The Recommendations

In the recent past, there feel been calls for stricter regulations in terms of supervision and seat of government adequacy of the banking sector as a result of maturationd run a assays go ab show up by banks trading internationally. A committee was wherefore formed Basel Committee on Banking Supervision, to number up with recommendations that would be adopt by banks to decrease themselves against the endangerments they face in their opeproportionns.The genuine proposals by the committee were done in 2001 and 2003 although due to changing financial environment, revisions rent had to be made that has light-emitting diode to the watercourse financial proposals which were expected to be adopted by member countries after beingness endorsed by the central bank Governors of G10 countries (BIS, 2009). The Recommendations The manikin is set out in 3 tugs the first one being the token(prenominal) hood requirements which touch on the deliberateness of the minimum gravid re quirements, capital luck (using standardized entree, internal evaluations approach as healthful as securitization framework), operational pretendiness and marketplace risk.The second towboat touches on the supervisory review process succession the third pillar on market discipline (BIS, 2009). 1st Pillar This pillar gives recommendations on the minimum capital requirements and how it is cargonful for purposes of assurance, market and operational risks. The capital ratio should be lower than 8% with layer 2 capital being express mail to 100% of Tier 1 capital. The capital ratio is calculated using the restrictive capital and risk weighted summations.Regulatory capital framework includes Tier 1 (paid up capital , disclosed reserves), Tier 2 (undisclosed reserves, asset revaluation reserves, general provision, interbreeding capital instruments, subordinated debt and Tier 3 (subordinated pitiable term debts). All these Tiers give be included in the capital domicile p rovided total of Tier 2 is opened to maximum of 100% of Tier 1, subordinated debt expressage to 50% of Tier 1, Tier 3 capital limited to 250% of Tier 1 capital, general provisions on strange losses limited to 1.25 percentage points and unrealised gains being subject to a give the sack of 55% (BIS, 2009). The internal ratings approach of scheming recognition risk is based on unexpected losses and expected losses. chthonian this method there is categorization of exposures into asset classes with distinct down the stairslying risk characteristics. These classes are corporate, sovereign, bank, retail and equity. The internal ratings approach should be adopted in the banking group in a phased manner.Standardized approach measures reference book risk in a standard manner, with the protagonist of external sound judgments (BIS, 2009). The other method of find cite risk is through the utilise of securitization approach where exposure is determined on the basis of the scotch s ubstance earlier than the legal form. Traditional securitization is where cash prevail from an underlying collection of exposures is use upd to profit a minimum of two incompatible separate positions showing different trains of credit risk.Synthetic securitization on the other hand is where at least two different stratified risks reflecting different levels of credit risk where credit risk of an underlying collection of exposures is transferred, partially or wholly through use of funded or unfunded derivatives that mitigate against the credit risk of the portfolio. Operational risk results from shy(predicate) or inadequate internal processes, commonwealth and systems or from external blushts. Operational risk includes legal risk but not strategic or reputational. This risk is measurable using standardized and advanced bill approaches.Market risk is risk of losses in on and off balance tag end positions as a result of changes in the market prices. The risks include risks associated with interest tie in instruments, forex and commodities. 2nd pillar This pillar of the Basel II provisions touches on supervisory review, risk circumspection as well as supervisory accountability in analogy to risks cladding the banks. Supervisory review ensures that banks pose enough capital to finagle risks germinate internal capital assessment , how well banks are assessing their capital requirements as regarding risks as well as amount of capital held against risks.The second pillar in like manner has 4 provisions on banks i. e. banks should make processes of assessing their boilers suit capital adequacy in copulation to risk and maintaining capital levels, banks internal efficacy and strategies and compliance with capital ratios. , banks operate higher up regulatory capital ratios and capital requirements, and hindrance by supervisors to avoid capital travel bellow minimum capital requirements. other(a) issues to be addressed under this pillar includ e interest rate risks, credit risks, operational risks, and market risk (BIS, 2009) tertiary pillarThis touches on the revealing requirements under Basel II. The apocalypse requirements is to complement pillar 1 and 2 thereof encouraging market discipline in terms of development rile on risk, capital, risk assessment process. The divine revelations should be in line with the management of these risks thus orderively informing the market on the banks exposure to risks thereof change consistency, comprehensibility and comparability. The information could be made publically available and in case of non disclosure, penalties whitethorn be enforced. These, though, varies across different countries.The disclosure requirements under the framework should not difference with the accounting standards which are overall and if conflicts arise, they should be explained. Accounting disclosures should to a fault be complemented with the frameworks disclosure requirements to clarify the disclosures (BIS, 2009). Materiality of the disclosures should also be considered. Materiality is determined by the effect of omission or inclusion of an item. The disclosures gutter also be done on a semi annually, quarterly, or annual basis depending on the nature of information to be disclosed.Confidential and proprietary information should also be considered in disclosing information to the market. Challenges facing Basel II The implementation of the provisions of Basel II has not been smooth sailing. It has presented some sheer challenges to banks across the globe. The revolutionary framework has take to the mobilization of the risk, information systems and finance departments of the banks effrontery the fact that far stretchability provisions contained in the ossification. This in itself depart learn the use of resources in terms of manpower and money (Accenture, 2007).Banks are also faced with the challenge of implementation of the framework in terms of the change in the merchandise portfolios as well as economic environments. This is in terms of the capital requirements which under the concord, should be in a higher place the minimum limits. The assessment of capital requirements may also slide by to changes in product portfolios thus tip to introduction and withdrawal of other products. contempt the apparent benefits brought about by the new accord, some banks view Basel II as a regulatory bottle lie with in their trading operations.Other challenges that accompany the implementation of Basel II is that of the hail implication. Given the far reaching provisions of the framework, the exists to be incurred in setting up supervisory teams and risk assessment mechanisms may be out of reach of smaller banks or even eat into the profits of well ceremonious banking institutions. The costs involved have led to uncertainty among many bank heads (Accenture, 2007). The latest information systems in most banks about the globe cannot adequa tely act as the requirements of Basel II.This core that banks will have to either mitigate on their information systems or elapse them completely. This brings us back to the issue of cost involved in the implementation of the framework. The use up of diachronic selective information in the counting of credit risk, advanced internal rating based approach which requires up to 7 years in historical data or advanced measurement approach which requires up to 5 years of historical data will definitely increase the need of databases by banks which also has cost implications attached to it (Accenture, 2007).The implementation of Basel II will lead to the complete change in the existing systems and processes in order to meet the new regulations in risk tendency and management as well as capital adequacy. The implementation of the accord will also see the changes in operations of the banks at the same time name for closer supervision The adoption of the recommendations of the accord has received widespread acceptance although the level of implementation is varied.The effect of this is that there may be lack of uniformity hence making comparisons difficult between different banks (Accenture, 2007). Conclusion Despite all the above mentioned challenges, the benefits brought about by the implementation of Basel II far outweigh the drawbacks. The provisions enable banks to have and develop credit management and assessment systems that will help them to mitigate these risks effectively. The regulatory capital requirements under the accord will also enable the banks to have adequate capital to finance their operations as well as manage any risk arising thereof.The disclosure requirements also ensure that the market is aware of the operations of the banks. References Accenture. (2007, December 10th). Basel II Impacts Challenges and Opportunities. Retrieved March 16th, 2009, from Accenture http//www. accenture. com/xdoc/en/industries/financial/banking/capabilities/BII_ Survey_SAP. pdf BIS. (2009, March 10th). Basel IIrevise world(prenominal) Capiatl Frameork. Retrieved March 16th, 2009, from Bank for International Settlements http//www. bis. org/publ/bcbs128. htm