What is the Basic Indicator Approach?
The basic method, also known as the basic indicator approach, is a set of operational risk monitoring techniques proposed for financial institutions under Basel II capital adequacy standards. Basel II requires all financial institutions to set aside capital for operational risk.
Example of Basic Indicator Approach:
The Basic Indicator Approach is the most straightforward approach for calculating the own funds’ requirement for operational risk. The own funds’ requirement is calculated as a fixed percentage (alpha-factor, 15 %) of a simple indicator (gross income).
Gross income is defined as
Interest earned – interest paid + non-interest income
Why is the Basic Indicator Approach critical?
The primary indicator technique is designed to assist banks in determining how much capital they need to set aside to meet operational risk requirements.