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Unformatted text preview: ditional risks in the minimum capital ratio but also includes two additional areas, namely, the Supervisory Review Process and Market Discipline through increased disclosure requirements for banks. Thus, the Basel II framework rests on the following three mutually reinforcing pillars: Pillar 1: Minimum Capital Requirements — which prescribes a risk­sensitive calculation of capital requirements that, for the first time, explicitly includes operational risk in addition to market and credit risk. Pillar 2: Supervisory Review Process (SRP) — which envisages the establishment of suitable risk management systems in banks and their review by the supervisory authority. Pillar 3: Market Discipline — which seeks to achieve increased transparency through expanded disclosure requirements for banks. 02/23/13 Capital Adequacy Framework 55 Guidelines for the SREP of the RBI and the ICAAP of banks ICAAP The Basel II document of the Basel Committee also lays down the following four key principles in regard to the SRP envisaged under Pillar 2: Principle 1 : Banks should have a process for assessing their overall capital adequacy in relation to their risk profile and a strategy for maintaining their capital levels. Principle 2 : Supervisors should review and evaluate banks’ internal capital adequacy assessments and strategies, as well as their ability to monitor and ensure their compliance with the regulatory capital ratios. Supervisors should take appropriate supervisory action if they are not satisfied with the result of this process. Principle 3 : Supervisors should expect banks to operate above the minimum regulatory capital ratios and should have the ability to require banks to hold capital in excess of the minimum. Principle 4 : Supervisors should seek to intervene at an early stage to prevent capital from falling below the minimum levels required to support the risk characteristics of a particular bank and should require rapid remedial action if capital is not maintained or restored. 02/23/13 Capital Adequacy Framework 56 Guidelines for the SREP of the RBI and the ICAAP of banks ICAAP Thus, the ICAAP and SREP are the two important components of Pillar 2 and could be broadly defined as follows: The ICAAP comprises a bank’s procedures and measures designed to ensure the following: a) An appropriate identification and measurement of risks; b) An appropriate level of internal capital in relation to the bank’s risk profile; and c) Application and further development of suitable risk management systems in the bank. The SREP consists of a revie...
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