Basel committee issues report on risk management

MANILA, Philippines - The Basel Committee on Banking Supervision has issued a consultative document titled Identification and Measurement of Step-in Risk.

Step-in risk refers to the risk that a bank will provide financial support to an entity beyond, or in the absence of, its contractual obligations should the entity experience financial stress.

In a statement, the committee said the objective is to mitigate potential spillover effects from the shadow banking system to banks.

It falls within the G20 initiative to strengthen the oversight and regulation of the shadow banking system and mitigate the associated potential systemic risks.

The proposals would form the basis of an approach for identifying, assessing and addressing step-in risk potentially embedded in banks’ relationships with shadow banking entities (although without limiting the proposals to specific entities).

To capture and address such risk, the focus is on the identification of unconsolidated entities to which a bank may nevertheless provide financial support, in order to protect itself from any adverse reputational risk stemming from its connection to the entities.

The proposals also include potential approaches that could be used to reflect step-in risk in prudential measures.

The proposals are preliminary, and the committee has yet to decide how they should be incorporated into the regulatory framework, including whether a Pillar 1 or Pillar 2 approach is most appropriate.

“The committee will assess the potential impacts of the proposals, particularly as to whether they adequately capture entities posing potential step-in risk,” it said.

In parallel, the committee will conduct a quantitative impact study (QIS) in the first half to collect evidence on the nature and extent of step-in risk, so as to inform its deliberations on the final framework.