QUESTION 2

Explain what are the two concern areas and the reform measure under the Basel III reform package to reflect a bank as strong and have a global capital standard.

(25 marks)

Refer Unit 3.4 Capital Management The Basel Agreement on international bank capital standards; Page 36

You need to discuss the two areas capital and liquidity. In addition, the relevant reform measures for both. Discuss the key reform measures listed in Table 3.5.

Allocation of Marks:

25 marks Total

The Basel Agreement on international bank capital standards In September 2010, the Basel Committee on Banking Supervision (BCBS) endorsed Basel III which is a comprehensive set of reform measures that strengthen the regulation, supervision and risk management of the banking sector.' Generally, it strengthens global capital standards and introduces global standards for liquidity. Table 3.5 highlights the elements of the Basel III reform package: Areas Reform measures Capital Raise the quality, consistency and transparency of the capital base so that banks are better able to absorb losses on both a going concern and a gone concern basis. Strengthen capital requirements for counterparty credit risk exposures arising from derivatives and securities financing activities. Raise the level of minimum capital requirements, particularly for Tier-1 capital and common equity. Incentivise the conservation of capital through the build-up of capital buffers above the minimum requirement which can be drawn down by individual banks as losses are incurred. Promote the build-up of counter-cyclical capital buffers at the system level to protect the banking sector from periods of excessive credit growth and thus maintain the flow of credit in the economy during a downturn. Introduce a non-risk-based leverage ratio to reinforce risk-based requirements and constrain the build-up of leverage, thus mitigating the effects of excessive deleveraging in the banking system during distress periods. Liquidity - Introduce a Liquidity Coverage Ratio (LCR) to ensure that banks have sufficient high quality liquid resources to survive an acute stress scenario lasting a month. Introduce a Net Stable Funding Ratio (NSFR) to promote resilience over a longer-term horizon by creating incentives for banks to fund activities with more stable sources of funding on an ongoing basis. Table 3.5 Elements of the Basel III Reform Package Source: Bank Negara Malaysia (2010) Financial Stability and Payment Systems Report, p.69