Banks slow to adopt internal risk systems, despite benefits

Greek banks so far have been slow to use an option offered by the central bank in 2003 and potentially benefit from lower risk provisions by applying internal risk models, Bank of Greece officials say. Last year the Bank of Greece offered banks a choice – internal models in lieu of its standard methodology for assessing capital provisioning for risk related to portfolio exposure to bonds, stocks, commodities, foreign exchange and related derivatives. Officials at the monetary authority’s bank supervision division say response so far has been muted. Only National Bank has switched, complying with capital cover regulations for risk based on an internal model approved in July last year. «So far, we’ve only got National Bank responding but I believe more banks will follow. Adopting such models can free up significant capital,» the division’s deputy director, Elias Skafidas, told Reuters. «Of course, there’s also a cost factor but overall, adoption of internal risk models can be beneficial,» he added. For example, under the standard methodology, banks must set aside capital cover for open positions in foreign exchange equal to 8.0 percent of the position’s amount if it exceeds 2.0 percent of their equity capital. Using internal risk models, banks set aside capital equal to their overall position’s so-called value at risk (VAR). This can result in lower capital cover, freeing up funds for more profitable use. «Other banks do have in-house VAR systems but have yet to make use of the alternative method on risk reporting,» said Panayiotis Kyriakopoulos, head of the bank supervision division at the Bank of Greece. At Systemic Risk Management (SRM), which equipped National Bank with the application, Managing Director Aristidis Protopapadakis says the benefit in terms of freed-up capital can be substantial. «It’s up to the bank’s management how the lower capital provisioning benefit is cashed in. Lower capital cover can increase profitability ratios like return on equity (ROE), which ultimately benefits shareholders,» Protopapadakis said. An additional benefit when banks are well-protected against risk may come in the form of an improved credit rating and thus lower funding costs, he added. With profitability concerns and capital regulations like Basel 2 pushing financial services companies to more closely monitor credit, market and operational risk, banks and insurers are turning to complex solutions to reduce it and improve regulatory compliance. According to credit rating agency Moody’s, Basel 2, which sets new rules for capital provisioning to protect banks against losses, should bring a «marked improvement to regulatory philosophy for risk measurement, management and controls and in general for the risk culture of the banking industry.»

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