BASEL II and IAS 39: An Overview

Basel II

Basel II is a proposal that is planned to become a worldwide banking regulation in 2006. The (very simplified) gist of it is that

• Instead of Banks having to fund a flat 8% of every credit exposure from shareholder capital, the amount of capital can be dependent on the nature of the credit risk and the quality of the Bank’s risk management system.
• Capital has to be set aside for Operational Risk (currently it is not).
• New Supervisory and reporting regimes will be implemented.

The key impact on an individual bank is that the amount of capital (share holder funds) needed can be substantially different from that required today, either more or less, to the tune of £Bns for a UK clearing bank. This clearly has a huge implication for return on capital. The other major impact is that banks are expected to significantly improve their risk management processes and systems to minimise the capital required, which is what the regulators really want.

This months edition provides two reports that are specifically designed to help you understand the new regulations and begin to assess the likely impact on a Bank's systems.

1. For a more detailed explanation of Basel II see Report 2.1: What is Basel II?
2. For an analysis of the impact on Business Operations and IT Systems see Report 2.3: MI Systems Architecture Implications of Basel II and IAS 39

IAS 39

IAS 39 is an international accounting standard that is planned to become law in 2005. The gist of it is that

• Banks (and non banks) will have to record lots of financial instruments, in particular many kinds of derivatives, in their balance sheets that currently do not appear.
• Most of the new balance sheet items will have to be valued at “market price”, and indeed many items that currently appear in balance sheets at historic “cost” will also have to be “marked to market”.

The key impact will be a major set of changes to the statutory Financial reporting systems of a bank. It is the opinion of the editors that there is some overlap with the Basel requirements as far as a bank’s systems are concerned.

Report 2.2: What is IAS 39? provides further details about IAS 39

Report 2.3: MI Systems Architecture Implications of Basel II and IAS 39 analyses the likely impact of IAS 39 on Business Operations and IT Systems.