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BASEL NORMS
=> Basal Norms are the banking supervision and regulatory norms.
=> It is published by the Basel Committee on Banking Supervision (BCBS).
=> Basel Committee on Banking Supervision (BCBS) is a committee of banking supervisory authorities that was established by the central bank governors of a group of ten countries in 1985.
=> There are three versions of the Basel Norms like Basel I, Basel II and Basel III; they are called as Basel Accords.
=> Basel norms are widely used in the banking and financial sector across the world because of its effectiveness and usefulness.
Basel I
=> started in 1988.
=> Basel I was prepared mainly to handle the credit risk.
=> To reduce the credit risk, it has suggested the banks to hold some capital with them equal to some predefined percentage of all the risk weighted assets.
=> It defines capital and structure of risk weights for banks.
=> The minimum capital requirement was fixed at 8% of risk weighted assets (RWA).
=> India adopted Basel 1 guidelines in 1999.
Basel II
=> Basel II was introduced in 2004.
=> While Basel I had considered only the credit risk, Basel II has considered other risk factors as well and suggested international standard guidelines to guard all the banks against the same.
=> Basel II used three pillars to deal with all risk management for the banks. The three pillars are:-
- Minimum Capital Requirements :- Basel II has introduced two more risks along with credit risk to calculate the minimum capital requirement for the banks. They are Market risk and operational risks.
=> Market risks mainly deals with the market related issues and macro‐economic factors.
=> operational risk deals with the banking business functions operational and regulatory failures.
- Supervisory Review :- deals with the supervisory and regulatory part of the first pillar risk management processes. It provides the framework about how the central bank or the country regulator supervises and regulates different banks and their risk management processes.
- Market Discipline:- very much important to keep the financial and banking system stable and properly functioning.
Basel III
=> released in December, 2010.
=> deal with risk management aspects for the banking sector.
=> aim to Strengthen banks’ transparency and disclosures.
=> aim to Improve risk management and governance.
=> Basel III capital norms to be implemented by the financial year ending March 2019 .
Three Pillars of Basel 3
- Minimum Regulatory Capital Requirements based on Risk Weighted Assets :- Maintaining capital calculated through credit, market and operational risk areas .
- Supervisory Review Process: Regulating tools and frameworks for dealing with peripheral risks that bank face.
- Market Discipline: Increasing the disclosures that banks must provide to increase the transparency of banks
Important Facts related to BASEL 3
Ø Minimum Ratio of Total Capital To RWAs–10.50%
Ø Minimum Ratio of Common Equity to RWAs–4.50% to 7.00%
Ø Tier I capital to RWAs–6.00%
Ø Core Tier I capital to RWAs–5.00%
Ø Capital Conservation Buffers to RWAs–2.50%
Ø Leverage Ratio–3.00%
Ø Countercyclical Buffer–0% to 2.50%
Important Note :-
Under the Basel Accord, a bank’s capital consists of tier 1 capital and tier 2 capital, and the two types of capital are different. Tier 1 capital is a bank’s core capital, whereas tier 2 capital is a bank’s supplementary capital. A bank’s total capital is calculated by adding its tier 1 and tier 2 capital together.
=> Tier 1 capital consists of shareholders’ equity and retained earnings. Tier 1 capital is intended to measure a bank’s financial health and is used when a bank must absorb losses without ceasing business operations
=> Tier 2 capital is the secondary component of bank capital, in addition to Tier 1 capital, that makes up a bank’s required reserves. Tier 2 capital is designated as supplementary capital, and is composed of items such as revaluation reserves, undisclosed reserves, hybrid instruments and subordinated term debt.
