The demise of the AMA operational risk approach?

The demise of the AMA operational risk approach?

The AMA has been debated since 2014 and may need to be simplified.

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Operational risk is one of the three risk types covered in Pillar 1. Banks currently can choose between three approaches for the calculation of their own funds requirements for operational risk, i. e. the basic indicator approach, the standardized approach and the advanced measurement approach (AMA). The AMA usually provides credit institutions with an incentive in terms of lower capital requirements.

The future of the AMA has been debated since the Basel Committee suggested in November 2014 that the method might need to be simplified. 

The new method that the international supervisors plan to put forward in December with a consultative paper will be called the standardized measurement approach (SMA). It is designed to replace all three current options for Pillar 1 as well as the revised standardized approach proposed by the Basel Committee in October 2014. The aim is to finalize the new approach in 2016, with the EU and EBA likely to implement changes accordingly.

While the SMA will not be based on models, strong requirements on qualitative elements currently required for the AMA will remain.

Some joint supervisory teams (JSTs) of banks planning to move to AMA have recently advised banks to continue to improve their Pillar 2 frameworks, however to refrain from a formal submission of an AMA application. Aspiring AMA banks should therefore rethink their plans to apply for AMA but still focus on implementing increasing Pillar 2 requirements on the management of operational risk.

Likewise, existing AMA banks under ECB supervision should focus their further development of the OpRisk framework on Pillar 2 topics (e. g. strengthening the use test) and prepare themselves for using their AMA model purely for economic capital purposes in the future after the transition phase (which is likely to be three years) will end.

With the new SREP putting a strong emphasis on governance and the actual management of operational risks (OpRisk), the effort for designing, implementing and maintaining appropriate OpRisk frameworks must remain high. Indeed, with the SREP threat of capital add-ons in case the assessment of those elements turns out to be negative, the business model for a good OpRisk frameworks turns from the once incentive-driven approach to go for AMA rather to a capital-add-on avoidance scheme.

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