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Basel II – Internal Ratings Based (IRB) Approach

This approach involves assigning risk weights based on the internal rating of the borrowers. The ratings exercise must fulfill certain criteria to the satisfaction of the regulator. There are two options available. They are Foundation approach and Advanced Approach. In the IRB approaches, the bank’s internal assessment of key risk parameters serves as the primary

Basel II – Standardised Approach for Credit Risk

This approach allows banks to measure credit risk in a standardized manner based on external credit assessments. Rating agencies try to capture risk sensitivity using ratings. The risk weights are inversely related to the rating of the counter party. A higher rating indicates lower risk. National supervisors ensure the External Credit Assessment Institution (ECAI) meet

Basel II – Capital Charge for Credit Risk

Credit risk is defined as the possibility of losses associated with reduction of credit quality of borrowers or counterparties. In a bank’s portfolio, losses arise from outright default due to inability or unwillingness of a customer or counterparty to meet commitments in relation to lending, trading settlements, or any other financial transaction. Alternatively, losses occur

Overview of Basel II Accord

The Basel Committee on Banking Supervision (BCBS) released the revised capital accord, also called, Basel II, on June 26, 2004. The document is called “International Convergence of Capital Measurement and Capital Standards: A Revised Framework”. The significant features of Basel II are:

Why Basel I (1988 Accord) Needed to be Replaced?

The rules of the original 1988 Accord are generally acknowledged to be flawed for various reasons, discussed below: Credit risk assessment under Basel I is not risk-sensitive enough. Capital need assessment under Basel I accord was not being able to differentiate between banks with lower risks and banks with higher risks. For example, exposure on

The 1988 Basel Accord (Basel I)

The 1988 Basel Accord, also known as Basel I, established minimum capital standards for the banking industry by linking the banks’ capital requirements to their capital exposures. Basel I primarily focused on credit risk. The credit exposures were divided into five categories that represented similar types of borrowers. Each category is tied to a specific