          and soundness in
                                                                              Market disclosure           the banking
                  requirements                     process
            • How is capital adequacy      • How will supervisory        • W and how should
                                                                             hat
                                                                                                          system
              measured particularly for      bodies assess, monitor        banks disclose to external
Issue




              Advanced approaches?           and ensure capital            parties?                     • Ensure capital
                                             adequacy?
                                                                                                          adequacy is
                                                                                                          sensitive to the
            • Better align regulatory      • Internal process for        • Effective disclosure of:
              capital with economic risk     assessing capital in
                                                                                                          level of risks
                                                                            - Banks’ risk profiles
            • Evolutionary approach to       relation to risk profile       - Adequacy of capital
                                                                                                          borne by banks
              assessing credit risk        • Supervisors to review and
                                                                              positions
Principle




               - Standardised (external      evaluate banks’ internal                                   • Constitute a more
                                                                         • Specific qualitative and
                 factors)                    processes
               - Foundation Internal       • Supervisors to require
                                                                           quantitative disclosures       comprehensive
                                                                            - Scope of application        approach to
                 Ratings Based (IRB)         banks to hold capital in
               - Advanced IRB                                               - Composition of capital
                                             excess of minimum to                                         addressing risks
            • Evolutionary approach to       cover other risks, e.g.        - Risk exposure
              operational risk               strategic risk                   assessment
               - Basic indicator           • Supervisors seek to            - Capital adequacy
               - Standardised                intervene and ensure
               - Adv. Measurement            compliance                                                 • Continue to
                                                                                                          enhance
                      Pillar 1                     Pillar 2                        Pillar 3               competitive
                                                                                                          equality 4
Overview of Basel II Approaches
   (Pillar I)
                           Basic Indicator
                           Basic
                             Approach
                             Approach
                                                 Score Card
             Operational
                            Standardized
                            Standardized
                Risk          Approach
                              Approach
               Capital                        Loss Distribution

                              Advanced
                              Advanced
                            Measurement
                            Measurement       Internal Modeling
                           Approach (AMA)
                           Approach (AMA)



                            Standardized
                            Standardized
   Total       Credit         Approach
                              Approach
Regulatory      Risk
  Capital      Capital                          Foundation
                           Internal Ratings
                           Internal Ratings
                             Based (IRB)
                             Based (IRB)
                                                 Advanced


                               Standard
                               Standard
                                Model
                                Model
               Market
                Risk
               Capital         Internal
                               Internal
                                Model
                                Model
Credit risk
   Basel II approaches to Credit Risk
                       Evolutionary approaches to measuring Credit Risk under Basel II

                                                Internal Ratings Based (IR Approaches
                                                                          B)
     Standardised Approach                  Foundation                                Advanced

 • RW based on externally
       A                           • RW based on internal
                                         A                                 • RW based on internal
                                                                                 A
    provided:                        models for:                             models for
      – Probability of Default          – Probability of Default                – Probability of Default
        (PD)                              (PD)                                    (PD)
      – Exposure At Default        • RW based on externally
                                         A                                      – Exposure At Default
        (EAD)                        provided:                                    (EAD)
• Limited recognition of credit
      – Loss Given Default              – Exposure At Default                   – Loss Given Default
                                                                          • Internal estimation of
  risk mitigation & supervisory
        (LGD)                      • Limited recognition of credit
                                          (EAD)                                   (LGD)
                                                                             parameters for credit risk
  treatment of collateral and           – mitigation Default
                                     riskLoss Given &                       mitigation – guarantees,
  guarantees                              (LGD)
                                     supervisory treatment of               collateral, credit derivatives
                                     collateral and guarantees

                                   Increasing complexity and data requirement


                                                                                                           6
                                    Decreasing regulatory capital requirement
Solvency II versus Basel II
       Solvency
                                         Pillar 1               Basel II
           II
Minimum Capital Requirements:                  Minimum Capital Requirements:
 -Target and minimum solvency                   -Minimum acceptable capital levels.
capital requirement.
                                               -lntemal ratings-based (IRB)
- Minimum solvency capital depends on          approach to determining credit
the dollar value of policies written.          risk charge

- Calculation takes a risk-based                - Explicit treatment of operational
approach around assets. liabilities,           ("event") risk in capital
and underwriting information.                  calculations—3 approaches
                                               with increasing complexity.
=Target solvency capital typically the
same as economic risk capital to               - -Computation of capital charge.
cover disaster scenarios.
                                               -Credit risk—3 approaches with
                                               increasing complexity.

                                               ‘ -Operational Risk-3 approaches
                                               with increasing complexity.
Supervisory Review Process:
                                       ~ Banks assess their own solvency
                                       relative to risk profile.


     Solvency II versus Basel II
     Solvency                          Pillar 2                     Basel II
         II
Supervisory Review                                          Supervisory Review

Process:                                                   Process:
                                                            
 -Insurer supervisors monitoring the                       ~Banks assess their own solvency
amount of their existing capital.                          relative to risk profile.

 -improving cooperation and standardiza-                    -Supervisors review the bank's
tion among regulators across                               assessments and capital strategies
national borders.
                                                           - Banks hold capital in excess of
L -Assessment of internal controls,                        minimum requirements.
risk management, and segregation
of duties. stress testing of IT                            ° Regulators intervene at an
infrastructure and systems,                                early stage if capital levels
senior management capabilities,                            deteriorate.
and the balance between assets                              - Perspective of the supervisor.
and liabilities.
Solvency II versus Basel II
        Solvency                   Pillar 3             Basel II
             II
Disclosure and Market                      Disclosure   and Market
Discipline:                               Discipline:

-Improved public access to the              -Increased disclosure of capital
  insurer’s financial and risk            structure.
i management information.                 -Increased disclosure of risk me
                                          surement and management.
-Efforts to comply with accepted
best practice frameworks.                 -Increased disclosure of risk
                                          profile.
                                          - Increased disclosure of capital
                                          adequacy.

                                           - Qualitative and quantitative
                                          information in three general
                                          areas: corporate structure,
                                          capital structure and adequacy, and
                                          risk management.
  Thank You
Bonus:
http://www.youtube.com/watch?v=o2kGYUP7Vro

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Basel presentation

  • 2. Objectives  The objective of Basel II Capital accord is: 1. To promote safety and soundness in the financial system 2. To continue to enhance completive equality 3. To constitute a more comprehensive approach to addressing risks 4. To render capital adequacy more risk- sensitive 5. To provide incentives for banks to enhance their risk measurement capabilities
  • 3. Basel II „three pillars” Basel three pillars Pillar I Pillar II Pillar III Minimum Capital Supervisory Market Discipline Requirements Review Process Establishes minimum Increases the Bank will be required to standards for responsibilities and levels of increase their information discretion for supervisory disclosure, especially on the management of capital reviews and controls measurement of credit and on a more risk sensitive operational risks. covering: basis: • Evaluate Bank’s Capital • Credit Risk Adequacy Strategies Expands the content and • Operational Risk • Certify Internal Models improves the transparency • Market Risk • Level of capital charge of financial disclosures to the market. • Proactive monitoring of capital levels and ensuring remedial action
  • 4. The three pillars of Basel II and their principles Objectives • Continue to Basel II promote safety Minimum capital Supervisory review and soundness in Market disclosure the banking requirements process • How is capital adequacy • How will supervisory • W and how should hat system measured particularly for bodies assess, monitor banks disclose to external Issue Advanced approaches? and ensure capital parties? • Ensure capital adequacy? adequacy is sensitive to the • Better align regulatory • Internal process for • Effective disclosure of: capital with economic risk assessing capital in level of risks - Banks’ risk profiles • Evolutionary approach to relation to risk profile - Adequacy of capital borne by banks assessing credit risk • Supervisors to review and positions Principle - Standardised (external evaluate banks’ internal • Constitute a more • Specific qualitative and factors) processes - Foundation Internal • Supervisors to require quantitative disclosures comprehensive - Scope of application approach to Ratings Based (IRB) banks to hold capital in - Advanced IRB - Composition of capital excess of minimum to addressing risks • Evolutionary approach to cover other risks, e.g. - Risk exposure operational risk strategic risk assessment - Basic indicator • Supervisors seek to - Capital adequacy - Standardised intervene and ensure - Adv. Measurement compliance • Continue to enhance Pillar 1 Pillar 2 Pillar 3 competitive equality 4
  • 5. Overview of Basel II Approaches (Pillar I) Basic Indicator Basic Approach Approach Score Card Operational Standardized Standardized Risk Approach Approach Capital Loss Distribution Advanced Advanced Measurement Measurement Internal Modeling Approach (AMA) Approach (AMA) Standardized Standardized Total Credit Approach Approach Regulatory Risk Capital Capital Foundation Internal Ratings Internal Ratings Based (IRB) Based (IRB) Advanced Standard Standard Model Model Market Risk Capital Internal Internal Model Model
  • 6. Credit risk Basel II approaches to Credit Risk Evolutionary approaches to measuring Credit Risk under Basel II Internal Ratings Based (IR Approaches B) Standardised Approach Foundation Advanced • RW based on externally A • RW based on internal A • RW based on internal A provided: models for: models for – Probability of Default – Probability of Default – Probability of Default (PD) (PD) (PD) – Exposure At Default • RW based on externally A – Exposure At Default (EAD) provided: (EAD) • Limited recognition of credit – Loss Given Default – Exposure At Default – Loss Given Default • Internal estimation of risk mitigation & supervisory (LGD) • Limited recognition of credit (EAD) (LGD) parameters for credit risk treatment of collateral and – mitigation Default riskLoss Given & mitigation – guarantees, guarantees (LGD) supervisory treatment of collateral, credit derivatives collateral and guarantees Increasing complexity and data requirement 6 Decreasing regulatory capital requirement
  • 7. Solvency II versus Basel II Solvency Pillar 1 Basel II II Minimum Capital Requirements: Minimum Capital Requirements: -Target and minimum solvency -Minimum acceptable capital levels. capital requirement. -lntemal ratings-based (IRB) - Minimum solvency capital depends on approach to determining credit the dollar value of policies written. risk charge - Calculation takes a risk-based - Explicit treatment of operational approach around assets. liabilities, ("event") risk in capital and underwriting information. calculations—3 approaches with increasing complexity. =Target solvency capital typically the same as economic risk capital to - -Computation of capital charge. cover disaster scenarios. -Credit risk—3 approaches with increasing complexity. ‘ -Operational Risk-3 approaches with increasing complexity.
  • 8. Supervisory Review Process: ~ Banks assess their own solvency relative to risk profile. Solvency II versus Basel II Solvency Pillar 2 Basel II II Supervisory Review  Supervisory Review Process: Process:      -Insurer supervisors monitoring the ~Banks assess their own solvency amount of their existing capital. relative to risk profile. -improving cooperation and standardiza- -Supervisors review the bank's tion among regulators across assessments and capital strategies national borders. - Banks hold capital in excess of L -Assessment of internal controls, minimum requirements. risk management, and segregation of duties. stress testing of IT ° Regulators intervene at an infrastructure and systems, early stage if capital levels senior management capabilities, deteriorate. and the balance between assets - Perspective of the supervisor. and liabilities.
  • 9. Solvency II versus Basel II Solvency Pillar 3 Basel II II Disclosure and Market  Disclosure and Market Discipline: Discipline: -Improved public access to the   -Increased disclosure of capital insurer’s financial and risk structure. i management information. -Increased disclosure of risk me surement and management. -Efforts to comply with accepted best practice frameworks. -Increased disclosure of risk profile. - Increased disclosure of capital adequacy. - Qualitative and quantitative information in three general areas: corporate structure, capital structure and adequacy, and risk management.
  • 10.  Thank You Bonus: http://www.youtube.com/watch?v=o2kGYUP7Vro