Basel Norms /Accord:
- Basel accords are the set of international banking regulations issued by the Basel Committee on Banking Supervision from time to time.
- The goal of Basel norms is to coordinate banking regulations across the globe and strengthen the international banking system.
- As per the accord, bank's capital consists of Tier 1 capital and Tier 2 capital.
- 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.
BASEL I---
- BASEL 1 focused only on credit risk where credit risk is the possibility of a loss resulting from a borrower’s failure to repay a loan.
- BASEL 1 norms recommended for Banks to hold capital equal to 8% of their Risk-weighted assets (RWA) - At least, 4% in Tier I Capital and more than 8% in Tier I and Tier II Capital
- The target of BASEL 1 was to be achieved by 1992 .
- India adopted BSAEL 1 in 1999.
ISSUES with BASEL 1:
The problem was that the risk weights in BASEL 1 do not attempt to take account of risks other than credit risk,viz., market risks, liquidity risk and operational risks which can be major cause of insolvency exposure to the banks.
Basel II:
- Basel II was introduced in 2004
- It laid down guidelines for capital adequacy with refined definitions, risk management and disclosure requirements.
- Basel II attempts to integrate Basel capital standards with national regulations.
- Basel II attempts to create standards and regulations on how much capital financial institutions need to put aside.
- Banks need to put aside capital to reduce the risks associated with its investing and lending practices.
- It sought for use of external ratings agencies to set the risk weights for corporate, bank and sovereign claims.
Operational risk:
- Risk of loss resulting from inadequate or failed internal processes, people and systems or from external events.
- Risk can be legal including exposures to fines, penalties, or punitive damages resulting from supervisory actions, as well as private settlements.
Shortcoming in Basel II norms led to the Global Financial crisis of 2008.
Basel III:
- Basel II did not have any explicit regulation for the debt that banks could take on their books, and focused more on individual financial institutions, while ignoring systemic risk.
- To avoid short term excessive debt, Basel III norms were proposed in 2010.
- BASEL III focussed on four vital banking parameters viz. capital, leverage, funding and liquidity.
Liquidity Coverage Ratio(LCR):
- LCR require banks to hold a buffer of high quality liquid assets sufficient to deal with the cash outflows.
- The minimum LCR requirement will be to reach 100% on 1 January 2019. This is to prevent situations like "Bank Run".
Leverage Ratio > 3%:
Leverage ratio was
calculated by dividing Tier 1 capital by the bank's average total consolidated
assets;.
