Chapter 7: Basel II: Operational Risk and Corporate Culture
Benton E. Gup BASEL II The New Basel Capital Accord (hereafter called Basel II) replaces the 1988 Capital Accord (Basel I). Whereas Basel I has a simple one size ﬁts all 8 percent capital standard for banks, Basel II is very complex; and is targeted primarily at large complex ﬁnancial organizations (LCFOs). By deﬁnition, LCFOs are internationally active. ABN-Amro, Citigroup, and HSBC are examples of LCFOs. The major diﬀerence between the two capital accords is that Basel II provides for more ﬂexibility and risk sensitivity than Basel I ‘to promote adequate capitalization of banks and to encourage improvements in risk management’. Basel II1 consists of three mutually reinforcing pillars: Pillar 1– minimum capital requirements, Pillar 2 – supervisory review process, and Pillar 3 – market discipline. As shown in Equation 7.1, Pillar 1 retains the current deﬁnition of capital and the minimum 8 percent requirement in the numerator. In the denominator, the measures for credit risk are more complex than Basel I, market risk is the same, and operational risk is new. This chapter focuses on operational risk. Total Capital (definition unchanged) Ն 8% maximum Credit risk ϩ Market risk ϩ Operational risk capital ratio (7.1) The United States, will have a ‘bifurcated regulatory capital framework’, where the rules involving advanced measures of credit risk and operational risk will only apply to about ten LCFOs. Other banking organizations can ‘opt in’ to applying the new rules, while the remaining banks will continue to apply the existing capital rules.2 The aﬀected LCFO...
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