The 1988 Basel Accord has become the global standard by which banks’ capital adequacy is measured. However, the new proposed Basel II Accord is aimed at creating a more risk sensitive capital framework. While the accord is not in itself legally binding, it will be implemented in the European Union (EU) through the Risk-based Capital Adequacy Directive (RCAD). The current expectation is that member states will be required to implement the directive in national legislation by no later than 31 December, 2006. Under the EU-adopted approach, Basel II will apply not merely to banks and building societies but to most investment houses.
The Basel ll Accord is based on three pillars. The first is the minimum capital requirement. While under the existing accord firms are required to measure exposures to credit risk and market risk, Basel II will also require firms to calculate capital adequacy requirements for operational risk in accordance with new rules. Under the second pillar, the supervisory review, supervisors will have the power to hold additional capital against risks not covered by the minimum capital requirement.
