Basel II – January 1st key date for many

New Years Day, 2008 is a holiday in the world’s banking centres – but for risk managers and financial directors in many countries it marks the start of increased requirements in the calculation of risk-based capital and risk management requirements.

The New Basel Capital Accord, Basel II for short, was finalised in 2005. It defines the amount of capital that a financial institution must hold against unforeseen circumstances and it calculates this by applying risk-weightings to the assets of a bank. It also demands new procedural standards in how banks monitor, assess, manage and report their risk situations. Broadly speaking, there are three ways of calculating capital – the simple approaches, known as the Basic and Standardised, and the complicated approaches, known as Advanced and Internal Ratings-Based.

Banks in the highly developed financial countries, Europe, Canada and many of the Asian centres, but excluding the USA, who adopted the simpler compliance came on board in 2007. This January sees the inclusion of those banks that will adopt the complex approaches.

Other countries are following the early adopters. Singapore went live last Tuesday as have Saudi Arabia, South Africa, Pakistan and Sri Lanka. The latter have only mandated the simpler approaches but have added a strong incentive by debarred banks from paying dividends to shareholders or repatriating profits until they comply.

In Britain, an early casualty of Basel II requirements has been a small institution, London Scottish Bank, whose shares crashed when it announced on New Year’s Eve that it would be unable to meet the new regulatory capital requirements and was expected to delay its final dividend. London Scottish said that the new requirements meant it had to hold “significantly more regulatory capital”, and that this, coupled with the impact of its unsecured sub-prime lending business, problems in raising inter-bank borrowings and increased impairment provisions, would result in a shortfall of regulatory capital of about £13m.