Banking System in India

Banks have always played a very important role in shaping our daily needs. They have always been playing an important role in our lives; after all it is a safe haven for all our hard earned money and savings. We feel secure with our money in the bank and entrust it with our livelihood. They are among the most important financial institutions which is present in an economy. The purpose of banks is not only limited to deposit and loans in an economy but it also intervenes in regulating the financial and economic policy of a nation. World which is now moving on the path of globalization and in every sphere, is getting integrated, interdependent, interrelated; it is very important that some kind of regulation is maintained so as not leave the track which may result in the global economy going haywire. The security notions of banks were recently distorted in the wake of the financial crisis that emanated in the western world in 2008. Financial crisis burnt through the bulging balance sheets of ‘big’ banks as the dirty underbelly of the financial system was exposed. For most of us a ‘bank’ will simply continue to be go-deposit-wait-withdraw; but the next time you deposit money in your little neighborhood bank do not be blindly sure about the ‘safety’ part. We are quite aware of credit risk which is linked when a credit is given by any lender to a borrower, it is very important to minimize the credit risk so as to avoid defaulter.

Financial Crisis

The most recent financial crisis of 2007-08 proved that the loss of capital is one of the serious issues faced by the entire banking fraternity at large. Failure of a large bank can seize up the entire credit market which consequently disrupts the normal functioning of the entire economy. This is the time when the authority and regulators have to intervene so as to rescue the technically insolvent bank, by injecting either more capital and / or buying up the impaired assets of the bank. The Basel Committee of Banking Supervision (BCBS) had begun, since the onset of crisis, an international consultative process among banking regulators to examine the issue and to work out a new international regulatory architecture that may stand a better chance of averting a recurrence of another banking crisis. It can be mildly said that BASEL accords usually have been either a precursor or an aftermath to a big financial goof-up; where Basel I was the brainchild of the Basel committee, formed due to the messy liquidation of a big German based bank Herstatt, Basel II, despite getting published first in 2004, was considered seriously for implementation only after the mess of 2008. We would now define the BASEL III accord and see its impact in the Indian Banking Sector. Here it is The BASEL III- the 3rd ‘instalment’ of the BASEL accords

The Basel III Accord – What is means

Also known as the International framework for liquidity risk measurement, standards and monitoring, the proposed Basel III guidelines improve the ability of banks to withstand periods of economic and financial stress by implementing more stringent capital and liquidity requirements. The capital requirement for banks is a positive step; it raises the minimum core capital through a capital conservation buffer, which improves the banks’ ability in stressed situation. The Basel committee finalized the Basel III guidelines in December 2010, following which a six year phase-in period beginning from 2013 is likely to be prescribed.

In a nutshell it can be said that:

BASEL III is just the improved (also termed as enhanced) version of BASEL II

(Shown in the picture below)

Basel II to BASEL III: It’s Enhanced

Objectives / Aims of the Basel III measures

Basel 3 measures aim to:

• improve the banking sector’s ability to absorb shocks arising from financial and economic stress, whatever the source
• improve risk management and governance
• strengthen banks’ transparency and disclosures

Basel III Capital Requirements & Basel II Capital Requirements – Comparison

What Basel III Mean for Indian Banks

The objective of the draft guidelines issued by the Reserve Bank of India (RBI) on implementation of Basel III capital regulations is unexceptionable. It is to improve the banking sector’s ability to absorb shocks arising from financial and economic stress, whatever the source thus reducing the risk of spill over from the financial sector to the real economy.

The new capital adequacy norms of Basel III do not impact Indian banks significantly. As the aggregate capital to risk weighted assets ratio of the Indian banking system stood at 13.4 percent in which the Tier I capital constituted 9.3 percent. The new capital rule does not affect the Indian banks much in terms of overall capital requirement and the quality of capital. However, Banks in Public and Private sector will raise Rs 6 lakh crore in external capital over 9 years to comply with Basel III norms, according to credit rating agency ICRA, International Credit Rating Agency. Most of the Indian banks have improved on their capital adequacy ratio in line with the Basel II norms.

The financial health of Indian banking system has improved significantly in terms of capital adequacy ratio (CAR) during the third quarter of the fiscal 2009-10. In comparison to the mandated limit of 9 per cent CRAR posed by the Basel II, the average capital adequacy ratio of commercial banks went up to 13 per cent in FY 10 from 12 per cent in the previous year. The capital requirement as suggested by Basel III is a positive move for banks as it raises the core capital in the form of common equity, introduces the conservation and counter- cyclical measures which will help to improve banks’ ability to conserve core capital in case of loss.

Also Read on GWI:

 List of Top Ten Banks in India