Capital Requirement and Risk Behavior Arab African International Bank

Midan ElSaray El Koubra, Garden City Caoro

The research will mainly dwell on the capital requirements and risk behavior of banks, more in particular the credit risk. The purpose of this research is to identify and analyze the relationship between capital requirements and the risk behavior of banks in Egypt

more in particular the Arab African International Bank, which is the case study for this research. Secondly, the research will seek to investigate the impact of capital regulation on the banking behaviors and particularly on the levels of credit risk of banks operating in Egypt

The findings of the research show that there is negative relationship between capital requirement and banks' risk behavior; the findings also show there is empirical evidence to prove that capital regulations have a negative impact on credit risk of banks levels of credit risk of banks operating in Egypt.

Table of content

Chapter 1 Introduction to Research

1.1 Introduction & #8230;.5

1.2 Problem Statement & #8230;6

1.3 Research objectives 7

1.4 Research Questions 7

1.5 Research Hypotheses 7

1.6 Conceptual Framework 8

1.7 Egypt's Banking Sector 10

1.8 Regulations Issued by the CBE 13

Chapter 2 Literature Review

2.1 Introduction & #8230;.14

2.2 Definitions 15

2.3 Credit Creation 15

2.4 Contraction of and Limitation of Credit Creation..

2.5 Objectives of Credit Risk Control 18

2.6 Methods and Instrument of Credit Risk Control 19

2.7 Difference between the quantitative and the qualitative method 20

2.8 Minimum Capital Requirements 21

2.9 Open market operations vs. capital adequacy ratio 22

2.10 Limitations of the capital requirement 24

2.11 Conclusion 25

Chapter 3 Research Methodology

3.1 Introduction 25

3.2 Primary Research 26

3.3 Secondary Research 26 3.4 Research Method 27

3.5 Research Instruments

3.5.1 Questionnaire 28

3.5.2 Interview 28

3.6 Proposed Sampling Method 29

3.7 Data Collection Plan 30

3.8 Data Analysis: quantitative / qualitative analysis 30

3.9 Research Ethical Considerations 31

3.10 Research Limitations 31

3.11 Conclusion 32

Chapter 4 Research and Findings

4.1 Financial Highlights & #8230;.32

4.2 AAIB Loans 35

4.3 Capital Adequacy 35

4.4 Assessment of capital ratio and credit risk 36

4.5 Relation between capital requirement and credit risk 36

4.6 Impact of capital requirement on risk behavior of AAIB and other Egypt's Bank 38

4.7 Observations of variables, which affect changes in bank's capital and risk

4.7.1Regulatory pressure 41

4.7.2 Banks absolute capital buffer 41

4.7.3 The bank size 41

4.7.4 Risk of greatly loan loss 42

4.7.5 Risk of bank run 42

4.7.6 Weights of the claims on the state 42

4.7.7 Current profit 43

4.7.8 Regulatory shocks and macroeconomic shocks 43

Chapter 5 Conclusion and Recommendation

5.1 Conclusion 43

5.2 Recommendations 44

Bibliography 46

Appendix

a) Questionnaire 52

b) Introductory letter 53

c) Regression analysis & #8230;54

d) Market share of AAIB 55

Abstract

The research will mainly dwell on the capital requirements and risk behavior of banks, more in particular the credit risk. The purpose of this research is to identify and analyze the relationship between capital requirements and the risk behavior of banks in Egypt more in particular the Arab African International Bank, which is the case study for this research. Secondly, the research will seek to investigate the impact of capital regulation on the banking behaviors and particularly on the levels of credit risk of banks operating in Egypt.

The findings of the research show that there is negative relationship between capital requirement and banks' risk behavior; the findings also show there is empirical evidence to prove that capital regulations have a negative impact on credit risk of banks.

Chapter 1

Introduction to Research

1.1 Introduction

Over the past years, capital adequacies of banks have gained a lot of attention due to the need for financial stability in the entire financial system both at the national and international level. The first inaugural call in this direction was in 1988 when a group of ten countries known as the G-10 signed into agreement the minimal risk-based capital for banks. This agreement was later to be known as the Basel accord. In the recent years the Basel committees has implemented a number of reforms in the Basel accord in order to be in line with the current financial system.

The issue of capital adequacy is raised when the discussions of financial...

Financial institutions are prone to or are exposed to risks such as credit risk, liquidity risk, interest rate risk and capital risk, and as such are the need for precautionary measures to be taken to prevent such risks from occurring. Perhaps to understand the multitude of financial risks not only to the local economy but also to the international economy, scenarios such as the 1930's great depression, the recent credit crunch and the subsequent recession that followed or even the case of Greece financial crisis.
This research is commissioned to identify and analyze the relationship between Capital requirements and the risk behavior; secondly, it is supposed to investigate the impact of the capital regulation on the banking behaviors and particularly on the level of credit risk, they undertake.

This paper will first introduce the topic of research, the problem statement and then it will highlight on some of the research objectives and questions, before spelling out the conceptual framework of this research. The second chapter will look at the literature on capital requirement and credit, more in particular about the credit creation and risk control. The third chapter will be for the research carried out on the case study of Arab African International Bank as an international bank operating in Egypt, thus the reason why this paper will solely focus on Egypt. In this third chapter, the research will try to assess the Arab African International Bank capital ratio and credit risk to build on the research findings in the fourth chapter. The fourth chapter will point out the research findings on the issues that were to be investigated by the research. Lastly, the paper will conclude with a few recommendations pertaining to the research topic.

1.2 Problem Statement

At the inception of the Basel I accord few countries were hesitant to implement the guidelines as mentioned by the accord, more in particular was Egypt. Before the 1990's Egypt, financial system was reported to be in a havoc situation as there banking institution was merely left to govern itself keeping in mind it was dominated by state-owned banks. This financial environment meant that Egypt's banking system was less developed and the economic growth of the country was largely hampered by this. There was almost no competition in the banking sector as most banks were state-owned and hence their income was guaranteed, the private sector more in particular the small and medium investments were largely un-catered for by the public banks, about only 10% of the entire population had previously or currently owned bank accounts and on the other hand the banks themselves were recording high numbers of non-performing loans an indication that the banking system in Egypt was in a problematic condition.

Reforms started in 1993 with the privation of most state-owned banks and again in 2003 after the appointment of Dr. Farouk El Okda as the new central bank governor, followed also by appointment of a new cabinet including also a new prime minister called Ahmed Nazef in 2004, major reforms were implemented in Egypt's banking sector. The reforms saw Egypt adopt the Basel I guidelines and even introduced the concept of minimum capital requirement to safeguard against credit risks in banks.

1.3 Research Objectives

The research aims to identify and analyze the relationship between Capital Requirements and the risk behavior: Arab African International Bank (AAIB) case study.

The research also aims at investigating the impact of the capital regulation on the banking behaviors and particularly on the level of credit risk of Banks operating in Egypt.

1.4 Research Questions

Does the regulatory pressure imposed by minimum capital requirements efficient in reducing risk behavior of (AAIB)?

Does a capital requirement influence the risk behavior of AAIB?

Is there a correlation between the change in capital adequacy ratio and credit risk ratio?

1.5 Research Hypotheses

Hypothesis 0: there is no relationship between capital requirements and banks' risk behavior.

Hypothesis 1: there is a negative relationship between capital requirements and banks' risk behavior.

1.6 Conceptual framework

Capital requirement is necessitated by capital regulations and it comes in the wake of bank default. Capital regulations are established to safeguard against bank default which has very serious repercussions not only to the shareholders and depositors but also to the general banking industry and the entire economy of a country. Bank defaults result to financial loss for its' shareholders and depositors or customers, while for the banking industry itself it will loss on competitiveness that was in the industry and the general economy will be destabilized by the banking crisis, since the banking industry plays a key role in a stable economy. It is due to these reasons the central banks of each and every country is obligated to set banking regulations that will cushion shareholders, banks' clients and the general economy from bankers' risk taking potential that can result to a bank default.

The repercussion of bank failure has captured the attention of many industry participants. When relating to experiences such as the 1930's great depression, the recent credit crunch and the subsequent financial crisis in the period of 2007-2010, it is evident as to what are the dangers of a bank default to the global banking system. The similarity…