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Credit ratings and the standardised approach to credit risk in Basel II

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  • Patrick Van Roy

    (National Bank of Belgium, Brussels)

Abstract

This paper focuses on the standardised approach to credit risk in Basel II. The minimum capital requirements for the corporate, interbank and sovereign loan portfolios of a representative bank in each EMU country are evaluated by means of Monte-Carlo simulations depending on the credit rating agencies chosen by the bank to risk-weight its exposures. Three main results emerge from the analysis. First, although the use of different combinations of credit rating agencies leads to significant differences in minimum capital requirements, these differences never exceed 10% of banks’ regulatory capital for loans to corporates, banks and sovereigns on average in the EMU. Second, the standardised approach provides a small regulatory capital incentive for banks to use several credit rating agencies to risk-weight their exposures. Third, the minimum capital requirements for the corporate, interbank and sovereign loan portfolios of EMU banks will be higher in Basel II than in Basel I. I also show that the incentive for banks to engage in regulatory arbitrage in the standardised approach to credit risk is limited.

Suggested Citation

  • Patrick Van Roy, 2005. "Credit ratings and the standardised approach to credit risk in Basel II," Finance 0509014, University Library of Munich, Germany.
  • Handle: RePEc:wpa:wuwpfi:0509014
    Note: Type of Document - pdf; pages: 45
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    References listed on IDEAS

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    Cited by:

    1. Iftekhar Hasan & Suk-Joong Kim & Eliza Wu, 2018. "The Effects of Ratings-Contingent Regulation on International Bank Lending Behavior: Evidence from the Basel 2 Accord," World Scientific Book Chapters,in: Information Spillovers and Market Integration in International Finance Empirical Analyses, chapter 16, pages 547-603 World Scientific Publishing Co. Pte. Ltd..
    2. repec:wsi:medjxx:v:05:y:2013:i:02:n:s1793812013500144 is not listed on IDEAS
    3. Hauck, Achim & Neyer, Ulrike, 2014. "Disagreement between rating agencies and bond opacity: A theoretical perspective," Economics Letters, Elsevier, vol. 123(1), pages 82-85.
    4. Tewari, Manish & Byrd, Anthony & Ramanlal, Pradipkumar, 2015. "Callable bonds, reinvestment risk, and credit rating improvements: Role of the call premium," Journal of Financial Economics, Elsevier, vol. 115(2), pages 349-360.

    More about this item

    Keywords

    New Basel Accord; capital requirements; credit rating agencies;

    JEL classification:

    • G - Financial Economics

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