Basel I

What is the definition of a Basel 1

Definition

Basel I (also known as the 1988 Basel Accord) is a set of international banking rules created by the Switzerland-based Basel Committee on Bank Supervision (BCBS). This committee is responsible for setting the minimum capital requirements for financial institutions with the aim of minimizing credit risk. The term ‘Basel I’ represents the first set of riles created by the BCBS, and is accompanied by Basel II and Basel III which all form the Basel Accords.

Basel I explained

In 1988, the first set of BCBS rules were created as they set the minimum capital requirements for banks. It was originally referred to as the 1988 Basel Accord and was later enforced in the G-10 (group of ten) countries by 1992. The BCBS was formed in 1974 in response to the terrible liquidation of Herstatt Bank by German regulators.

The focus of the Basel I is one credit risk and risk-weighted assets (RWA) which classifies assets depending on the risk level associated with each asset. Bank assets are classified into five risk categories (% base) with reference to the Bank Asset Classification and are classified according to the nature of the debtor. The risk classification of assets is calculated in percentages ranging from a 0% risk-free asset to a 100% risk assessed asset. The minimum capital ratio of capital to RWA for all banks is 8%. They are represented below:

• 0%: government debt, central bank debt, governmental agencies’ debt

• 10%: central bank of countries with high inflation in recent times

• 20%: development bank debt, OECD banks debt, non-OECD bank debt with less than one year maturity, non-OECD public sector debt.

• 50%: residential mortgages

• 100%: private sector debt, real estate, capital instruments issued at other banks, non-OECD bank debt with maturity over one year

Advantages of Basel I

• It helps improve capital management

• It causes a significant increase in the capital adequacy ratios of banks that function internationally

• It gives all internationally functional banks an equal competitive opportunity

• It functions as a benchmark for financial evaluation

Disadvantages of Basel I

• It doesn’t put the market values of assets into consideration

• It doesn’t consider other kinds of possible risks that can affect assets such as market risk, operational risk, and liquidity risk.