The proposed Basel Accord, also known as Basel II, sets out rules whereby banks must have new procedures for measuring and mitigating against credit and operational risk.
The Accord is based upon a framework of three pillars: minimum capital requirements, supervisory review, and market discipline. These are intended to work together to allow a proper assessment of the risks faced by banks.
While Basel II is not expected to be finalised until the middle of next year, an implementation deadline of 31st December 2006 means that signatory countries, and banks, need to prepare for the Accord now.
Banks are therefore assessing risk and building an action plan to reduce exposure to it and Governments are preparing the necessary legislation.
The Commission intends to implement the Accord through a new Capital Adequacy Directive (CAD3), and the Government is now consulting on the draft proposals.
CAD3 is expected to extend the scope of the new Basel regime to all credit institutions and investment firms, while taking into account issues specific to the EU.
CAD3 will also ensure that the new regime is legislatively implemented throughout the EU, unlike Basel II, which is a non-binding agreement that will only apply to the G-10 signatory countries.
The consultation document lays out key questions and issues upon which comments are invited. In particular, the Treasury is interested to hear views on:
Announcing the consultation, Financial Secretary Ruth Kelly said:
"A more modern and risk-sensitive approach to setting prudential capital requirements should bring significant benefits. However the proposals are complex and it is therefore important that all interested parties engage in the consultation process."
The closing date for responses to the consultation is 5th March 2004.