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Commercial Bank Credit Concentration Risk and Economic Capital Analysis

Author: ChenCheng
Tutor: XuTao
School: Shandong University
Course: Industrial Engineering
Keywords: BaselⅡ capital adequacy ratio loan concentration economic capital
CLC: F224
Type: Master's thesis
Year: 2011
Downloads: 160
Quote: 1
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Abstract


The second pillar of BaselⅡincludes two meanings, a commercial bank should establish a sound internal capital adequacy assessment procedure, to ensure that commercial banks have enough capital to manage all risks in business; on the other hand, the regulatory authorities should supervise and inspect the effectiveness and rationality of the internal assessment program of a bank and assess capital adequacy of the bank on the basis of the assessment program. The second pillar requires treating three major areas of risks-the first one is the first pillar involves but not completely covers, such as loan concentration risk; the second one is the factors not considered in the first pillar, such as the interest rate risk of bank accounts, business and strategic risks; the third one is the external factors of Banks, such as economic cycle effect.As loan is the main business of China’s commercial banks, credit concentration risk is usually the most essential concentration of risk in banks. Concentration of risk means any individual risk or risk group that may cause huge losses (relative to the bank’s capital, total assets or the overall level of risk) and threaten the bank health or ability that maintains the core business. Credit concentration risk is regarded as the most important reason of banking problems. It can be produced in bank assets, liabilities or off-balance-sheet items (Whatever the product or service). Credit risk concentration is derived from common or related risk factors. These factors facing stress will have a negative impact on credit rating of each transaction object which generates centralization.Historical experience shows that the concentration risk of credit portfolio has become one of the most important reasons that makes banks in trouble and even bankruptcy. This phenomenon is widespread from Asia to America and even the whole banking system. Starting at the end of 2006, and evolving into a global financial crisis in the subsequent two years, subprime mortgage crisis once again shows the harm of industry or regional credit concentration risk.Therefore, the second pillar of BaselⅡfurther requires banks to conduct a comprehensive risk assessment to ensure that the capital level of a bank is consistent with the bank’s risk profile on the whole. Capital assessment procedures should cover all of the Substantial risks of banks and consider the following risks:credit risk, operational risk, market risk, the interest rate risk of bank accounts, liquidity risk, credit concentration risk and other risks (such as reputation risk and strategic risk). Commercial banks should seriously consider the credit concentration risk when banks assess capital adequacy in the second pillar of BaselⅡframework. Fundamentally speaking, banks are enterprises that operate risk, so it must have enough capital to undertake the risks. According to statistical theory, during an enough long time, various risks including credit risk, market risk and operational risk basically conform to the characteristics of normal orβdistribution. Economic capital management requires banks to use quantitative technique to accurately estimate the size of unexpected losses of the existing assets in the future period of time. Accordingly, banks can measure the cost of business risk.This paper investigates the methods for the measurement of loan concentration economic capital through analyzing and comparing the calculation method and mathematical model of loan concentration economic capital. This paper has important practical significance and application value in many ways, such as actively managing bank risks, optimizing the credit structure, promoting the return on capital, and meeting the capital adequacy ratio requirement of regulatory authorities.

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CLC: > Economic > Economic planning and management > Economic calculation, economic and mathematical methods > Economic and mathematical methods
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