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the International 8onetary / nd# have historically led to losses in the billions as banks try tomaintain a policy sing open market methods that have proven to be based on nrealisticass mptions

entral banks do not nilaterally "set" rates# rather they set goals and intervene sing theirmassive financial reso rces and reg latory powers to achieve monetary targets they set <nereason to coordinate policy closely is to ens re that this does not become too e*pensive andthat opport nities for private arbitrage e*ploiting shifts in policy or difference in policy# arerare and 5 ickly removed

Two aspects of monetary policy have proven to be partic larly sensitive# and the BIS thereforehave two specific goals2 to reg late capital ade5 acy and make reservere5 irements transparent

About BIS:

The mission of the Bank for International Settlements (BIS) is to serve central banks in their p rs it of monetary and financial stability# to foster international cooperation in those areas

and to act as a bank for central banksIn broad o tline# the BIS p rs e its mission by2

• promoting disc ssion and facilitating collaboration among central banks=• s pporting dialog e with other a thorities that are responsible for promoting financial

stability=• cond cting research on policy iss es confronting central banks and financial

s pervisory a thorities=• acting as a prime co nterparty for central banks in their financial transactions= and• Serving as an agent or tr stee in connection with international financial operations

The head office is in Basel# Switzerland and there are two representative offices2 in the 6ong7ong Special !dministrative 1egion of the ,eople s 1ep blic of hina and in 8e*ico ity

>stablished on $? 8ay $%&'# the BIS is the world s oldest international financialorganization

!s its c stomers are central banks and international organizations# the BIS do not acceptdeposits from# or provide financial services to# private individ als or corporate entities TheBIS strongly advises ca tion against fra d lent schemes

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Organization and governance:

The BIS's people

• The BIS c rrently employs @A? staff from 9A co ntries

• !ll members of staff are re5 ired to behave in accordance with general principles laiddown in the staff code of cond ct The BIS ompliance harter describes the g iding

principles for managing compliance at the Bank

Governance structures

• The governance of the Bank is determined by its Stat tes# which were last revisedin ne C''9 following a review of the governance of the Bank by three leading

independent legal e*perts

• The three most important decisionDmaking bodies within the Bank are2

• The -eneral 8eeting of member central banks

• The Board of 3irectors

• The 8anagement of the Bank

3ecisions taken at each of these levels concern the r nning of the Bank and as s ch aremainly of an administrative and financial nat re# related to its banking operations# the

policies governing internal management of the BIS and the allocation of b dgetary reso rcesto the different b siness areas

The Bank s administrative and b dgetary r les apply to the committees hosted by the BIS

<ther aspects of the committees governance are the responsibility of the body to which eachreport

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Me ber central ban!s:

8embers are the central banks or monetary a thorities of2

!lgeria# !rgentina# ! stralia# ! stria# Belgi m# Bosnia and 6erzegovina# Brazil# B lgaria#anada# hile# hina# olombia# roatia# the zech 1ep blic# 3enmark# >stonia# /inland#

/rance# -ermany# -reece# 6ong 7ong S!1# 6 ngary# Iceland# India# Indonesia# Ireland#Israel# Italy# apan# 7orea# 4atvia# 4ith ania# 4 *embo rg# 8acedonia (/+1)# 8alaysia#8e*ico# the Eetherlands# Eew Fealand# Eorway# ,er # the ,hilippines# ,oland# ,ort gal#1omania# 1 ssia# Sa di !rabia# Serbia# Singapore# Slovakia# Slovenia# So th !frica# Spain#

Sweden# Switzerland# Thailand# T rkey# the Gnited !rab >mirates# the Gnited 7ingdom andthe Gnited States# pl s the > ropean entral Bank

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• Since $%&'# central bank cooperation at the BIS has taken place thro gh the reg lar meetings in Basel of central bank -overnors and e*perts from central banks and other agencies In s pport of this cooperation# the Bank has developed its own research infinancial and monetary economics and makes an important contrib tion to thecollection# compilation and dissemination of economic and financial statistics

• !part from fostering monetary policy cooperation# the BIS has always performed"traditional" banking f nctions for the central bank comm nity (e g gold and foreigne*change transactions)# as well as tr stee and agency f nctions The BIS was theagent for the > ropean ,ayments Gnion (>,G# $%9'D9:)# helping the > ropeanc rrencies restore convertibility after the Second 0orld 0ar Similarly# the BIS haveacted as the agent for vario s > ropean e*change rate arrangements# incl ding the

> ropean 8onetary System (>8S# $%?%D%A) which preceded the move to a singlec rrency

Or#an"&at"on o$ central ban!s:

!s an organization of central banks# the BIS seek to make monetary policy more predictable and transparent among its @' member central banks# e*cept in the case of> rozone co ntries which forfeited the right to cond ct monetary policy in order to

implement the e ro 0hile monetary policy is determined by most sovereign nations# itis s b;ect to central and private banking scr tiny and potentially to spec lation thataffects foreign e*change rates and especially the fate of e*port economies /ail res tokeep monetary policy in line with reality and make monetary reforms in time#

preferably as a sim ltaneo s policy among all @' member banks and also involving theInternational 8onetary / nd# have historically led to losses in the billions as banks tryto maintain a policy sing open market methods that have proven to be based on

nrealistic ass mptions

• entral banks do not nilaterally "set" rates# rather they set goals and intervene singtheir massive financial reso rces and reg latory powers to achieve monetary targetsthey set <ne reason to coordinate policy closely is to ens re that this does not becometoo e*pensive and that opport nities for private arbitrage e*ploiting shifts in policy ordifference in policy are rare and 5 ickly removed

• Two aspects of monetary policy have proven to be partic larly sensitive# and the BIStherefore have two specific goals2 to reg late capital ade5 acy and make reservere5 irements transparent

• 1eg lates capital ade5 acy• apital ade5 acy policy applies to e5 ity and capital assets These can be overval ed

in many circ mstances beca se they do not always reflect c rrent market conditions or ade5 ately assess the risk of every trading position !ccordingly the BIS re5 ires the

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capitalHasset ratio of central banks to be above a prescribed minim m internationalstandard# for the protection of all central banks involved

• The BIS s main role is in setting capital ade5 acy re5 irements /rom an international point of view# ens ring capital ade5 acy is the most important problem betweencentral banks# as spec lative lending based on inade5 ate nderlying capital andwidely varying liability r les ca ses economic crises as "bad money drives o t good"(-resham s 4aw)

• >nco rages reserve transparency• 1eserve policy is also important# especially to cons mers and the domestic economy

To ens re li5 idity and limit liability to the larger economy# banks cannot createmoney in specific ind stries or regions witho t limit To make bank depositing and

borrowing safer for c stomers and red ce risk of bank r ns# banks are re5 ired to setaside or "reserve"

• 1eserve policy is harder to standardize as it depends on local conditions and is often

fineDt ned to make ind stryDspecific or regionDspecific changes# especially within largedeveloping nations /or instance# the ,eople s Bank of hina re5 ires rban banks tohold ? reserves while letting r ral banks contin e to hold only @ # andsim ltaneo sly telling all banks that reserve re5 irements on certain overheatedind stries wo ld rise sharply or penalties wo ld be laid if investments in them did notstop completely The ,Bo is th s n s al in acting as a national bank# foc sed on theco ntry not on the c rrency# b t its desire to control asset inflation is increasinglyshared among BIS members who fear "b bbles"# and among e*porting co ntries thatfind it diffic lt to manage the diverse re5 irements of the domestic economy#especially r ral agric lt re# and an e*port economy# especially in man fact red goods

• >ffectively# the ,Bo sets different reserve levels for domestic and e*port styles ofdevelopment 6istorically# the Gnited States also did this# by dividing federal monetarymanagement into nine regions# in which the lessDdeveloped western Gnited States hadlooser policies

• /or vario s reasons it has become 5 ite diffic lt to acc rately assess reserves on morethan simple loan instr ments# and this pl s the regional differences has tended todisco rage standardizing any reserve r les at the global BIS scale 6istorically# the BISdid set some standards which favo red lending money to private landowners (at abo t9 to $) and forDprofit corporations (at abo t C to $) over loans to individ als These

distinctions reflecting classical economics were s perseded by policies relying onndifferentiated market val esJmore in line with neoclassical economics

• -oal2 a financial safety net• The relatively narrow role the BIS plays today does not reflect its ambitions or

historical role• ! "wellDdesigned financial safety net# s pported by strong pr dential reg lation and

s pervision# effective laws that are enforced# and so nd acco nting and disclos reregimes"# are among the Bank s goals In fact they have been in its mandate since itsfo nding in $%&' as a means to enforce the Treaty of .ersailles

• The BIS has historically had less power to enforce this "safety net" than it deems

necessary 1ecent head !ndrew rockett has bemoaned its inability to "hardwire thecredit c lt re"# despite many specific attempts to address specific concerns s ch as the

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growth of offshore financial centres (</ s)# highly leveraged instit tions (64Is)# largeand comple* financial instit tions (4 /Is)# deposit ins rance# and especially thespread of money la ndering and acco nting scandals

Role "n ban!"n# superv"s"on 2

The BIS provides the Basel ommittee on Banking S pervision with its $?Dmember

secretariat# and with it has played a central role in establishing the Basel apital!ccords of $%:: and C''A There remain significant differences between GnitedStates# > ropean Gnion# and Gnited Eations officials regarding the degree of capitalade5 acy and reserve controls that global banking now re5 ires , t e*tremelysimply# the Gnited States# as of C''@# favored strong strict central controls in thespirit of the original $%:: accords# while the >G was more inclined to a distrib tedsystem managed collectively with a committee able to approve some e*ceptions

• The GE agencies# especially I 4>I# are firmly committed to f ndamental riskmeas res2 the soDcalled triple bottom line and were becoming critical of central

banking as an instit tional str ct re for ignoring f ndamental risks in favo r oftechnical risk management

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A BRIEF ISTOR( OF T E BASEL %OMMITTEE

The breakdown of the Bretton 0oods system of managed e*change rates in $%?&soon led to cas alties <n C@ ne $%?A# 0est -ermanyKs /ederal BankingS pervisory <ffice withdrew Bankha s 6erstattKs banking license after finding thatthe bankKs foreign e*change e*pos res amo nted to three times its capital Banks

o tside -ermany took heavy losses on their nsettled trades with 6erstatt# adding aninternational dimension to the debacle

In <ctober the same year# the /ranklin Eational Bank of Eew +ork also closed itsdoors after racking p h ge foreign e*change losses Three months later# in responseto these and other disr ptions in the international financial markets# the central bank governors of the -$' co ntries established a ommittee on Banking 1eg lations andS pervisory ,ractices

4ater renamed as the Basel ommittee on Banking S pervision# the ommitteewas designed as a for m for reg lar cooperation between its member co ntries on

banking s pervisory matters Its aim was and is to enhance financial stability byimproving s pervisory knowhow and the 5 ality of banking s pervision worldwideThe ommittee seeks to achieve its aims by setting minim m s pervisorystandards= by improving the effectiveness of techni5 es for s pervisinginternational banking b siness= and by e*changing information on nationals pervisory arrangements !nd# to engage with the challenges presented by diversifiedfinancial conglomerates# the ommittee also works with other standardDsetting bodies#incl ding those of the sec rities and ins rance ind striesSince the first meeting in /ebr ary $%?9# meetings have been held reg larly three or

fo r times a year !fter starting life as a -$' body# the ommittee e*panded itsmembership in C''% and now incl des C? ; risdictions The ommittee now reportsto an oversight body# the -ro p of entral Bank -overnors and 6eads of S pervision(-6<S)# which comprises central bank governors and (nonDcentral bank) heads of s pervision from member co ntries

o ntries are represented on the ommittee by their central bank and also by thea thority with formal responsibility for the pr dential s pervision of banking b sinesswhere this is not the central bank The present hairman of the ommittee is StefanIngves# -overnor of the 1iksbank# SwedenKs central bank

The ommitteeKs decisions have no legal force 1ather# the ommittee form latess pervisory standards and g idelines and recommends statements of best practice in the

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e*pectation that individ al national a thorities will implement them In this way# theommittee enco rages convergence towards common standards and monitors their

implementation# b t witho t attempting detailed harmonization of member co ntriesKs pervisory approaches !t the o tset# one important aim of the ommitteeKs work was to

close gaps in international s pervisory coverage so that Eo foreign banking establishment wo ld escape s pervision= andThat s pervision wo ld be ade5 ate and consistent across member ; risdictions ! firststep in this direction was the paper iss ed in $%?9 that came to be known as theL oncordat”# which set o t principles by which s pervisory responsibility sho ld beshared for banksK foreign branches# s bsidiaries and ;oint vent res between host and

parent (or home) s pervisory a thorities In 8ay $%:&# the oncordat was revised and reDiss ed as Principles for the supervision of banks’ foreign establishments.

In !pril $%%'# a s pplement to the $%:& oncordat was iss ed with the aim of improving the crossDborder flow of pr dential information between banking s pervisorsIn ne $%%C# certain principles of the oncordat were reform lated as minim mstandards These standards were comm nicated to other banking s pervisorya thorities# who were invited to endorse them and p blished in ly $%%C In <ctober $%%@# the ommittee released a report on The supervision of cross-border banking, drawn

p by a ;oint working gro p that incl ded s pervisors from nonD-$' ; risdictions andoffshore centers The doc ment presented proposals for overcoming the impediments toeffective consolidated s pervision of the crossDborder operations of international banksS bse5 ently endorsed by s pervisors from $A' co ntries# the report helped to forgerelationships between s pervisors in home and host co ntries The involvement of nonD

-$' s pervisors also played a vital part in the form lation of the ommitteeKs Core principles for effective banking supervision in the following year The impet s for thisdoc ment came from a $%%@ report by the -? finance ministers that had called for effective s pervision in all important financial marketplaces# incl ding those of emergingeconomies

OB)E%TI*ES OF T E BASEL %A+ITAL A%%OR,

In its ne $%%% ons ltative ,aper# the ommittee o tlined its ob;ectives in developing acomprehensive approach to capital ade5 acy !s the ommittee contin es to refine thenew framework# it maintains the belief that2• The !ccord sho ld contin e to promote safety and so ndness in the financial System

and# as s ch# the new framework sho ld at least maintain the c rrent overall level of capital in the system=

• The !ccord sho ld contin e to enhance competitive e5 ality=• The !ccord sho ld constit te a more comprehensive approach to addressing risks=• The !ccord sho ld contain approaches to capital ade5 acy that are appropriately

sensitive to the degree of risk involved in a bankKs positions and activities=• The !ccord sho ld foc s on internationally active banks# altho gh its nderlying

principles sho ld be s itable for application to banks of varying levels of comple*ityand sophistication

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BASEL A%%OR, I

/rom $%@9 to $%:$ there were abo t eight bank fail res (or bankr ptcies) in theGnited States Bank fail res were partic larly prominent d ring the :'s# a time which is

s ally referred to as the " savings and loan crisis " Banks thro gho t the world werelending e*tensively# while co ntries e*ternal indebtedness was growing at an

ns stainable rate !s a res lt# the potential for the bankr ptcy of the ma;or international banks beca se grew as a res lt of low sec rity In order to prevent this risk# the Basel

ommittee on Banking S pervision # comprised of central banks and s pervisorya thorities of $' co ntries# met in $%:? in Basel# Switzerland

The committee drafted a first doc ment to set p an international minim mamo nt of capital that banks sho ld hold This minim m is a percentage of the totalcapital of a bank# which is also called the minim m riskDbased capital ade5 acy In $%::#the Basel I apital !ccord (agreement) was created The Basel II apital !ccord followsas an e*tension of the former# and was implemented in C''? In this article# we ll take a

look at Basel I and how it impacted the banking ind stry

The +urpose o$ Basel I:

In $%::# the Basel I apital !ccord was created The general p rpose was to2

$ Strengthen the stability of international banking system

C The basic achievement of Basel I have been to define bank capital and the soDcalled bank capital ratio In order to set p a minim m riskDbased capital ade5 acy applyingto all banks and governments in the world# a general definition of capital wasre5 ired Indeed# before this international agreement# there was no single definition of

bank capital The first step of the agreement was th s to define it

T-o.T"ere/ %ap"tal :

Basil I defines capital based on two tiers2

1. Tier 1 (Core Capital) 2

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Tier $ capital incl des stock iss es (or shareholders e5 ity) and declared reserves#s ch as loan loss reserves set aside to c shion f t re losses or for smoothing o t incomevariations

. Tier (!upplementar" Capital) 2Tier C capital incl des all other capital s ch as gains on investment assets# longDterm

debt with mat rity greater than five years and hidden reserves (i e e*cess allowance forlosses on loans and leases) 6owever# shortDterm nsec red debts (or debts witho tg arantees)# are not incl ded in the definition of capital

redit 1isk is defined as the risk weighted asset (10!) of the bank# which are banks assets weighted in relation to their relative credit risk levels !ccording to BaselI# the total capital sho ld represent at least : of the bank s credit risk (10!)

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BASEL A%%OR, II

By the late $%%'s# banks had become m ch more sophisticated in their operationsand risk management and were increasingly able to find ways to red ce a bank s risk

weighted assets in ways that did not reflect lower real risk (what has become known as

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reg latory capital arbitrage) It was therefore decided that a new capital standard wasre5 ired and work began on Basel II

Basel II is the second of the Basel !ccords # (now e*tended and effectivelys perseded by Basel III )# which are recommendations on banking laws and reg lationsiss ed by the Basel ommittee on Banking S pervision Basel II# initially p blished in

ne C''A# was intended to create an international standard for banking reg lators tocontrol how m ch capital banks need to p t aside to g ard against the types of financialand operational risks banks (and the whole economy) face <ne foc s was to maintains fficient consistency of reg lations so that this does not become a so rce of competitiveine5 ality amongst internationally active banks !dvocates of Basel II believed that s chan international standard co ld help protect the international financial system from thetypes of problems that might arise sho ld a ma;or bank or a series of banks collapse Intheory# Basel II attempted to accomplish this by setting p risk and capital management

re5 irements designed to ens re that a bank has ade5 ate capital for the risk the bank e*poses itself to thro gh its lending and investment practices -enerally speaking# theser les mean that the greater risk to which the bank is e*posed# the greater the amo nt of capital the bank needs to hold to safeg ard its solvency and overall economic stability

,olitically# it was diffic lt to implement Basel II in the reg latory environment prior to C'':# and progress was generally slow ntil that year s ma;or banking crisisca sed mostly by credit defa lt swaps #mortgageDbacked sec rity markets andsimilar derivatives

Structure o$ Basel II:

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Basel II consists of & pillars which enshrine the key principles of the new regimeollectively# they go well beyond the mechanistic calc lation of minim m capital levels

set by Basel I# allowing lenders to se their own models to calc late reg latory capitalwhile seeking to ens re that lenders establish a c lt re with risk management at the heart

of the organization p to the highest managerial level Basel II ses a "three pillars"concept M ($) minim m capital re5 irements (addressing risk)# (C) s pervisory review and(&)market discipline

The Basel I accord dealt with only parts of each of these pillars /or e*ample2 withrespect to the first Basel II pillar# only one risk# credit risk# was dealt with in a simplemanner while market risk was an aftertho ght= operational risk was not dealt with at all

The $"rst p"llar 0M"n" u %ap"tal Re1u"re ent2

The first pillar deals with maintenance of reg latory capital calc lated for threema;or components of risk that a bank faces2 credit# operational risk # and market risk <ther risks are not considered f lly 5 antifiable at this stage

The Secon/ +"llar 0Superv"sor3 Rev"e-2

+"llar 4 is meant to identify risk factors not capt red in ,illar $# giving reg latorsdiscretion to ad; st the reg latory capital re5 irement against that calc lated nder ,illar $ /or most lenders# the ,illar C process res lts in a higher reg latory capital re5 irementthan calc lated nder ,illar $ alone ,illar C re5 ires banks to think abo t the wholespectr m of risks they might face incl ding those not capt red at all in ,illar $ It

provides a framework for dealing with systemic risk # pension risk #concentrationrisk #strategic risk # rep tational risk # li5 idity risk and legal risk # which the accordcombines nder the title of resid al risk Banks can review their risk management system

The Th"r/ +"llar 0 8arket 3iscipline )

+"llar 5 is designed to increase the transparency of lenders risk profile by re5 iring themto give details of their risk management and risk distrib tions This pillar aims tocomplement the minim m capital re5 irements and s pervisory review process bydeveloping a set of disclos re re5 irements which will allow the market participants toga ge the capital ade5 acy of an instit tion

8arket discipline s pplements reg lation as sharing of information facilitates assessmentof the bank by others# incl ding investors# analysts# c stomers# other banks# and ratingagencies# which leads to good corporate governance The aim of ,illar & is to allowmarket discipline to operate by re5 iring instit tions to disclose details on the scope of application# capital# risk e*pos res# risk assessment processes# and the capital ade5 acy of

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the instit tion It m st be consistent with how the senior management# incl ding the board# assess and manage the risks of the instit tion

0hen market participants have a s fficient nderstanding of a bank s activities and thecontrols it has in place to manage its e*pos res# they are better able to disting ish

between banking organizations so that they can reward those that manage their risks pr dently and penalize those that do not

These disclos res are re5 ired to be made at least twice a year# e*cept 5 alitativedisclos res providing a s mmary of the general risk management ob;ectives and policieswhich can be made ann ally Instit tions are also re5 ired to create a formal policy onwhat will be disclosed and controls aro nd them along with the validation and fre5 encyof these disclos res

I ple entat"on O$ Basel Accor/ II In In/"a

In India# 1eserve Bank of India has implemented the Basel II standardized norms on&$ 8arch C''% and banks are mandated to se Standardized !pproach for credit risk andBasic Indicator !pproach for operational risk

>*isting 1BI norms for banks in India (on September C'$')2 ommon e5 ity (incl dingof b ffer)2 & @ (B ffer Basel C re5 irement re5 irements are zero )= Tier $ re5 irement2@ Total apital2 % of risk weighted assets

!ccording to the draft g idelines p blished by 1BI the capital ratios are set to become2 ommon >5 ity as 9 N C 9 ( apital onservation B ffer) N 'MC 9( o nter yclical B ffer)# ? of Tier $ capital and minim m capital ade5 acy ratio(e*cl ding apital onservation B ffer) of % of 1isk 0eighted !ssets Th s the act alcapital re5 irement is between $$ and $& 9 (incl ding apital onservation B ffer and

o nter yclical B ffer)

In s mmary# Basel II aims not only to align reg latory capital more closely with risk

b t to promote a more sophisticated approach to risk management and to create a risk c lt re inside lenders# whereby the organization# and senior management in partic lar#

nderstand risk and remain alert to risk as a core iss e

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Basel III

)apital

4everage

Systemic 1isks OInterconectedness

4i5"idity

INTRO,6%TION TO BASEL III

Basel III (or the Third Basel !ccord) is a global# vol ntary reg latory standard on bank capital ade5 acy# stress testing and market li5 idity risk It was agreed pon by themembers of the Basel ommittee on Banking S pervision in C'$'M$$# and wassched led to be introd ced from C'$& and to be implemented ntil C'$% Basel III wasdeveloped in response to the deficiencies in financial reg lation revealed by the C'':financial crisis Basel III is s pposed to strengthen banking system by improving 5 alityof bankKs capital# bankKs li5 idity and bankKs leverage

Basel III

Ob7ect"ves o$ Basel III

!ccording to B BS the main two ob;ectives of Basel III are2

i To strengthen global capital and li5 idity reg lations with goal of promoting moreresilient banking sector

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ii To improve banking sectorKs ability to withstand shocks arising from financial or economic stress# which wo ld red ce risk of spillover of financial sector to realeconomy

Based on the above mentioned ob;ectives the Basel IIIKs recommendations are dividedinto three parts2

i apital M Incl des 5 ality and 5 antity of capital# risk weightage to assets# leverageratio# capital conservation b ffer# co nterDcyclical b ffer

ii 4i5 idity M Short term O long term ratiosiii <ther elements pertaining to overall stability of financial system

BASEL III IN IN,IA

RBI G6I,ELINES FOR BASEL III

1e5 irements !s per 1BI

8inim m 1atio of Total apital To 10!s %

8inim m 1atio of ommon >5 ity to 10!s 9 9'

!dditional Tier $ apital $ 98inim m Tier I capital to 10!s ? ''

8a*im m Tier C apital(within Total apital)

C

apital onservation B ffer comprised of commone5 ity to 10!s ( B)

C 9'

8inim m ommon >5 ity Tier $ ratio pl s capitalconservation b ffer to 10!Ks

: ''

8inim m Total apital N B $$ 9

IM+A%T OF BASEL III RATIOS ON IN,IAN BANKS

%ap"tal Re1u"re ent:

The average Tier $ capital ratio of Indian banks is aro nd $' per cent with more than:9 of it comprising common e5 ity The reg latory ad; stments will red ce the availablee5 ity capital only marginally 6ence the task of raising capital will not be so onero s for Indian Banks

!s 5 oted by 1BI former -overnor 3 S bbarao in September Indian banks wo ldre5 ire an additional capital of 1s 9 trillion to meet the new global banking norms <f thetotal 1s 9 trillion# e5 ity capital will be 1s $ ?9 trillion# while 1s & C9 trillion will have to

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come as the nonDe5 ity portion This capital can be raised thro gh markets and thro gh-overnment (in ,SBKs)

!lso nder Basel III# the trading book e*pos res# especially those having credit riskand 1esec ritizations e*pos res in both banking and trading book attract enhanced capitalcharges The .! for <T derivatives will also attract additional capital Since the trading

book and <T derivative portfolios of Indian banks are very small and they do not have anye*pos res to reDsec ritized instr ments# impact of these changes in capital reg lation on their

balance sheets is insignificant

Levera#e Rat"os

1BI already had Stat ary 4i5 idity 1atio (S41)# as a reg latory mandate The stat toryli5 idity portfolio of Indian banks is constit ted only for moderate risk i e 8arket 1isk and itis e*cl ded from leverage ratio The tier I capital of many Indian banks is comfortable (more

than : as per Basel II reg lation of Tier I capital) and their derivatives activities are notvery large So leverage ratio will not be a binding constraint for Indian Banks

L"1u"/"t3 Rat"o

The ma;or challenge for banks in implementing the li5 idity standards is to developthe capability to collect the relevant data acc rately and to form late them for identifying thestress scenario with acc racy 6owever positive side for Indian banks# they have a s bstantialamo nt of li5 id assets which will enable them to meet re5 irements of Basel III

In India# banks are stat torily re5 ired to hold minim m reserves of highD5 ality li5 idassets rrently# s ch reserves (stat tory li5 idity ratio M S41) are re5 ired to be maintainedat a minim m of CA per cent of net demand and time liabilities Since these reserves are partof the minim m stat tory re5 irement# the 1eserve Bank faces a dilemma whether and howm ch of these reserves can be allowed to be reckoned towards the 4 1 If these reserves arenot reckoned towards the 4 1 and banks are to meet the entire 4 1 with additional li5 idassets# the proportion of li5 id assets in total assets of banks will increase s bstantially#thereby lowering their income significantly Th s the 1eserve Bank is e*amining to whate*tent the S41 re5 irements co ld be reckoned towards the li5 idity re5 irement nder Basel III

%ON%L6SION

The Basel I apital !ccord aimed to assess capital in relation to credit risk# or the risk that a loss will occ r if a party does not f lfil its obligations It la nched the trend towardincreasing risk modelling research= however# its overDsimplified calc lations# andclassifications have sim ltaneo sly called for its disappearance# paving the way for theBasel II apital !ccord and f rther agreements as the symbol of the contin o s refinementof risk and capital Eevertheless# Basel I# as the first international instr ment assessing the

8/9/2019 Bis and Basel

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importance of risk in relation to capital# will remain a milestone in the finance and bankinghistory

-iven the c rrent environment# the 1BI has e*tended the final date for BaselDIII to C'$:This is positive as ,SB s will get more time for preparation 8oreover# capitalded ction now starts at C' against A' stip lated earlier This move is enco raging andsho ld ens re smoother migration to the new framework The 1BI wants to implementthe recommendations of the Basel ommittee on Banking S"pervisionK to make thefinancial system safe It is aimed at protecting the depositors and to prevent a C'':Dlikecrises 8oreover# the perception of a lower standard reg latory regime will p"t Indian

banks at a disadvantage in global competition 1BI is c"rrently working on operationalaspects of implementation of the )o"ntercyclical )apital B"ffer Besides# certain other

proposals viz (3efinition of )apital 3isclos"re 1e5"irements(# apitalization of Bank >*pos res to entral o nterparties etc # are also engaging the attention of the Basel)ommittee at present Therefore# as per 1BI# the final proposals of the Basel ommittee on

these aspects will be considered for implementation# to the e*tent applicable# in f"t"re/"rther# for the financial year ending 8arch &$# C'$&# banks will have to disclose thecapital ratios comp"ted nder the e*isting g idelines (Basel II) on capital ade5"acy aswell as those comp"ted "nder the Basel III capital ade5 acy framework India sstr ggling banking sector will face a period of lower profitability as it seeks to raise at least1s 9''' billion in e*tra capital to meet the new BaselDIII

Both internationally and in India bankers have e*pressed their concerns over theadditional capital re5 irements nder Basel III It is feared that these additional capitalre5 irements# leverage ratios wo ld h rt profitability of the bank B t st dies have shown

that tho gh the Basel III g idelines wo ld impose short term costs on the banks in the longterm it wo ld strengthen the financial system and make the banks more resilient againststress !lso investors wo ld appreciate the fact that tho gh the ret rns have lowered therisk has also red ced

In India Basel III wo ld make o r banks compliant with global reg lations# this wo ldhelp the Indian banks who wish to e*pand overseas !lso thro gh Basel III wo ldstrengthen the financial system apital re5 irements nder Basel III may ca se somesmaller banks to merge with the larger banks leading to consolidation of banks In theinitial stages Basel III will re5 ire banks to inc r e*pendit re on both capital as well as IT

infrastr ct re for acc rate risk meas rement B t adoption of a more risk sensitiveapproach will increase the profitability of the banks in the long r n !lso as the banks will

be perceived to be more stable and th s less risky the cost of capital will also decrease inf t re

Eow apart from raising capital the other challenges ahead of the banks are improvingtheir operational efficiency to decrease their EI8 margins !lso red cing their E,! levelsin the c rrent macroeconomic scenario will be a ma;or challenge for the banks