New Basel Capital Accord

SPECIFIC CAPITAL TREATMENT OF CREDIT RISK IN PILLAR 1Ernst & Young offers you competent, comprehensiveassistance in the development andimplementation of the new Pillar 1 capitalrequirements in your institution, taking fullaccount of the relevant supervisory framework.Foundation Internal RatingApproachWith the recognition of internal ratings,it will for the first time be possible touse banks’ own management and riskmeasurement methods to calculate thecapital charges for credit risk. In orderto achieve widespread application of theIRB Approach, the measurementmethods for quantitative risk componentsare restricted in the FoundationIRB Approach, in contrast to the AdvancedIRB Approach, to the probabilityof default (PD) in individual riskexposure classes. The other risk components,however, are prescribed.Collateral, credit derivatives and nettingagreements are taken into account in theresult as in the Standardized Approach.Advanced Internal RatingApproachIn the Advanced IRB Approach, banksalso have the option to apply their internallyestimated parameters to otherrisk components, with the exception ofresidual maturity. Thus in this model,which is more complex than the FoundationApproach, expected loss (EL) atthe time of default as well as expectedamount of claim at the time of default,for example, can be calculated specificallyfor each bank on the basis of thebank’s historical realized loss rates.Additionally, the range of eligible collateralis less restricted.Banks have to adhere to qualitative minimumrequirements to be able to use theAdvanced IRB Approach, however.Certain qualifying criteria shouldensure that the rating system and ratingprocess as well as risk components areadequate for each bank.Partial Use of the IRB Approach fora Limited PeriodFor a limited, transitional period bankswill be allowed to apply the IRBApproach to just a share of exposures.At the same time, however, the scopeand timing of partial use must beagreed with the supervisory authorityuntil full conversion to the IRBApproach in order to avoid the best alternativebeing "cherry picked" each time.ERNST & YOUNG – NEW BASEL CAPITAL ACCORD15