Basel 1 Accord
Overview
The Basel Committee on Banking Supervision is a committee of banking supervisors who collectively agree on a set of international standards for for bank capital,
liquidity and funding. These standards are non binding, however, they are generally followed by member countries. As part of the published standards, Basel produces
a set of formulas for managing bank risk. The formulas for calculating bank capital from a set of default models is available in the davinci library.
Credit Risk Capital
The first accord was released in 1988. It specified two requirements of banks.
First, the ratio of assets to capital had to be less than 20.
Second, banks were required to keep capital equal to at least 8% of risk weighted assets. Further,
the accord required that tier 1 capital comprise at least 50% of total capital.
Market Risk (1996 Amendment)
The 1996 amendment addressed the capital required for covering market risks that are associated with trading.
Bank trading assets are marked to market, meaning that the value on the books of the bank are adjusted on a daily
basis to account for the change in the price of assets that are actively traded on some market.
The credit risk capital charge continued to be applied to assets on the trading and bank book, except
- traded debt and equity securities
- commodities and foreign exchange
The amendment gave banks an option to use a (simple) standardized approach to calculating required capital,
which provided a formula for calculating capital on a security by security basis and summing. Or a bank
could use an internal model based approach that involved calculating a
value at risk measure.
The VAR measure was required to provide the loss on a 10 day horizon and a 99%
confidence interval.
(For further discussion, see
Hull)
