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The New Basle Accord, Internal Ratings, and the Incentives of Banks

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  • Kirstein, Roland

Abstract

The Basle Accord of 1988 regulates how much equity banks must set aside as a cushion against the default risk. In its 1999 proposal for a new Accord, the Basle Committee seeks to introduce different equity ratios for customers of different risk levels. The proposal strongly favors external ratings as a means of risk determination. German banks, on the other hand, demand acknowledgement of their internal ratings. This paper shows that, even if assumed that banks have better diagnosis skill than external rating agencies, external ratings are better able to implement the goals of the Basle Committee than internal ratings. This is due to a lack of incentives to truthfully reveal their diagnosis results. These incentives may be provided by supervision of internal ratings, even if imperfect and only occasional. However, this requires that a fine be imposed if the supervising authority comes to a result different from the internal rating assigned by the bank. --

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Bibliographic Info

Paper provided by Saarland University, CSLE - Center for the Study of Law and Economics in its series CSLE Discussion Paper Series with number 2000-06.

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Date of creation: 2000
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Handle: RePEc:zbw:csledp:200006

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Keywords: diagnosis theory; imperfect decision making; credit worthiness tests;

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  1. Krahnen, Jan Pieter & Weber, Martin, 2001. "Generally accepted rating principles: A primer," Journal of Banking & Finance, Elsevier, vol. 25(1), pages 3-23, January.
  2. Niklaus Blattner, 1995. "Capital Adequacy Rules as Instruments for the Regulation of Banks," Swiss Journal of Economics and Statistics (SJES), Swiss Society of Economics and Statistics (SSES), vol. 131(IV), pages 719-721, December.
  3. Kirstein, Roland & Neunzig, Alexander R., 1999. "A Note on Credit-Worthiness Tests," CSLE Discussion Paper Series 99-03, Saarland University, CSLE - Center for the Study of Law and Economics.
  4. Anette Boom, . "A Monopolistic Credit Rating Agency," Papers 011, Departmental Working Papers.
  5. Machauer, Achim & Weber, Martin, 1998. "Bank behavior based on internal credit ratings of borrowers," CFS Working Paper Series 1998/08, Center for Financial Studies (CFS).
  6. Martin Hellwig, 1995. "Systemic Aspects of Risk Management in Banking and Finance," Swiss Journal of Economics and Statistics (SJES), Swiss Society of Economics and Statistics (SSES), vol. 131(IV), pages 723-737, December.
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  8. George Sheldon, 1996. "Capital Adequacy Rules and the Risk-Seeking Behavior of Banks: A Firm-Level Analysis," Swiss Journal of Economics and Statistics (SJES), Swiss Society of Economics and Statistics (SSES), vol. 132(IV), pages 709-734, December.
  9. Niklaus Blattner, 1996. "Capital Adequacy Regulation: There is Hardly an Alternative," Swiss Journal of Economics and Statistics (SJES), Swiss Society of Economics and Statistics (SSES), vol. 132(IV), pages 657-678, December.
  10. Shouyong Shi & Melanie Cao, 1999. "Screening, Bidding, and the Loan Market Tightness," Working Papers 989, Queen's University, Department of Economics.
  11. Kirstein, Roland & Schmidtchen, Dieter, 1997. "Judicial Detection Skill and Contractual Compliance," CSLE Discussion Paper Series 97-07, Saarland University, CSLE - Center for the Study of Law and Economics.
  12. George J. Benston & George G. Kaufman, 1997. "FDICIA after five years: a review and evaluation," Working Paper Series, Issues in Financial Regulation WP-97-01, Federal Reserve Bank of Chicago.
  13. Altman, Edward I. & Saunders, Anthony, 2001. "An analysis and critique of the BIS proposal on capital adequacy and ratings," Journal of Banking & Finance, Elsevier, vol. 25(1), pages 25-46, January.
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  16. Thomas Gehrig, 1995. "Capital Adequacy Rules: Implications for Banks' Risk-Taking," Swiss Journal of Economics and Statistics (SJES), Swiss Society of Economics and Statistics (SSES), vol. 131(IV), pages 747-764, December.
  17. George J. Benston & George G. Kaufman, 1997. "FDICIA after Five Years," Journal of Economic Perspectives, American Economic Association, vol. 11(3), pages 139-158, Summer.
  18. Machauer, Achim & Weber, Martin, 1998. "Bank behavior based on internal credit ratings of borrowers," Journal of Banking & Finance, Elsevier, vol. 22(10-11), pages 1355-1383, October.
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Cited by:
  1. Francesco Giuli & Marco Manzo, 2009. "Enhancing Bank Transparency: What Role for the Supervision Authority?," Panoeconomicus, Savez ekonomista Vojvodine, Novi Sad, Serbia, vol. 56(4), pages 1-58, December.
  2. Bertrand Rime, 2003. "The New Basel Accord: Implications of the Co-existence between the Standardized Approach and the Internal Ratings-based Approach," Working Papers 03.05, Swiss National Bank, Study Center Gerzensee.
  3. Kirstein, Roland, 2003. "Imperfect Monitoring of Monitoring Agents: One Reason Why Hierarchies Can Be Superior to "Lean" Organizations," CSLE Discussion Paper Series 2003-07, Saarland University, CSLE - Center for the Study of Law and Economics.
  4. Eric Van Tassel, 2009. "Sharing credit information under endogenous costs," Working Papers 09004, Department of Economics, College of Business, Florida Atlantic University.
  5. Brana, Sophie & Lahet, Delphine, 2009. "Capital requirement and financial crisis: The case of Japan and the 1997 Asian crisis," Japan and the World Economy, Elsevier, vol. 21(1), pages 97-104, January.
  6. Bigus, Jochen & Prigge, Stefan, 2005. "When risk premiums decrease as the bank's risk increases--a caveat on the use of subordinated bonds as an instrument of banking supervision," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 15(4), pages 369-390, October.
  7. Francesco Giuli & Marco Manzo, 2005. "Protecting Savings: Do We Need a Supervision Authority?," Working Papers 84, University of Rome La Sapienza, Department of Public Economics.
  8. Van Tassel, Eric, 2011. "Information disclosure in credit markets when banks' costs are endogenous," Journal of Banking & Finance, Elsevier, vol. 35(2), pages 490-497, February.

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