Basel II preparedness: Challenges and opportunities
Alamgir Morshed
Banks are in the business of accepting and managing different types of risks. In order to limit the risk taking of banks within prudential levels, central banks all over the world require banks to maintain a minimum level of capital to cushion against unexpected losses arising from their investments. Basel II accord is one such directive which, unlike its predecessor Basel I, ensures that the capital set aside by a bank against its investments is more reflective of the inherent risks of its portfolio. In addition to measuring capital charge for credit risk of a bank's portfolio (as was required according to Basel I accord), Basel II requires the banks to set aside capital weighted for its portfolio's operational risk.Bangladesh Bank has taken a proactive approach in implementing Basel II for all banks in Bangladesh by January 1, 2009. The central bank in order to assess the preparedness of the banks in Bangladesh circulated a questionnaire earlier this year among the banks. From the responses of the banks, Bangladesh Bank has decided to undertake the standardised approach in the financial institutions from the beginning of 2009. In view of this implementation, the central bank has made credit rating mandatory for all banks. In order to ensure a gradual and smooth transition, they have recently informed the banks to maintain a minimum capital adequacy ratio of 10 percent (which is at present set at 9 percent) effective from January 1, 2008. To implement the new risk measures for capital charge, banks will now have to shift their focus from net profit to economic profit, i.e risk weighted return. The increased requirement for capital charge also encourages banks to look into quantifying risk, i.e. pricing for risk (setting a higher margin for financial products with higher risk). At present, the pricing for financial assets are only driven by the bank's cost of fund. The implementation requires a complete paradigm shift of credit culture in the market. The adoption of Basel II guidelines, hence will also produce new opportunities; motivating banks to focus more on non traditional financial assets, fee-based products, capital market products like bonds etc which offer an opportunity for the institutional investors to make investments and also divest when needed with greater ease. Growing the primary and secondary market for debt securities will play a crucial role in the development of the financial markets in Bangladesh and will also go a long way in helping the financial institutions to be able to manage their balance sheet more efficiently. Robust growth of the syndicated debt market is expected to continue as it also helps banks to diversify risks. The writer is an official of Standard Chartered Bank
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