Pillar 3 - Market Discipline

The purpose of this paper prepared by the Transparency Group of the Basel Committee is to further the Committee's dialogue with the industry on the disclosure regime under Pillar 3 of the New Basel Capital Accord. Comments on the issues outlined in this paper would be welcome, and should be submitted to relevant national supervisory authorities and central banks and may also be sent to the Secretariat of the Basel Committee on Banking Supervision at the Bank for International Settlements, CH-4002 Basel, Switzerland, by 31 October 2001. Comments may be submitted via e-mail: BCBS.capital@bis.org¹ or by fax: +41 61 280 9100. Comments on working papers will not be posted on the BIS website.

Introduction

1. The New Basel Capital Accord is based around three complementary elements or "pillars". Pillar 3 recognises that market discipline has the potential to reinforce minimum capital standards (Pillar 1) and the supervisory review process (Pillar 2), and so promote safety and soundness in banks and financial systems. Market discipline imposes strong incentives on banks to conduct their business in a safe, sound and efficient manner, including an incentive to maintain a strong capital base as a cushion against potential future losses arising from risk exposures. This paper sets out the current thinking of the Transparency Group (the Group) on a revised set of disclosure requirements under Pillar 3 of the New Basel Capital Accord.

2. In its January 2001 Consultative Package, the Basel Committee on Banking Supervision (the Committee) set out proposals for Pillar 3. The Committee received numerous comments on the package and this revised paper is intended to take account of both those responses and the on-going analysis in the Group itself. This paper sets out revised proposals for disclosure in three broad categories: scope of application of the Accord, capital and capital adequacy, and risk exposure and assessment. Reflecting the objective to limit the burden associated with disclosure, and in light of the comments received, the Group has considered carefully the possibilities for streamlining the proposals. As a result, the amount of disclosure in these revised proposals shows a significant reduction compared to the document published in January 2001. The current disclosures are considered essential and support the Pillar 3 objective of facilitating market discipline. Given this reduction in volume and focus on essential information, the Group believes that all of the revised Pillar 3 disclosures should be considered requirements. This re-focusing of Pillar 3 is discussed further in the following section.

3. The Group wishes to stress that the streamlined requirements set out in this paper represent neither a full nor final statement of the relevant disclosures for banks. Banks provide financial statements and disclosures in accordance with requirements of securities regulators, accounting standards setters, and/or other authorities, and Pillar 3 is not intended to repeat all of these disclosures. In addition, over recent years the Committee has published a series of disclosure recommendations, covering areas such a credit risk and trading and derivative activity. This work remains as an important complement to the requirements set out under Pillar 3 and the Group encourages banks to consider these recommendations in developing their disclosures². Furthermore, work continues on the Pillar 1 framework for the New Basel Capital Accord, including, for instance, the treatment of equity investments held in the banking book, various aspects of the internal rating based (IRB) approach to credit risk (including, retail, project finance and specialised lending portfolios), credit risk mitigation, securitisation (including synthetics) and operational risk. As a result, alternative or additional disclosure requirements may need to be introduced in the full and final consultation on the New Basel Capital Accord, planned for early 2002.

¹ Please use this e-mail address only for submitting comments and not for correspondence.

² The Committee published Best Practices for Credit Risk Disclosure (September 2000). The Committee - in collaboration with the International Organization of Securities Commissions (IOSCO) - published guidance on trading and derivatives disclosures (October 1999). See also: Enhancing Bank Transparency (September 1998) and Sound Practices for Loan Accounting and Disclosure (July 1999)