Basel 3

1. What is the history behind the development of the Basel (I to II to III) accords?

The Basel Committee on Banking Supervision (BCBS) was established in 1974 by the Central-Bank Governors of the Group of Ten countries. The Committee's Secretariat is located at the Bank for International Settlements in Basel, Switzerland. In 1988, the first Basel Capital Accord or Basel I was completed. The purpose of established Basel I was to prevent international banks from building business volume without adequate capital backing. The main focus was on credit risk. This system provided the framework with a minimum capital ratio standard of 8 percent (Balthazar L. 2006). Basel I was criticized for taking too simplistic approach toward credit risk and for ignoring other types of risk. New Capital Framework or commonly known as Basel II was first used around 2007 as the replacement of Basel I. This framework aims to improve the sensitivity to different levels of asset and business risk. It consists of three pillars. The first pillar is capital adequacy that focus more on incorporates components of credit risk, operational risk, and market risk. It is still set at 8 percent of risk-weighted assets. Pillar 2 is the extension of supervisory reviews of an institution’s capital adequacy and internal assessment process. The last pillar is the effective use of market discipline. It aims to strengthen disclosure and encourage safe and sound banking practices (Balthazar L. 2006). Basel III guidance was issued by BCBS as a comprehensive response to the global credit crisis. If we combine Basel I and II, they cover most elements of Basel I. Basel III frameworks primary focus is on revised capital standards such as leverage ratios, stronger capital definitions, and systemic risk along with a new international framework for liquidity risk.

2. What key changes would be made to the regulatory capital base in Basel III, and how are these beneficial?

The global economic crisis has provided an...