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Peru Basel II implementation . Setiembre 2009. APEC. Experience in Basel II implementation. The SBS has reinforced a regulatory framework to enable firms making an appropriate identification, evaluation, treatment and control of risks.

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Peru Basel II implementation

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PeruBasel II implementation

Setiembre 2009

APEC


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Experience in Basel II implementation

  • The SBS has reinforced a regulatory framework to enable firms making an appropriate identification, evaluation, treatment and control of risks.

  • Basel II implementation process is progressing quite well in Peru:

    • Changes in the General Law allow the application of capital requirements to credit, market and operational risk according to Basel II.

    • A regulatory framework for the implementation of Basel II has been made available to the public (publications and pre announcing of new rules)


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Main changes in Banking LawDL 1028

  • Minimum capital requirements for credit, market and operational risks (Pillar I of Basel II)

  • Increase of the minimum capital ratio and maintenance of suitable additional buffer, according to entities’ risk profile and the business cycle (Pillar II of Basel II)

  • Definition of capital structure and proposal of limits on its composition (Basel)

  • Information transparency (Pillar 3 of Basel II)

  • Transparency: Obligation to pre announce new rulesregardingcapital requirement and loan loss reserves.


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Implementation Schedule

July 2010

July 2009

April 2009

Capital requirement:

CR: standardized approach

Capital requirement: CR: no change MR: Standardized approach

OR: Basic approach

Opening application to advance models: VaR, IRB, AMA

Opening application to Operational risk (OR) - ASA


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PeruBasel II implementation:Pillar I: Credit risk






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Sovereign exposures

Sovereign exposures referred only to Central Banks and Central Government exposures. The rest of public institutions will be treated as corporates.

Peruvian local currency sovereign exposures, as well as local and foreign currency reserves and other Peruvian Central Bank operations have a weight factor of 0%.

Peruvian foreign currency sovereign exposures (except reserves), will have a weight factor according to the following formula:

Weight factors of Sovereign exposures of foreign countries are found in the Accord according to international risk rating agencies.



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Internal Models (IRB)

  • The regulation considers fundamental IRB (FIRB) and advanced IRB (AIRB)

  • Parameters are required to be calculated taking into account a complete business cycle (independently of the minimum period of observations)


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Definition of Default

  • Past due loan for more than 90 days

    • Retail debtors: by operation

    • Non retail debtors: by debtor

  • Debt instruments are considered in default since the first day of delay after the settlement period.

  • Change to a restructuring situation

  • In the last 5 years, the debtor or the operation has registered more than one change in contract conditions (unless the firm can make a better estimation of its change to a default situation)

  • The firm considers that the debtor is unable to partially or totally fulfill its obligations according to the agreement .


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Leaving default

  • From the moment of non default, punctually fulfillment of liabilities for 12 consecutive months. During this period, the debtor will be able to register a maximum delay of 7 consecutive days and a maximum accumulated delay of 25 days (unless the firm can make a better estimation of the change to a non default situation)

  • The firm considers that the debtor is able to fulfill all its obligations. This condition will be valid only when the reason of non fulfillment is due to qualitative criteria.


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PeruBasel II implementation:Pillar I: Market risk


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Current Methodology

  • Firmswill be able to calculate capital requirement for market risks through one of the following ways:

    • Standardized Method

    • Internal Models

    • Combination of standardized method and internal models.

      It must be considered that each type of risk should be evaluated using only one method.

      Changes in regulation

  • Inclusion of interest rate risk measurement in trading book and commodities risk measurement, as part of the standardized method.

  • Use of internal models with previous authorization of the SBS.


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Trading book for market risk capital requirement

SBS will consider the following instruments as part of trading book:

a) Instruments registered in trading book

b) The following instruments registered in available-for sale category:

  • Debt

    • CDBCRP

    • Sovereign bonds (VAC-bonds not included)

    • Global bonds

    • Brady bonds

  • Equity:

    • IGBVL shares

    • Mutual funds (at least 70% of the fund in shares)

  • Speculative derivatives

  • Derivatives that hedge a and b investments

  • Commodities


  • Peru basel ii implementation pillar i operational risk l.jpg
    PeruBasel II implementation:Pillar I: Operational risk


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    Capital requirement for operational risk

    • Firms must use one of the following methods.

      a. Basic indicator approach – BIA (function of net income)

      • Alternative Standardized approach - ASA (function of net income by business lines, except retail and commercial banking lines)

      • Advanced measurement approaches – AMA (probabilistic calculations)

    • The use of ASA or AMA requires express authorization of the SBS

    • Basel II established methodologies are followed.


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    Operational Risk

    • Gradual implementation of operational risk requirement:

    • SBS would expect that during the implementation, entities are able to meet the requirements to apply to ASA, and thus avoid the application of 100% according to BIA.


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    Peru:Implementation of pro-cyclical loan loss reserves



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    How does Accumulation Rule work?

    • The variable component of procyclical loan loss reserves will be activated in the following situation:

      • The average GDP growth rate YoY of the last 30 months passes from less than 5% to 5% or more.

      • When the average GDP growth rate YoY of the last 30 months is over 5%, and the average GDP growth rate YoY of the last 12 months is higher by 200 basic points to this same indicator calculated a year earlier.

      • When the average GDP growth rate YoY of the last 30 months is over 5%, and 18 months had elapsed since the procyclical rule was deactivated


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    How does Decumulation Rule work?

    • The accumulation rule will be deactivated in the following situations:

    • The average GDP growth rate YoY of the last 30 months passes from a level equal or greater than 5% to one less than this threshold.

      • The average GDP growth rate YoY of the last 12 months is lower by 400 basic points to this same indicator calculated a year earlier.



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    Procyclical rule evolution

    30 months

    Average GDP growth rate 30 months

    Threshold 5%


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    Procyclical rule evolution

    12 months

    -3.98%

    Average GDP growth rate 12 months

    Threshold -4%

    Threshold 2%


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    The Banking System has S/. 916 millions of loan loss reserve buffer and S/. 4 134 millions of capital buffer


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    Peru buffer and Basel II implementation:Pillar II


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    Additional capital buffer buffer and

    • In Peru, the additional buffer is a function of the type of institution (10.5% for commercial banks, 14% for microfinance institutions). This indicator is not very sensitive to risk.

    • Regulatory capital should consist of:

      • Minimum capital : Pillar I

      • Additional capital: Should be determined based on the institution's risk and business cycle .

      • Additional capital according to ICAAP

    Accumulates

    Business cycle indicator

    Decumulates


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    How should the additional capital requirement be calculated in terms of risk profile and economic cycle?

    Total indicator


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    How should the additional capital requirement be calculated in terms of risk profile and economic cycle?

    αi = weight adjustment according to ICAAP evaluation


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    Peru: in terms of risk profile and economic cycle?Impact of Basel II implementation


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    Timing of implementation of law 1028 in terms of risk profile and economic cycle?

    New methodology


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    Rop ajustado in terms of risk profile and economic cycle?

    Adjusted OR

    Rop

    OR

    Ajuste APR

    RWA adjustment

    Minimum ratio

    Prudential requirement

    Scheduled adjustment

    Capital ratio

    Evolution of Capital Ratio (Banking sector)


    Evolution of capital ratio microfinance institutions l.jpg

    Rop ajustado in terms of risk profile and economic cycle?

    Adjusted OR

    Rop

    OR

    Ajuste APR

    RWA adjustment

    Minimum ratio

    Prudential requirement

    Scheduled adjustment

    Capital ratio

    Evolution of Capital ratio (microfinance institutions)


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    Banking sector capital (S/. MM) in terms of risk profile and economic cycle?December 2008

    Initial Situation

    Final Situation

    Additional Req.

    864,188

    Additional req.

    1,380,510

    Prudential req. 1,552,389

    Prudential req.

    1,438,003

    Minimum req.

    9,831,794

    Minimum req.

    9,313,961

    Required capital

    regulatory capital


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    Microfinance institutions capital (S/. MM) in terms of risk profile and economic cycle?December 2008

    (December 2008)

    Initial Situation

    Final Situation

    Additional req.

    362,824

    Additional req.

    398,212

    Prudential req.

    438,042

    Prudential req.

    417,284

    Minimum req.

    825,874

    Minimum req.

    766,574

    Required capital

    regulatory capital


    Capital ratio according to portfolio growth scenarios banking sector l.jpg

    Minimum ratio in terms of risk profile and economic cycle?

    Prudential requirement

    Capital ratio

    Capital ratio according to portfolio growth scenarios: banking sector

    RWA (+ OR, +growth)

    Capital Ratio=----------

    Reg. capital (+ earnings capitalization +reserves of standard credits (+growth) )

    Portfolio

    growth

    0%

    15%

    42.63%


    Capital ratio according to portfolio growth scenarios microfinance institutions l.jpg

    Minimum ratio in terms of risk profile and economic cycle?

    Prudential requirement

    Capital ratio

    Capital ratio according to portfolio growth scenarios: microfinance institutions

    RWA (+ OR, +growth)

    Capital Ratio=----------

    Reg. capital (+ earnings capitalization +reserves of standard credits (+growth) )

    Portfolio

    growth

    0%

    20%

    43.83%


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    Peru in terms of risk profile and economic cycle?Basel II implementation

    Setiembre 2009

    APEC


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