Internal capital adequacy process: A framework for participating banks from east and west African countries

Abstract

Orientation: Basel III makes provision for banks to assess their internal capital adequacy by means of risk-based approaches, stress tests and a leverage ratio. However, the Basel regulations do not prescribe to banks or to bank supervisors which method should be used or how it should be used.

Research purpose: The research problem was whether a framework could be formulated for the implementation of an internal capital adequacy assessment process in accordance with the Basel III accord.

Motivation for the study: East and west African banks and bank supervisors (BS) aspire to become fully compliant with Basel regulations and requested research regarding an internal capital adequacy assessment process (ICAAP) framework for the implementation of Basel III.

Research approach/design and method: A participatory action research (PAR) approach was used because PAR contributes to both knowledge creation and improving professional practice. The PAR comprised a survey and interest groups attended by bank supervisors and senior officers of banks.

Main findings: As a result, an actionable framework for the performance of internal capital adequacy assessment is proposed.

Practical/managerial implications: Capital adequacy, applied appropriately, safeguards a bank’s own economic sustainability and the stability of the financial sector in general.

Contribution/value-add: The proposed capital adequacy framework assists bank supervisors and risk managers to apply a more consistent approach for the implementation of the capital adequacy requirements of Basel III.