Principles for the home-host recognition of AMA operational risk capital

As announced in the 15 January 2004 press release from the Basel Committee, this technical paper has been issued.

The Basel Committee is pursuing an approach to operational risk capital allocation that addresses concerns expressed by a number of organisations in their comments on CP3 about practical impediments to the cross-border implementation of an Advanced Measurement Approach (AMA) for operational risk. The approach sets out how a banking organisation that calculates a group-wide AMA capital requirement might calculate the operational risk capital requirements of its subsidiaries.

While the Committee has acknowledged the need for flexibility in implementing the Accord, it is also concerned that such flexibility not undermine the Accord's fundamental objective of ensuring banks are adequately capitalised. Accordingly, the Committee is pursuing a "hybrid" approach for AMA banks under which a banking group would be permitted - subject to supervisory approval - to use a combination of stand-alone AMA calculations for significant internationally active banking subsidiaries and an allocated portion of the group-wide AMA capital requirement for its other internationally active banking subsidiaries. Under this hybrid approach, a significant internationally active banking subsidiary wishing to implement an AMA and able to meet the qualifying criteria would have to calculate its AMA capital requirements on a stand-alone basis. In calculating stand-alone AMA capital requirements, significant internationally active banking subsidiaries may incorporate a well-reasoned estimate of diversification benefits of its own operations, but may not consider group-wide diversification benefits. Where such subsidiaries are part of a group that wishes to implement an AMA on a group-wide basis, they would be permitted to utilise the resources of their parent or other appropriate entities within the group; they could rely on data and parameters calculated at the group level, for example, provided that those variables were adjusted as necessary to be consistent with the subsidiary's operations. Other internationally active subsidiaries that are not determined to be significant in the context of the overall group would be permitted - subject to supervisory approval - to use as their Pillar 1 charge for operational risk an amount that has been allocated to them from the group-wide AMA calculation.

The Basel Committee believes the following principles will be useful to guide supervisors on the implementation of this hybrid approach to the allocation of operational risk capital across home and host jurisdictions. The Committee's Accord Implementation Group (AIG) developed these principles in close coordination with the Committee's Risk Management Group.

The principles that follow are intended to be broadly compatible with the rules laid out in the Third Consultative Document. However, it is clear that specific enabling language will have to be introduced to the Accord to permit the hybrid approach within Pillar 1. To that end, the Committee is considering the text provided as an attachment to this paper.