Definition
Standardised Approach (Credit Risk)
The Standardised Approach is the Basel method for calculating credit-risk capital using regulator-prescribed risk weights, often based on external credit ratings.
Most Indian banks use the Standardised Approach, under which each exposure gets a risk weight set by the RBI, frequently tied to the borrower's external credit rating. Higher-rated borrowers attract lower weights and thus less capital.
The alternative, the Internal Ratings-Based approach, lets sophisticated banks use their own PD and LGD models, but Indian banks largely remain on the standardised method. Changes to standardised risk weights, like the 2023 increase for unsecured and NBFC lending, directly affect banks' RWA and capital needs.
Related terms
- Credit RatingA credit rating is an independent agency's assessment of a borrower's ability to repay debt, ranging from AAA (safest) down to D (default).
- Capital Adequacy Ratio (CAR / CRAR)The Capital Adequacy Ratio, also called CRAR, is the ratio of a bank's capital to its risk-weighted assets, measuring its ability to absorb losses.
- Risk-Weighted Assets (RWA)Risk-Weighted Assets are a bank's assets weighted according to their credit risk, used as the denominator in capital adequacy calculations.
- Probability of Default (PD)Probability of Default is the estimated likelihood that a borrower will fail to meet its obligations over a given period, a key input to credit-loss models.
Plain-English explainer from The Dispatch Investors Encyclopedia. General information, not financial advice.