Basel Committee signals preference for simplified, standardised risk models
The Basel Committee on Banking Supervision plans to simplify the way banks assess the riskiness of their assets for regulatory capital purposes.The Committee's view is that the wide discretion given to banks under earlier versions of the Basel rules has created variability, making it hard to compare capital ratios and capital adequacy."This inherent complexity and lack of comparability erodes trust," said Bill Coen, secretary general of the Basel Committee.Speaking at the Australian Financial Review's Banking and Wealth Summit in Sydney yesterday, Coen said: "The current skew is to complexity. The benefits of simplicity and comparability have been undervalued. Simpler metrics are more robust."What this means in practice is that banks will have less discretion to use the internal risk measurement models they have developed and will have to rely more on standard models set by the regulator.Earlier this year the Committee provided an example of what it had in mind when it issued a consultation paper in which it set out proposals to remove the internal modelling approach to measuring the risk of bank and other financial institution portfolios, large corporate portfolios and equity portfolios. These would be subject to the standard approach.The paper said: "It is difficult for banks to obtain reliable estimates of the probability of default for low-default exposures. This is because the lower the likelihood of default the more observations a bank needs to produce a reliable estimate."Coen said: "The use of internal models to cover risk does not strike the right balance."On other issues, Coen said the appropriate level of minimum regulatory capital remained a central question and was factored into every policy question the Committee considered."We don't intend to significantly increase capital requirements further," he said.The Committee's future work program will focus on strengthening corporate governance, improving the quality of bank IT and implementing more effective stress testing regimes.On the issue of corporate governance, Coen said the Committee wanted to see more effective board oversight and more rigour in risk management.On IT, he said that during the financial crisis bank IT systems failed to support banks' measurement and management of risk.