The risk weights, in turn, would be based perhaps on one or a combination of techniques: external ratings, internal management risk ratings, and/or bank-specific formal risk models. Please note that in each of these, the process is leveraging off the market’s risk evaluation, including what the bank management applies for its own purposes.
Consistency and improvement in bank risk management is thus a prerequisite to improved, and more rational, capital regulation. The second leg is increased market discipline. Market discipline, of course, can occur only to the extent that the banks make information available to creditors and counterparties that have the ability to respond to that information.