New Basel Capital Accord

Specific Capital Treatment of Credit Risk in Pillar 1In future, banks will be able to choosebetween three different methods ofcalculating capital charges for creditrisk: Standardized Approach, FoundationIRB Approach and Advanced IRBApproach. Based on Basel I in its methodology,the Standardized Approach usesratings from external rating agencies toset capital charges, while both internalrisk-based (IRB) approaches rely on thebank’s internal rating processes (todetermine risk weights).The choice of approach has a directinfluence on the level of capital chargesrequired.Standardized ApproachConsistent with the current approach,the Standardized Approach defines certainrisk weights for individual categoriesof credit exposures. Numerically,the current weighting rates 0%, 20%,50% and 100% will remain, with theaddition of a new weighting of 150%for higher-risk borrowers. To a largerextent than to date, banking supervisionwill recognize the securitizationinstruments used by banks, such ascollateral, guarantees, credit derivativesand netting agreements for on-balancesheet items. For the current risk groupsof sovereigns, banks and non-banks, riskweighting will mainly depend on theassessment of external rating institutionsor rating agencies. The respectivenational banking supervisory authoritiesare to review which agencies’ ratings forsupervisory risk weighting may be used.Claims on sovereigns will be weightedbetween 0% and 150% depending ontheir rating. Public sector claims in Germanywill continue to be weighted at0% in the Standardized Approach.Claims on non-central governmentpublic sector enterprises (PSEs) are tobe weighted as claims on banks. However,countries will have the right tochoose to treat them as sovereigns, suchthat the practice in Germany of 0%weighting for federal states and certainspecial funds may be retained.For claims on banks, Basel II proposesa right for national supervisors tochoose between two options. In the firstoption, the risk weighting will be directlylinked to the rating of the countrywhere the bank has its seat and then setone category higher. In the secondoption, the bank’s risk weighting will bedirectly determined by an externalrating.For claims on corporates, three newrisk weighting classes of 20%, 50% and150% will be introduced, dependent onexternal ratings, in addition to thecurrent weighting of 100%. As at present,claims will be weighted at 100%if an external rating is not available.Calculationof Credit RiskStandardizedApproachFoundationIRB ApproachAdvancedIRB Approach14 ERNST & YOUNG – NEW BASEL CAPITAL ACCORD