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Analytical credit risk capital

What Is Analytical Credit Risk Capital?

Analytical Credit Risk Capital refers to the capital that financial institutions, particularly banks, must hold to cover potential losses arising from credit risk. It is a crucial component of a comprehensive risk management framework within the broader category of banking regulation and risk management. This capital is derived through sophisticated quantitative models and analytical techniques, aiming to provide a granular and risk-sensitive assessment of the capital needed to absorb unexpected losses from defaults on loans, bonds, and other credit exposures. Unlike a flat reserve, analytical credit risk capital is dynamic, reflecting the specific risk characteristics of an institution's asset portfolio and its counterparties. It directly influences a bank's capital adequacy and its ability to absorb financial shocks.

History and Origin

The concept of analytical credit risk capital gained significant prominence with the advent of the Basel Accords, a set of international banking regulations issued by the Basel Committee on Banking Supervision (BCBS). Basel II, introduced in 2004, marked a pivotal shift by allowing banks to use their own internal models to calculate regulatory capital for credit risk. This approach, known as the Internal Ratings-Based (IRB) approach, was designed to make capital requirements more sensitive123456789