New liquidity regulation, notwithstanding its good intentions, is another likely candidate to increase bank incentives to exploit regulation.

The Basel I Accord, issued in 1988, has succeeded in raising the total level of equity capital in the system.

The accords are obscure to people outside banking, but they are the backbone of the financial system. A risk-based capital requirement ensures financial institutions have enough capital to sustain operating losses while maintaining an efficient market. Criteria of Rating Systems to be documented and have the ability to differentiate risk, predictive and discriminatory power.

Principle 3:  Supervisors should expect banks to operate above the minimum regulatory capital ratios and should have the ability to require banks to hold capital in excess of the minimum.

The accord recognizes three big risk buckets: credit risk, market risk, and operational risk.

It also provides a framework for dealing with systemic risk, pension risk, concentration risk, strategic risk, reputational risk, liquidity risk and legal risk, which the accord combines under the title of residual risk. It is also called Foundation Internal ratings Based Approach. Bank’s overall Credit Risk management practices must be consistent with the sound practice guidelines issued by the Basel committee and the National Supervisor.

The upside for banks that do develop their bespoke risk measurement systems is that they will be rewarded with potentially lower risk capital requirements. Banks must hold capital against 8% of their assets, after adjusting their assets for risk.

In addition, many banks routinely securitize. Its goal is to better align the required regulatory capital with actual bank risk.

Market discipline is based on enhanced disclosure of risk. [13], In response to a questionnaire released by the Financial Stability Institute (FSI), 95 national regulators indicated they were to implement Basel II, in some form or another, by 2015.[14].

Roughly, a more advanced approach relies more on a bank's internal assumptions.

Our model builds on two strands of the literature: • Corporate finance models `a la Leland and Toft (1996) and Ericsson (2000), who

These regulations aimed to ensure that the more significant the risk a bank is exposed to, the greater the amount of capital the bank needs to hold to safeguard its solvency and overall economic stability. If the assets decline in value, the equity can quickly evaporate.

Many of the problems are inevitable: The agreement tries to coordinate bank capital requirements across countries and across bank sizes. This delays implementation of the accord for US banks by 12 months.

This may be an important pillar due to the complexity of Basel. For a traditional bank, assets are loans and liabilities are customer deposits. A more advanced approach will also generally require less capital, but most banks will need to transition to more advanced approaches over time.

This will help the market participants to assess the information on capital, risk exposures, risk assessment processes and capital adequacy of the bank.

The Basel Accord is a set of agreements on banking regulations concerning capital risk, market risk, and operational risk.



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