Indian Banks and BASEL Accord

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 Bank Losses
• A bank may also experience losses in the course of
its operations. They may be broadly of two types:
1. Expected Losses: These are mitigated by a
combination of product, pricing and according to
the loss provisions set up by the bank depending
upon the analysis of customer
2. Unexpected Losses: These are mitigated by
capital funds which might arise out of portfolio
choice and to protect the depositor’s money.

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 Bank Capital
• It is a source of fund divided into shareholders
subscribed shares and Reserves
• Higher the Capital----Lower the Risk of failure-----
lower the returns
• Bank Capital is buffer or cushion against insolvency
• It absorbs losses with current earnings
• It is used for acquisition of assets
• It becomes major source of loan funds

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 Capital Adequacy
Answer Two questions: How much Capital and for
what purpose?
• Public confidence
• To meet unforeseen losses
• To meet changes in Monetary Policy
• To meet pressure of Development Agenda of Govt
• To Expand
• RBI requirement

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 Measuring Capital Adequacy
• Capital Adequacy Ratio (CAR) which is linked
with credit risk.
• In layman's terms, the capital adequacy ratio
measures a bank's capital as a percentage of
its total debt exposure.
• CAR or CRAR ( Capital to Risk weighted Asset
Ratio)=

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 CAR
• For example, the risk attached to a loan lent to the government is
0%, but the amount of loan lent to individuals is extremely high in
percentage.
•  A percentage is used to represent the ratio.
•  In general, a higher ratio indicates greater safety.
•  A low ratio, on the other hand, indicates that the bank does not
have enough capital to cover the risk associated with its assets.
•  As a result, it is capable of resolving any negative crisis that arises
during a recession.
•  A very high ratio may indicate that the bank is not making the
best use of its capital by lending to its customers.

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 Tier 1 and Tier 2 Capital
• The Bank of International Settlements
classifies capital into Tier 1 and Tier 2 based
on its function and quality.
• Tier 1 capital is the primary metric used to
assess a bank's financial health. It includes
shareholder equity and retained earnings,
both of which are reported on financial
statements.

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 Tier 1
• Tier 1 capital can absorb losses without requiring
a bank to stop trading.
• This includes ordinary share capital, equity
capital, audited revenue reserves, and intangible
assets.
• It is also referred to as core capital.
• This is permanently available capital that can be
used to absorb losses incurred by a bank without
forcing it to cease operations.
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 Tier 2
• Tier 2 capital can absorb losses if the bank goes
bankrupt, providing depositors with a lesser
level of protection.
• Unaudited reserves, unaudited retained
earnings, and general loss reserves make up this
category.
• This capital absorbs losses after a bank loses all
of its tier 1 capital and is used to cushion losses
if the bank is winding up.
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Example of Capital Adequacy Ratio

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• Bank ABC has Tier -1 Capital of Rs.400000 and
Tier -2 Capital of Rs.100000. Risk-Weighted
Assets are worth of Rs.200000. Now let us
calculate the Capital Adequacy Ratio.
• Let us consider the Tier -1 Capital value is
Rs.190000000.00 and Tier-2 Capital value of
Rs.60000000 and the Risk Weighted Asset
value is evaluated as Rs.15151515.20. Now let
us calculate the Capital Adequacy Ratio.
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Ex 1
Capital Adequacy Ratio = (400000 + 100000) /
200000
Capital Adequacy Ratio = 2.5
Ex-2
Capital Adequacy Ratio = (190000000 +
60000000) / 15151515.20
Capital Adequacy Ratio = 16.50
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 3 pillars
• Minimum Capital
• Supervisory Review Process
• Disclosure and Market Discipline

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 BASEL Banking Accord
• These are the norms issued by BASEL committee on
Banking Supervision(BCBS), formed under the auspices of
Bank of International Settlements(BIS) located in Basel,
Switzerland. The committee formulate and recommend
best practices in banking industry.
• BASEL I, BASEL II and BASEL III norms are introduced since
1988 specifying the uniform guidelines to be followed by
the banks all over the world.
• Indian Banks had to compulsorily adopt BASEL III accord by
31st March 2019 which was later extended to January
2023.
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 Objective
It aims to-
• Stabilise International Banking system
• Fair and consistent practices in order to decrease
competitive inequality
• Increase the ability of banks to absorb shocks
arising from financial and economic stress
• Improve risk management and governance at
banks
• Strengthen the bank’s transparency and disclosure
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 BASELIII Accord
Three pillars of BASEL norms are as follows:
Minimum Capital: Banks must hold capital against 8% of their
assets after adjusting their assets for the risk. (Assets are having
four classification of provision requirement 0%, 20%, 50% and
100%).
• According to latest guidelines cushion of capital in the form of
Capital Conservation Buffer of 2.5% to deal with increased stress
is to be maintained by the banks.
• Counter Cycling Buffer to increase capital requirement in good
times and decrease in bad times is to be maintained. It ranges
from 0% to 2.5 % consisting of common equity or loss absorbing
capital.

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 BASELIII Accord
Supervisory Review:
National regulators ensure that domestic banks
are following the rules
Market Discipline:
It requires enhanced disclosure of risk the bank
must provide to increase the transparency of
the financial position of the bank.

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Stress Test

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 Capital Adequacy Ratio (CAR)
CAR= Bank’s Capital/Risk Weighted Assets
at present is 10.5 %
The LCR is calculated by dividing a bank's high-
quality liquid assets by its total net cash flows,
over a 30-day stress period
Liquidity Coverage Ratio= High Quality Liquid
Assets(HQLA)/ Net Cash outflow over next 30
days
LCR should be more than or equal to 100 %
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 NSFR
The NSFR presents the proportion of long term
assets funded by stable funding and is calculated
as the amount of Available Stable Funding (ASF)
divided by the amount of Required Stable Funding
(RSF) over a one-year horizon.

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 ALM
• ALM is continuously arranging and rearranging
the assets and liabilities of the bank without
infringing the liquidity and safety of the bank
and with the purpose of maximizing the bank’s
profits.

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 Asset Liability Management (ALM) can be defined as
a mechanism to address the risk faced by a bank due
to a mismatch between assets and liabilities either
due to liquidity or changes in interest rates.
 Liquidity is an institution’s ability to meet its liabilities
either by borrowing or converting assets.
 A mismatch may also occur due to changes in interest
rates as banks typically tend to borrow short term
(fixed or floating) and lend long term (fixed or
floating).

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 A comprehensive ALM policy framework focuses on
bank profitability and long term viability by targeting
the net interest margin (NIM) ratio subject to
balance sheet constraints.
NIM= Net Interest Income/Total Earnings or Assets
 Significant among these constraints are maintaining
credit quality, meeting liquidity needs and obtaining
sufficient capital.

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 Process of ALM
• Measurement and Determination of Risk
• Enhancement of Long Term Profitability for a
given level of Risk
• Management of Risk

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 ALCO
The Asset-Liability Committee (ALCO)should be responsible
for ensuring adherence to the limits set by the BOD as well
as for deciding the business strategy in accordance to
budget and the decided risk management objectives.

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 3. ALM Process includes
1. Liquidity risk management
2. Management of market risk
3. Funding and capital planning
4. Profit planning and growth projection
5. Forecasting and analysing ‘What-if scenario’
and preparation of contingency plans

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 CAMELS
• Capital Adequacy
• Asset Quality
• Management
• Earnings
• Liquidity
• Systems, Compliance and Controls

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Domestic banks are rated on CAMELS model, while foreign banks
are rated on CALCS model (capital adequacy, assets quality,
liquidity, compliance, and systems).
The frequency of inspection is generally annual, which can be
increased/reduced depending on the financial position, methods of
operation and compliance record of the bank.
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Pursuant to the government's 4Rs strategy of
Recognition, Resolution, Recapitalisation and
Reforms, Non-Performing Assets (NPAs) of
the banking sector have declined to Rs
8,35,051 crore as on March 31, 2021.

https://www.businesstoday.in/union-budget-
2022/banking/story/banking-sector-to-see-
major-reforms-in-2022-privatisation-idbi-bank-
disinvestment-on-agenda-316861-2021-12-26
NPA
 NPAs recovered by banks via various
channels improved in FY22
• Non-performing assets (NPAs) recovered by scheduled commercial banks
(SCBs) improved to 18.4 per cent of the amount involved in FY22 against 14
per cent in FY21, according to RBI.
• SCBs recovered RS89,661 crore via multiple channels — Lok Adalats, Debt
Recovery Tribunals, Securitisation and Reconstruction of Financial Assets
and Enforcement of Security Interest (SARFAESI) Act, and Insolvency and
Bankruptcy Code (IBC) — in FY22 against Rs4,87,062 crore involved.
• These banks had recovered Rs64,229 crore in FY21 against Rs4,56,274
crore involved, RBI said in its latest report on ‘Trend and Progress of
Banking in India 2021-22’.
• A breakup of the overall Rs89,661 crore recoveries made in FY22 shows
that banks recovered 53 per cent via the IBC route, 30.5 per cent via
SARFAESI Act, 13.5 per cent via DRTs and 3 per cent via Lok Adalats.
Weave a 200 words story involving bank and
banking around this picture

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Weave a 200 words story involving bank and
banking around this picture

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