Question

5. The Basel II capital accord comprises a framework of three pillars. Pillar 1 established the minimum capital required by a commercial bank and incorporates three risk components: credit risk, operational risk and market risk. (a) Define credit risk. (b) Using the standardized approach to credit risk, explain how a commercial bank will use this method to calculate its minimum capital requirement.

Answer 1

The Basel II capital accord comprises a framework of three pillars. Pillar 1 established the minimum capital required by a commercial bank and incorporates three risk components: credit risk, operational risk and market risk. (a) Define credit risk. (b) Using the standardized approach to credit risk, explain how a commercial bank will use this method to calculate its minimum capital requirement.

Credit Risk as per Basel II Capital Accord means A risk associated with default payment on a debt that may arise from a borrower failing to make required payments. it is also termed as the risk associated with possibility of a loss resulting from a borrowers failure to repay a loan or meet contractual obligations.

Credit risk is most simply defined as the potential that a bank borrower will fail to meet its obligation in accordance with agreed terms. the goal of a credit risk management is to maximize Bank adjusted rate of return by maintaining credit risk exposure within affordable are acceptable parameters. banks should also consider relationship between credit risk and other is associated with bank resulted into non performing assets . the effective management of a credit risk is a crucial component of a comprehensive approach to Risk management.