Question

Question 4 (20 marks) (a) What is/are the goal and three pillars of the Basel III Accord? (10 marks) (b) National Bank has the following balance sheet (in millions) and has no off-balance sheet activities. Figures contained in the parenthesis represent the risk weights. Assets Cash (0) $20 Treasury bills (0) 40 Residential mortgages (0.5) 600 Liabilities and Equity Deposits $980 Subordinated debentures 25 Common stock Retained earnings 40 Total liabilities and equity $1,090 45 Business loans Total assets 430 $1,090 0 What is the Common Equity Tier 1 risk-based ratio? CH) What is the Tier I risk-based capital ratio? Cit) What is the total risk-based capital ratio? (iv) What is the leverage ratio? (W) In what capital risk category would the bank be placed? (2 mark) (2 mark) (2 mark) (2 mark) (2 mark)

Answer 1

The Basel III Guidelines are based upon 3 very important aspects which are called 3 pillars of the Basel II. These 3 pillars are Minimum Capital Requirement, Supervisory review Process and Market Discipline.

First Pillar: Minimum Capital Requirement

The first pillar Minimum Capital Requirement is mainly for total risk including the credit risk, market risk as well as Operational Risk .

Second Pillar: Supervisory Review Process

The second pillar i.e. Supervisory Review Process is basically intended to ensure that the banks have adequate capital to support all the risks associated in their businesses. In India , the RBI has issued the guidelines to the banks that they should have an internal supervisory process which is called ICAAP or Internal Capital Adequacy Assessment Process. With this tool the banks can assess the capital adequacy in relation to their risk profiles as well as adopt strategies for maintaining the capital levels. Apart from that, there is another process stipulated by RBI which is actually the Independent assessment of the ICAAP of the Banks. This is called SREP or Supervisory Review and Evaluation Process.The independent review and evaluation may suggest prudent measures and supervisory actions whatever is needed.

Third Pillar: Market Discipline

The idea of the third pillar is to complement the first and second pillar. This is basically a discipline followed by the bank such as disclosing its capital structure, tier-I and Tier –II Capital and approaches to assess the capital adequacy.In the above discussion, we could understand that the Basel II and forthcoming Basel III are basically guidelines which focus upon adequate capital in the banks and minimize the risk to the customers or depositors. The idea is to make a sound financial system which not only helps the banks and but the entire economy of the country to maintain the trust and faith, as transparency in the business. The centerpieces are “Capital Adequacy” and “Risks“.

Tire 1 Capital funds
Equity Share Capital	45
Retained Earnings	40
	85
Risk adjusted Assets	Amount	% Of Weighted Risk	Amount
Cash	20	0	0
Treasure Bills	40	0	0
Mortagage	600	0.50%	3
Business loans	430	100%	430
Risk adjusted Assets	433
Risk Weited Assets Ratio =	Capital Fund/risk adjusted assets*100
	19.63
tire 1 risk based capital ratio and total capital fund ratio are same because there is no tire ii capital fund.
Common Equity Tier 1 (CET1) is a component of Tier 1 capital that consists mostly of common stock held by a bank or other financial institution. ... It is expected that all banks should meet the minimum required CET1 ratio of 4.50% by 2019.
Levarage Ratio
The leverage ratio is the proportion of debts that a bank has compared to its equity/capital. There are different leverage ratios such as
Debt to Equity = Total debt / Shareholders Equity             =	(980+25)/(45+40)	11.8235294
Debt to Capital = Total debt / Capital (debt+equity)          =
(980+25)/((45+40)+(980+25))	0.922018349
Debt to Assets = Total debt / Assets                                         =	(980+25)/(1090)	0.92201835