ROMANIAN BANKING SYSTEM

ROMANIAN BANKING SYSTEM

Basel Reform will have a dramatic impact on the entire banking industry, particularly on profitability. Institutions that take an enterprise-wide view of risk and assign economic capital on a risk-adjusted basis will benefit greatly, but those that dont will soon discover that they must in order to survive.

The Risk Management Association

September 2002

Basel II Introduction

The first Basel Capital Accord was instituted in 1988 to coordinate global regulatory efforts and to institute minimum capital requirements to eliminate the threat posed by undercapitalized banks. The 1988 Capital Accord prescribed a single measure of risk to determine minimal capital requirements.

To deal with the growing complexity of the financial industry and with the systemic threats, a new Capital Accord was proposed by the Basel Committee on Banking Supervision, to establish a more sophisticated framework for banks to measure risk and set aside sufficient capital to cover losses from market, credit, and operational risk.

Basel II will impact the entire spectrum of financial services, including corporate finance, retail banking, asset management, payments and settlements, commercial banking, trading and sales, retail brokerage, and agency and custody services.

The New Capital Accord is structured on three pillars

Pillar I: Minimum Capital Requirements - this pillar sets out minimum capital requirements and defines what constitutes capital. It refines the 1988 Capital Accord measurement framework to include three options for calculating credit risk, from the simplest to the most sophisticated, and introduces a capital charge for operational risk. Data must be sufficiently granular and capture historical trends to ensure a detailed view of risk across the enterprise. For the first time, banks will be required to set aside capital for market, credit, and operational risk.

Pillar II: Supervisory Review Process - recognizes the correlation between regulatory capital and the strength and effectiveness of internal control and risk management processes. This pillar requires bank management to explain

their risk assessment and management activities and strategies to bank regulators located in individual countries. Bank management will need to educate regulators on their banks risk level, philosophy toward risk, and methodologies used to assess and manage risk. Regulators will also require third-party validation of a banks risk methodologies and actions.

Pillar III: Market Discipline - This pillar requires bank management to increase the level of transparency and disclosure to the marketplace, so capital markets have sufficient information to effectively assess the risks a bank undertakes and impose capital market discipline for accessing capital. Enhanced reporting and disclosure will be required on items such as capital structure, risk measurement and management practices, risk profile, and capital adequacy. For those institutions adopting the most stringent parts of the accord, the potential payoff is improved competitiveness in the form of higher stock prices and cheaper access to public debt.

Romanian Basel II Project

Implementation Strategy

The National Bank of Romania strategy for the implementation of the New Capital Accord has the following phases:

Phase I Initiating the dialogue and achieving the exchange of information with the banking sector (May November 2005). The principal activities are:

a.       Achieving a general evaluation regarding the risk management tools and knowing the credit institutions position regarding the national options (standard approach or internal models based approach)

b.      Establishing the dialogue   and exchanging information with national authorities (Ministry of Public Finance, National Commission of Securities) and international ones (supervision authorities from other states)

c.       Evaluation of requirements for training for the banking sector and the central authority.

Phase II Development of instruments for achieving the banking supervision in conformity with the New Capital Accord standards (December 2005 May 2006). In this phase, the efforts will be focused on the following domains:

transposing the European Directives in the national legal frame ;

performing supervision activities from the central bank headquarters and missions to the credit institutions to verify the preparation stage for implementing Basel II;

ensuring the premises for financial stability when the New Accord will be applied.

Phase III Process of validation by the National Bank of internal rating models used by the credit institutions for customers evaluation and of existent credits portfolio (June October 2006).

Phase IV Verifying how the New Capital Accord is applied in the banking sector (starting with January 2007).

Measures Plan

For the implementation of the New Capital accord, the following measures must be taken:

Regarding the legal frame the two European Directives must be transposed in the Romanian legislation.

Regarding the institutional frame, the central bank has to train the personnel, develop the databases regarding the credits, to auto evaluate the supervision capacity (pillar 2), to evaluate of the impact of macroeconomic evolutions on the financial stability. In the same time, the credit institutions have to include the Basel II requirements in the internal strategies and politics, to develop the corporative governance practices, to reconfigure the objectives for the customers relationship and the banking products. 

The relationship frame is a very important one and consists in:

Collaboration between the National Bank, the Ministry of Finance, the Romanian Banking Association, the National Commission for Securities.

Cooperation accords with the supervision authorities from the origin states of the credit institutions having branches in Romania.

Enforcing collaboration at regional level regarding the experience in Basel II implementation.

Development of the rating national agencies.  

Activities

The main activities inside the Basel II Project are:

May July 2005

Organization of the project at the Romanian National Bank level,

Starting the dialogue with the banking sector and with other authorities with responsibilities in this domain,

Preliminary consultation with the banking community regarding the implementation strategy.

July October

Taking the decision regarding the national options ,

Preparing the quantitative impact study.

November 2005 January 2006

Performing the quantitative impact study,

Elaboration of legal frame first version.

February 2006 April 2006

Aggregation and analysis of data provided by the banks (impact study),

Finally choosing the national options.

May 2006

Finalization of the legal frame.

Organization Structure for the New Capital Accord Implementation

Coordination Level

Operation Level

To transpose the implementation plan in practice, the following mixed Romanian National Bank Romanian Banking Association Groups and Subgroups were constituted and are working together for implementing the Basel II Accord in the Romanian banking system:

The Legislation group re-examines the legal frame applicable to any type of credit institution, in order to unify all the reglementations in one single law, containing general principles for all types the credit institutions and also specific sections for different categories.

The Capital & Groups group establishes the requirements regarding the capital adequacy at the group level, also the requirements regarding the capital adequacy at individual level for the entities supervised at consolidated level and the requirements for monitoring the concentration risk, specific for intra-grup activities.

The Credit Risk group has three subgroups:

The Quantitative Impact Study subgroup prepares and performs the quantitative impact study and makes the analysis of the impact study data for the credit risk.

The Standardized Approach subgroup reconfigures the existent reglementation frame for adapting it to the New Capital Accord requirements for solvability indicators, techniques for reducing the credit risk, limits applicable to big exposures, limits applicable for persons having a special relationship with the bank. This subgroup also transpose the provisions regarding the external ratings offered by institutions specialized in external credit evaluation (ECAI) and export credit agencies (ECA).

The Advanced Approaches subgroup elaborates the reglementation frame to implement the sizing methods for the capital requirements based on internal models of rating base method and advanced method.

The Operational Risk group elaborates the reglementations required for the transposing of the New Capital Accord provisions regarding the operational risk. This group prepares and performs the quantitative impact study and makes the analysis of the impact study data for the operational risk.

The Market Risk group establishes the credit institutions CAD type and non-CAD type, performs the impact study for the CAD banks, and modifies the legal frame according with the reconfigured directive. Its target is to realize the convergence of the banking legal frame with the capital market legal frame regarding the market risk.