Basel: Consultative document on recognising the cost of credit protection purchased

Basel Committee issues consultative document on recognising the cost of credit protection purchased
March 22, 2013
http://www.bis.org/press/p130322.htm

The Basel Committee on Banking Supervision has today published a proposal that would strengthen capital requirements when banks engage in certain high-cost credit protection transactions.

The Committee has previously expressed concerns about potential regulatory capital arbitrage related to certain credit protection transactions. At that time it noted that it would continue to monitor developments with respect to such transactions and would consider imposing a globally harmonised minimum capital Pillar 1 requirement if necessary. After further consideration, the Committee decided to move forward with a more comprehensive Pillar 1 proposal.

While the Committee recognises that the purchase of credit protection can be an effective risk management tool, the proposed changes are intended to ensure that the costs, and not just the benefits, of purchased credit protection are appropriately recognised in regulatory capital. It does this by requiring that banks, under certain circumstances, calculate the present value of premia paid for credit protection, which should be considered as an exposure amount of the protection-purchasing bank and be assigned a 1,250% risk weight.

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Recognising the cost of credit protection purchased

http://www.bis.org/publ/bcbs245.htm

The proposal set out in this consultative document would strengthen capital requirements when banks engage in certain high-cost credit protection transactions. The Committee has previously expressed concerns about potential regulatory capital arbitrage related to certain credit protection transactions. At that time it noted that it would continue to monitor developments with respect to such transactions and would consider imposing a globally harmonised minimum capital Pillar 1 requirement if necessary. After further consideration, the Committee decided to move forward with a more comprehensive Pillar 1 proposal.

While the Committee recognises that the purchase of credit protection can be an effective risk management tool, the proposed changes are intended to ensure that the costs, and not just the benefits, of purchased credit protection are appropriately recognised in regulatory capital. It does this by requiring that banks, under certain circumstances, calculate the present value of premia paid for credit protection, which should be considered as an exposure amount of the protection-purchasing bank and be assigned a 1,250% risk weight.

 

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Full text of the consultative doc: http://www.bis.org/publ/bcbs245.pdf