Basel Committee Addresses Double Defaults
The Basel Committee on Banking Supervision and the International Organization of Securities Commissions (IOSCO) have jointly issued a paper which makes proposals on how capital requirements for banks’ exposures to certain trading-related activities should be treated. The proposals include a treatment for counterparty credit risk and also contain a solution for double default effects, or the risk that both a borrower and guarantor default on the same obligation. The proposals are intended to improve the sensitivity of the capital rules to the underlying economic risks associated with such exposures in a manner that is compatible with the Basel Committee’s revised capital framework for banking organisations. The proposals address five issues in particular. The first area is the treatment of counterparty credit risk for over-the-counter derivatives, repurchase agreements and securities financing transactions, and of cross-product netting arrangements. The second area is the treatment of double-default effects for covered exposures, in relation to trading book and banking book. The third area addressed is short-term maturity adjustment, in the internal ratings-based approach under Basel II, for some trading book-related items. Improvements to the current trading book regime and design of a specific capital treatment for unsettled and failed transactions are the final two areas that are addressed.