Back in September 2013 KPMG predicted that Basel 4 was emerging. Our predictions about leverage, challenges to internal models, and more severe stress tests have largely come true. Now, we have further significant proposed changes to capital standards.
The initial focus of Basel 3 was primarily on the numerator of the capital adequacy ratio – the quality (increasing emphasis on CET1 capital and harmonization of deductions from capital) and quantity (multiple buffers) of a bank’s capital. Changes to the denominator were confined to specific areas such as the risk weights on securitization and on counterparty credit risk in bilateral trades.
Over the last few years the Basel Committee has been working more comprehensively on the denominator of the capital ratio – a bank’s risk-weighted credit, market and operational risk exposures. The intention is clear: to introduce a revised set of standardised approaches, and to use these to constrain the extent to which banks can reduce their capital requirements through the use of internal models.
A key element of this work is a consultation document issued by the Basel Committee. The consultation period runs until 27 March 2015.
The main objectives are to make the standardised approach to credit risk more risk sensitive, more closely aligned (in terms of definitions and scope) to the internal ratings-based approach, and less reliant on external credit ratings.
The main proposals are to introduce a ‘risk drivers’ approach to some types of credit risk, with these risk drivers determining the standardised risk weights.
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