Lecture 6 Flashcards
What and how did Basel 2.5 tried to fix?
Smooth procyclicality and limiti regulatory arbitrage between trading and investing through: Stressed VaR(forward looking), Incremental Risk Change (IRC) (for assets held for trade) and Comprehensive Risk Measure (CRM) (for assets exposed to correlation risk)
Goals of Basel 3
Increase the quality of capital required (more Tier 1 capital)
Increase capital requirements
Reduce procyclicality
What is the Capital Conservation Buffer?
Extra requirements (extra 2.5%) applied during normal times. Equity: 7% of RWA, Tier 1: 8.5% of RWA and Tier 1 + 2 : 10.5% of RWA
If banks fo below these requirements:
They cannot pay bonuses
They cannot buy back assets
Need to retain a % of thei earnings instead of paying dividends
It is a global buffer
What is the Countercyclical Buffer?
Second extra buffer (CCyB) if systemic risk is increased .
Equity: 7% + CCyB of RWA
Tier 1: 8.5% + CCyB of RWA
Tier 1&2: 10.5% + CCyB of RWA
This buffer applies based on the bank’s country
When systemic risk increases-> CCyB increases and decreases when crisis occurs
What is the extra buffer?
Extra buffer for global systemically important financial institutions (G-SIFI) extra requirements apply, called “Total
Loss Absorbing Capacity (TLAC)” requirements.
What is leverage ratio?
Banks need to have a minimum Tier 1 accoriding to how risky assets they hold
Tier 1 / Total exposure > 3%
For G-SIFIs this is plus the 50%CET1 requirements
it limitis: model error. measurement error, regulatory arbitrage
(-) incentive to increase risk
What is the Liquidity Coverage ratio?
Like narrow banking, banks need to have enough liquidity to cover the payments for the next month
When does a haircut apply?
A haircut applies for level 2 assets. Equity has a big haircut because its market value is very low.
How much outflow is needed?
Net cash outflows need to be at least 25% of outflow, you dont’t just want positive Inflow-outflow
Describe operational risk with the standardized approach.
Operational risk = ILM * Σai * BIi
It takes into account historical losses
BI (Basic Indicator): 3-year average of operational “revenues” for the bank
ai : Only depend on the size of business unit
ILM (Internal Loss Multuplier): depends on the size of operational risk exposure and how large were the operational losses a banks has faced the last decade (LC)
For small banks ILM always =1
Market risk according to Basel 3.
Expected Shortfall (ES): Average losses in worst case scenario
