A framework for managing the regulatory and economic capital of banks

Abstract

Orientation: Banks face three primary risks, namely credit, market and operational risk. The Basel Committee on Bank Supervision (BCBS) promotes monetary and financial stability by means of their accords, which provides risk mitigation guidelines to banks under the jurisdiction of central banks that are members of the BCBS.

Research purpose: The aim of this study was to develop a framework for participating African banks to enable them to determine their required regulatory capital (RC) and economic capital (EC) because neither the Basel accords nor the central banks involved in this study provided clear guidelines in this regard.

Motivation for the study: During 2016, the banking associations from Kenya, Mauritius, Rwanda, Seychelles, South Sudan, Tanzania, Uganda and Ghana requested assistance with the determination of the EC and RC of their member banks.

Research design, approach and method: The study used pragmatism as a paradigm and a qualitative methodology by using participatory action research (PAR). Directors, non-executive directors, financial officers, internal auditors, risk and compliance officers of banks participated.

Main findings: The participants confirmed their challenges in determining their RC and EC, and hence the focus groups proceeded to systematically and logically develop a framework.

Practical/managerial implications: The resultant framework suggests that greater clarity about the regulatory requirements in each country needs to be provided by their bank supervisors.

Contribution/value-add: The framework enables banks to determine their own RC and EC requirements. However, customised methodologies and reporting structures have to be developed and followed during implementation and validation.