(Provisional Translation)
November 22, 2005
Financial Services Agency

Implementation Framework of the Second Pillar of Basel II

The second pillar - supervisory review process, of Basel II (the new capital adequacy framework) emphasizes that financial institutions should fulfill their self-responsibility for appropriately assessing and managing various risks they face, and maintaining sufficient capital according to such risks including those not covered within the first pillar (minimum capital requirements). It also mentions that supervisors should review and evaluate risk management methods which are adopted by individual financial institutions on their own initiative and take appropriate supervisory actions as necessary.

With a view to promoting sound competition via improved governance and risk management function of financial institutions, the Financial Services Agency (FSA) aims to appropriately monitor all significant risks including risks that are not covered in the calculation of capital adequacy ratio, such as the interest rate risk in the banking book. In particular, FSA had already announced its intention to update the existing Early Warning System by the end of March 2006, in order to incorporate its supervisory approaches to such risks as the interest rate risk in the banking book^* .

Therefore, from the viewpoint of promoting self-disciplined risk management by financial institutions in Japan, the FSA has decided to release an implementation framework of the second pillar of Basel II, including enhancement of the Early Warning System, as attached.

Based on the details in the attached document and further deliberations, the ''Comprehensive Guideline for Supervision of Major Banks, etc.,'' and the ''Comprehensive Guideline for Supervision of Small- and Medium- Sized and Regional Financial Institutions'' will be revised by the end of March 2006 after soliciting and examining comments from interested parties.

*	Program for Further Financial Reform (Dec 2004) (PDF:170K), Work Schedule for the Implementation of the Program for Further Financial Reform (March 2005) (PDF:699K).

---

• Implementation Framework of the Second Pillar of Basel II (PDF:72K)
• The Implementation Framework of the Second Pillar of Basel II (Outline) (PDF:215K)