Question:

(i) How is Basel II evolutionary?
(ii) Why is the second pillar called “load-bearing?”
(iii) In accounting there is a debate about rules vs. principles. Is Basel II rules-based or principles-based?

Question 5 (Pillars)

(i) How is Basel II evolutionary?
(ii) Why is the second pillar called “load-bearing?”
(iii) In accounting there is a debate about rules vs. principles. Is Basel II rules-based or principles-based?

Answer:

(i)
There are a couple of ways to answer. The classic answer related to the bifurcation of basic (standardized) and advanced (internal model) approaches: the Committee hopes to see banks “evolve” from the basic to the internal approaches as banks increase their sophistication.

On the other hand, critics contend that Basel regulations cannot keep pace with financing technology (securitization). Arguably, Basel II Accord itself “evolves” with updates and changes to keep pace (e.g., QIS).

(ii)
Because the first pillar is not meant to comprehensively and rigidly apply to all circumstances and banks. Really, the load-bearing responsibility falls on supervisors NOT ONLY to apply the guidelines but to evaluate banks internal capital adequacy.

(iii)
The first Pillar is rules-based, so at the very least Basel II is rules-based.
But arguably, given the advanced qualitative/quantitative criteria and the Second Pillar, Basel II is additionally principles-based. So, arguably it is both.