From Basel 1 To Basel 3: The Integration Of State Of The Art Risk Modelling In Banking Regulation (finance And Capital Markets)

FROM BASEL 1 TO BASEL 3 This page intentionally left blank From Basel 1 to Basel 3: The Integration of State-of-the-Art Risk Modeling in Banking Regulation LAURENT BALTHAZAR © Laurent Balthazar 2006 All rights reserved. No reproduction, copy or transmission of this publication may be made without written permission. No paragraph of this publication may be reproduced, copied or transmitted save with written permission or in accordance with the provisions of the Copyright, Designs and Patents Act 1988, or under the terms of any licence permitting limited copying issued by the Copyright Licensing Agency, 90 Tottenham Court Road, London W1T 4LP. Any person who does any unauthorized act in relation to this publication may be liable to criminal prosecution and civil claims for damages. The author has asserted his right to be identified as the author of this work in accordance with the Copyright, Designs and Patents Act 1988. First published 2006 by PALGRAVE MACMILLAN Houndmills, Basingstoke, Hampshire RG21 6XS and 175 Fifth Avenue, New York, N. Y. 10010 Companies and representatives throughout the world PALGRAVE MACMILLAN is the global academic imprint of the Palgrave Macmillan division of St. Martin’s Press, LLC and of Palgrave Macmillan Ltd. Macmillan® is a registered trademark in the United States, United Kingdom and other countries. Palgrave is a registered trademark in the European Union and other countries. ISBN-13: 978-1-4039-4888-5 ISBN-10: 1-4039-4888-7 This book is printed on paper suitable for recycling and made from fully managed and sustained forest sources. A catalogue record for this book is available from the British Library. Library of Congress Cataloging-in-Publication Data Balthazar, Laurent, 1976– From Basel 1 to Basel 3 : the integration of state of the art risk modeling in banking regulation / Laurent Balthazar. p. cm.—(Finance and capital markets) Includes bibliographical references and index. ISBN 1-4039-4888-7 (cloth) 1. Asset-liability management—Law and legislation. 2. Banks and banking—Accounting—Law and legislation. 3. Banks and banking, International—Law and legislation. I. Title. II. Series. K1066.B35 2006 346 .082—dc22 2006043258 10 9 8 7 6 5 4 3 15 14 13 12 11 10 09 08 2 1 07 06 Printed and bound in Great Britain by Antony Rowe Ltd, Chippenham and Eastbourne Contents List of Figures, Tables, and Boxes ix Acknowledgments xiv List of Abbreviations xv Website xix Introduction 1 Part I 1 2 3 Current Banking Regulation Basel 1 5 Banking regulations and bank failures: a historical survey The Basel 1988 Capital Accord 5 16 The Regulation of Market Risk: The 1996 Amendment 23 Introduction The historical context Amendment to the Capital Accord to incorporate market risk 23 24 27 Critics of Basel 1 32 Positive impacts Regulatory weaknesses and capital arbitrage 32 33 Part II 4 Description of Basel 2 Overview of the New Accord Introduction Goals of the Accord Open issues Scope of application 39 39 39 40 41 v vi CONTENTS Treatment of participations Structure of the Accord The timetable Summary 5 Pillar 1: The Solvency Ratio Intr