Basel II IRB Approach of Measuring Credit Risk Regulatory Capital

2016 ◽  
pp. 318-354
Author(s):  
Arindam Bandyopadhyay
Keyword(s):  
Credit Risk ◽  
Basel Ii ◽  
Regulatory Capital ◽  
Irb Approach

scholarly journals REGULATORY CAPITAL MODELING FOR CREDIT RISK

2015 ◽  
Vol 18 (05) ◽  
pp. 1550034 ◽  
Author(s):  
MAREK RUTKOWSKI ◽  
SILVIO TARCA
Keyword(s):  
Credit Risk ◽  
Banking Sector ◽  
General Setting ◽  
Capital Adequacy ◽  
Dependence Structure ◽  
Regulatory Capital ◽  
Loss Distribution ◽  
Portfolio Loss Distribution ◽  
Portfolio Loss ◽  
Irb Approach

The Basel II internal ratings-based (IRB) approach to capital adequacy for credit risk plays an important role in protecting the banking sector against insolvency. We outline the mathematical foundations of regulatory capital for credit risk, and extend the model specification of the IRB approach to a more general setting than the usual Gaussian case. It rests on the proposition that quantiles of the distribution of conditional expectation of portfolio percentage loss may be substituted for quantiles of the portfolio loss distribution. We present a more compact proof of this proposition under weaker assumptions. Then, constructing a portfolio that is representative of credit exposures of the Australian banking sector, we measure the rate of convergence, in terms of number of obligors, of empirical loss distributions to the asymptotic (infinitely fine-grained) portfolio loss distribution. Moreover, we evaluate the sensitivity of credit risk capital to dependence structure as modeled by asset correlations and elliptical copulas. Access to internal bank data collected by the prudential regulator distinguishes our research from other empirical studies on the IRB approach.

Cross organizational standardized business process integration and its application in Saudi Arabian banking system regulation: A case study of advanced IRB regulation

2016 ◽  
Vol 6 (1) ◽  
Author(s):  
Hisham Al Saghier ◽  
Abdulrahman Alrabiah
Keyword(s):  
Financial Crisis ◽  
Credit Risk ◽  
Business Process ◽  
Global Economy ◽  
Banking Sector ◽  
Reporting System ◽  
Current System ◽  
Basel Ii ◽  
Business Rules ◽  
Irb Approach

The idea for this paper came after the recent financial crisis, its global consequences and specifically how it affected the banking sector. Financial institutions and regulators are – from a technical point of view - not fully integrated and automated yet. The inaccuracy in banks’ data and the long set interval period, quarterly, to send the information to the regulators leads to delays interventions by local supervisory regulators. Most of the banks are using an Internal Ratings Based (IRB) approach that allows them to use their own methods to calculate the credit risks, which makes it difficult for the regulators to verify and validate the banks’ data without adopting fully automated connectivity for the regulatory reporting system through sophisticated tools. The importance of this issue, for the central banks as well as the global economy, encourages us to investigate and to find solutions for the problem at hand. This paper is focused on the Advanced Internal Ratings Based (A-IRB) approach to evaluate credit risk due to the importance and the sensitivity of this approach on the banking sector. The flexibility of the A-IRB approach allow banks to use their own method to calculate the credit risk without regulators having the right tools to validate the data is a major issue . The second issue with the A-IRB approach is that the report is only delivered quarterly to the regulator (SAMA). This period is too long as decisions can be taken based on data that is almost a quarter old. Therefore, evaluating the existing framework and solving the issues concurrently is essential to improve the regulatory reporting system. To examine the situation of the regulatory reporting system, first, we reviewed literature on the Basel II&III regulations and the financial crisis, including impacts and responses. The second, we reviewed   factors impeding the implementation of Basel II&III, including solutions to increase coordination and integration and a holistic approach that can mitigate the outstanding issues for the Regulatory Reporting System for the local banks in Saudi Arabia. We also evaluated the current system and the proposed system in two workshops and found that the proposed system showed considerable improvements of more than 100% in some areas and hence should be implemented. Our result is a framework solution that integrates a private cloud computing network with automated and integrated features such as a Business Process Manager, a Knowledge Management Engine, a SLA Lifecycle Manager, a Business Rules Engine and a Data Quality Regulator and the Enterprise Service Bus for communication and integration between the banks and SAMA. Keywords: Business Process, Business Rules, Bank Management

scholarly journals Credit Risk Factor Modeling and the Basel Ii IRB Approach

2003 ◽  
Author(s):  
Alfred Hamerle ◽  
Thilo Liebig ◽  
Daniel Roesch
Keyword(s):  
Risk Factor ◽  
Credit Risk ◽  
Basel Ii ◽  
Factor Modeling ◽  
Irb Approach

Improving regulatory capital allocation: a case for the internal ratings-based approach for retail credit risk exposures

2021 ◽  
Vol ahead-of-print (ahead-of-print) ◽  
Author(s):  
Robert Stewart
Keyword(s):  
Credit Risk ◽  
Capital Allocation ◽  
Basel Iii ◽  
Data Sets ◽  
Regulatory Capital ◽  
Content Type ◽  
Retail Credit ◽  
Current Design ◽  
Credit Data ◽  
Irb Approach

Purpose The purpose of this study is to demonstrate that the internal ratings-based (IRB) approach provides more effective risk discrimination than the standardized approach when calculating regulatory capital for retail credit risk exposures. Design/methodology/approach The author uses four retail credit data sets to compare regulatory capital appropriation using the IRB approach and the standardized approach. The author follows the regulatory capital calculation method recommended under Basel III. For the IRB approach, the author uses a logistic regression to determine the probability of default. Findings The results suggest that the IRB approach provides more effective risk discrimination across individual exposures, which allows more regulatory capital to be held against riskier exposures and less regulatory capital to be held against less risky exposures. The author further argues that the Basel III output floor, as presently constructed, may disincentivize the use of the IRB approach and further diminish the value of secured lending under the IRB approach. To address this issue, the author offers two simple adjustments to the current design of the output floor. Originality/value While studies have argued the idea of risk-sensitive regulatory capital, the author has not observed any research that empirically compares the risk-sensitivity of regulatory capital across retail credit exposures, which makes up a significant portion of many banks’ credit exposures. This study also highlights what appears to be a major point of concern for the output floor, which is set to be phased in starting January 2022. This is of particular value because this point has not appeared to receive any attention in the literature thus far.

scholarly journals A Critical Review Of The Basel Margin Of Conservatism Requirement In A Retail Credit Context

2017 ◽  
Vol 16 (4) ◽  
pp. 257-274 ◽  
Author(s):  
Riaan De Jongh ◽  
Tanja Verster ◽  
Elzabe Reynolds ◽  
Morne Joubert ◽  
Helgard Raubenheimer
Keyword(s):  
Risk Factor ◽  
Financial Institutions ◽  
Basel Ii ◽  
Probability Of Default ◽  
Regulatory Capital ◽  
Loss Given Default ◽  
Asymptotic Risk ◽  
Retail Credit ◽  
Complex Models ◽  
Irb Approach

The Basel II accord (2006) includes guidelines to financial institutions for the estimation of regulatory capital (RC) for retail credit risk. Under the advanced Internal Ratings Based (IRB) approach, the formula suggested for calculating RC is based on the Asymptotic Risk Factor (ASRF) model, which assumes that a borrower will default if the value of its assets were to fall below the value of its debts. The primary inputs needed in this formula are estimates of probability of default (PD), loss given default (LGD) and exposure at default (EAD). Banks for whom usage of the advanced IRB approach have been approved usually obtain these estimates from complex models developed in-house. Basel II recognises that estimates of PDs, LGDs, and EADs are likely to involve unpredictable errors, and then states that, in order to avoid over-optimism, a bank must add to its estimates a margin of conservatism (MoC) that is related to the likely range of errors. Basel II also requires several other measures of conservatism that have to be incorporated. These conservatism requirements lead to confusion among banks and regulators as to what exactly is required as far as a margin of conservatism is concerned. In this paper, we discuss the ASRF model and its shortcomings, as well as Basel II conservatism requirements. We study the MoC concept and review possible approaches for its implementation. Our overall objective is to highlight certain issues regarding shortcomings inherent to a pervasively used model to bank practitioners and regulators and to potentially offer a less confusing interpretation of the MoC concept.

scholarly journals Credit Risk Management of Property Investments through Multi-Criteria Indicators

Risks ◽  
2021 ◽  
Vol 9 (6) ◽  
pp. 106
Author(s):  
Marco Locurcio ◽  
Francesco Tajani ◽  
Pierluigi Morano ◽  
Debora Anelli ◽  
Benedetto Manganelli
Keyword(s):  
Real Estate ◽  
Credit Risk ◽  
Risk Index ◽  
Capital Requirements ◽  
Basel Iii ◽  
Participatory Process ◽  
Regulatory Capital ◽  
The Real Estate ◽  
Financial Variables ◽  
Synthetic Index

The economic crisis of 2008 has highlighted the ineffectiveness of the banks in their disbursement of mortgages which caused the spread of Non-Performing Loans (NPLs) with underlying real estate. With the methods stated by the Basel III agreements, aimed at improving the capital requirements of banks and determining an adequate regulatory capital, the banks without the skills required have difficulties in applying the rigid weighting coefficients structures. The aim of the work is to identify a synthetic risk index through the participatory process, in order to support the restructuring debt operations to benefit smaller banks and small and medium-sized enterprises (SME), by analyzing the real estate credit risk. The proposed synthetic risk index aims at overcoming the complexity of Basel III methodologies through the implementation of three different multi-criteria techniques. In particular, the integration of objective financial variables with subjective expert judgments into a participatory process is not that common in the reference literature and brings its benefits for reaching more approved and shared results in the debt restructuring operations procedure. Moreover, the main findings derived by the application to a real case study have demonstrated how important it is for the credit manager to have an adequate synthetic index that could lead to the avoidance of risky scenarios where several modalities to repair the credit debt occur.

Credit Default Swaps and Bank Regulatory Capital*

2020 ◽  
Author(s):  
Chenyu Shan ◽  
Dragon Yongjun Tang ◽  
Hong Yan ◽  
Xing (Alex) Zhou
Keyword(s):  
Credit Risk ◽  
Credit Default Swaps ◽  
Unintended Consequences ◽  
Government Support ◽  
Regulatory Capital ◽  
Credit Default ◽  
Capital Ratios

Abstract While credit default swaps (CDSs) can be used to hedge credit risk exposures or to speculate, we examine another use of them: banks buy CDS referencing their borrowers to obtain regulatory capital relief. Such capital relief activities have unintended consequences, as banks extend riskier loans when they buy CDS to boost capital ratios. While capital-induced CDS-user banks achieve higher profitability during normal times, they perform worse and request more government support in crisis periods than other banks that use CDS for trading or speculation. Our findings suggest that banks’ CDS trading for capital relief purposes may make these banks riskier.

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