Bank for InternationalSettlements Established: May 1930 at Basel, Switzerland, after World War I. Founding Members: United Kingdom, France, Italy, Japan, Belgium, the United States and Germany. Function: Handling the collection, administration and distribution of annual reparations (~ $8bn over 59 years) from Germany to the Allies. Choice of Switzerland due to its position as an independent, neutral country; offering least exposure to undue influence from any of the major powers.
Organization Structure Inter-governmental organization, not accountable to any national government. Limited Liability Company, with share capital held by Central Banks / Monetary Authority of 60 countries.
Functions Bank for Central Banks and International Organizations. Forum for discussion and cooperation among central banks and the financial community. Promoting monetary and financial stability. Conducting research on policy issues confronting central banks and financial supervisory authorities.
Basel Committee on BankingSupervision (BCBS) Originally established by Central Bank Governors of G-10 nations in 1974. Currently has members from 27 nations (including India). Formulates broad supervisory standards & guidelines, and recommends them to individual authorities. Accordingly, it encourages international convergence towards common supervisory approaches & standards. Committee has no formal supranational supervisory authority & its conclusions do not carry legal force.
BCBS Publications 2010 2004 Basel 1988 Basel III II Basel I 1988 - International Convergence of Capital Measurement and Capital Standards. 2004 - Basel II: International Convergence of Capital Measurement and Capital Standards: A Revised Framework. 2010 - Basel III: A Global regulatory framework for more resilient banks and banking systems.
Basel I Consultative document prepared by G-10 nations in 1988. Aimed at i) strengthening the soundness and stability of international banks ii) diminishing competitive inequality among banks Designed to establish minimum levels of capital for internationally active banks. To be applied to banks on a consolidated basis
Basel I Focus on Credit Risk and Country Transfer Risk Country Transfer Risk incorporated by grouping countries in terms of riskiness
The Framework Capital for Capital RWAs safeguarding against risk Risk Weighting the bank’s loan book for quantifying risk Target Standard Ratio to stipulate minimum level of Capital required relative to Risk
Constituents of Capital Tier I- Core Capital Equity Capital Disclosed Reserves Tier II Tier II- Supplementary Capital Supplementa ry Capital Undisclosed Reserves (50%) Revaluation Reserves – a) Formal revaluation b) Latent Revaluation (55% Tier I discount) Core Capital General Provisions (50%) Hybrid Debt Capital Instruments Subordinated Term Debt (Limited to 50% of Tier I)
Deductions from Capital Goodwill deducted from Tier I Capital Investment in unconsolidated BFSI subsidiaries deducted from Total Capital. Investment in capital of other banks and financial institutions- At the discretion of national authorities.
Risk Weighting Direct Credit Exposures: Weighted Risk Weight Ratio used to relate capital to different categories of assets, weighted according to level of riskiness Contingent Exposures:Step I- Application of Credit ConversionFactor (CCF) to account for credit risk ofoff-balance sheet exposure (trade relatedtransactions/guarantees/derivatives)Step II- Weighted Risk Weight Ratio torelate capital to riskiness of exposure
Risk Weights (Direct CreditExposure) 0% 20% 50% 100% Claims on Pvt. Cash & Cash Claims on Banks Sector Equivalents inc. in OECD Claims on non- OECD banks, with loans above 1 yearClaims on Central Housing Loans Claims on non- Govt. & Central fully secured by Claims on MDBs OECD central Bank of home residential Govts. country property Premises, Plant & Equipment, other Claims on banks Fixed Assets Direct claims on outside OECD Central OECD, with loans Govts. & Banks All other Assets upto 1 year
CCF (Contingent Exposure) 0% 20% 50% 100% Transaction related Direct Credit contingent items Substitutes (eg. (eg. Performance Financial Bank Bank Guarantees) Guarantees) Credit Lines with maturity upto 1 Short-term selfyear, which can be liquidating trade unconditionally credits (eg. LCs) cancelled. Sale & Repurchase Credit Lines with agreements, where maturity above 1 Credit Risk is with year the Bank.
CCF (Derivatives) Choice between Current Exposure Method or Original Exposure Method CEM = Total Replacement Cost (MTM value of contracts) + Potential Future Exposure (related to notional principal amount and residual maturity) Residual Interest Rate Exchange Rate Maturity Contracts Contracts < 1 year Nil 1.0% > 1 year 0.5% 5.0%
Successes Implementation of the framework by all Basel committee members (except Japan) by 1992. Implementation by all countries (including India) by 1999.
Failures Coverage of only Credit Risk Regulatory Capital arbitrage by some banks, resulting in higher riskMethod I - Securitization of corporateloans and sale of least risky assets.Resultant portfolio is morerisky, however requires lesser capitalaccording to Basel IMethod II – Rolling forward short runnon-OECD bank debt instead of long