A Comparison of the Original and Revised Basel Market Risk Frameworks for Regulating Bank Capital

Posted: 18 Jul 2017

See all articles by Gordon J. Alexander

Gordon J. Alexander

University of Minnesota - Twin Cities - Carlson School of Management

Alexandre M. Baptista

George Washington University - School of Business

Shu Yan

Oklahoma State University - Stillwater - Department of Finance

Date Written: July 12, 2017

Abstract

Recognizing that many banks suffered trading losses that notably exceeded their minimum capital requirements during the recent crisis, the Basel Committee on Banking Supervision (2011) revised its regulatory framework for trading portfolios. In this paper, we compare: (1) the relative effectiveness of risk management systems based on the original and revised frameworks in controlling tail risk; and (2) the relative adequacy of these frameworks in setting minimum capital requirements. Our main findings are as follows. First, both systems allow the selection of portfolios with substantive tail risk, but one based on the revised framework tends to be less effective in controlling tail risk. Second, the minimum capital requirements set by the revised framework are much less likely to be wiped out by trading losses than those set by the original framework. Hence, on balance, the revised framework improves upon the original framework. We also suggest further improvements for consideration by bank regulators.

Keywords: Bank regulation, Risk management, Basel framework, Tail risk

JEL Classification: G11, G21, G28, D81

Suggested Citation

Alexander, Gordon J. and Baptista, Alexandre M. and Yan, Shu, A Comparison of the Original and Revised Basel Market Risk Frameworks for Regulating Bank Capital (July 12, 2017). Journal of Economic Behavior and Organization, Vol. 85, pp. 249-268, , January 2013, Available at SSRN: https://ssrn.com/abstract=3001165

Gordon J. Alexander

University of Minnesota - Twin Cities - Carlson School of Management ( email )

19th Avenue South
Minneapolis, MN 55455
United States
612-624-8598 (Phone)
612-624-1335 (Fax)

Alexandre M. Baptista (Contact Author)

George Washington University - School of Business ( email )

School of Business, Funger Hall, Suite 501
2201 G Street, NW
Washington, DC 20052
United States
202-994-3309 (Phone)
202-994-5014 (Fax)

HOME PAGE: http://home.gwu.edu/~alexbapt/

Shu Yan

Oklahoma State University - Stillwater - Department of Finance ( email )

Spears School of Business
Stillwater, OK 74078-4011
United States

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