Operational Risk under the Basel II Capital Adequacy Framework

The Basel II capital adequacy framework constitutes a very comprehensive regulatory approach to risk assessment in banks. It is far more detailed and sophisticated than the first Basel accord. A special feature is that the new accord is not only targeting banks‘ financial risk exposures in terms of credit risks and market risks. The scope has been widened to also explicitly incorporate banks ‘ exposure to operational risks in the capital adequacy requirement. For banks this novelty means a major change. Unless they choose to use the highly unsophisticated ‗basic indicator approach ‘ or the ‗standardized approach ‘ proposed in the new Basel accord, it will put significant pressure on them to develop and design appropriate internal risk information models and systems. In this paper we explore banks ‘ operational risk assessment under Basel II in Sweden, where all banks—regardless of size—have to comply with the new regulatory framework. The overall aim is to provide deeper insights into the capability of banks to identify and measure exposures to operational risk and their choice of method for calculating regulatory capital against such exposures. Preliminary draft Please do not quote without authors ’ permission.