Credit and Market Risk

Credit and Market Risk

Introduction

This assignment shall provide an insight to the BASEL III that has been setup by the Basel Committee on Banking Supervision. The sole aim of this paper is to discuss that how risk can be measured and minimized considering the past financial turmoil due to no precautions against risk. Credit Risk and Market risk are the prime source that needs great attention in order to manage and regulate the financial structure.

Overview

The global financial crisis was triggered in 2006 due to turning down of housing market in United States. Various designed subprime mortgages had a balloon interest payment that implied that mortgage would be refinanced within a short span in order to avoid the drastic increase in the mortgage rate Acharya, et.al (2009).

Since then, financial crisis has made the banking supervisory authorities to make substantial changes in the approaches and methods of implementation of its mandate. In October 2007, the Finance Ministers and Central Bank Governors Group of Seven (G7) assigned the task to the Financial Stability Forum, where Financial Stability Board (FSB) analyzed the causes and weaknesses that led to the crisis. After examining, FSB proposed a set of recommendations aimed at improving the stability of the banking system. The Basel Committee on Banking Supervision has transformed all the recommendations in the new FSB consultative document Global regulatory standards to enhance the stability of banks and banking systems. It was approved at the G20 summit in Seoul in November 2010 and after the changes in 2011, which is called Basel III (ey.com, n.d).

The principal provisions of this document include the account in the calculation of the capital adequacy of all potential risk positions, including positions on derivative financial instruments, improving the quality of the capital structure, including credit and market risk management methods, such as VAR, Monte Carlo Simulation, stress testing and others. Further, Basel III has introduced minimum quality standards for liquidity management and ways of implementation of a differentiated approach to regulate and supervise the banks systemically, and strengthening market discipline through establishing more stringent requirements for banks in the disclosure of indicators of risk and capital adequacy.

Basel III is a decision regarding implementation by national regulatory authorities. Now the focus shifts to the area of ??implementation, where the impact on business processes is determined and planning for the transition to the new standards is made. In this case, the application of new regulatory requirements will have its own characteristics in different countries, depending on the jurisdiction and the preparedness of the banking systems to withstand the load in time and capital. Most importantly, the focused question in this regard is that what steps will be taken to reduce systemic risk and related issues regarding 'Too big to explore', which served as one of the main causes of the global financial crisis (Basel Committee on Banking Supervision, 2006).

However, the principal shortcoming of Basel II and the entire existing system of banking supervision was inadequate given the threat of systemic risk ...