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Tuesday, 03 January 2012 00:00
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Government has to rethink ownership role with Basle III


Known for its conservative approach to monetary policy, RBI has decided it wants to be ahead of the curve when it comes to implementing Basel III guidelines. By making sure that the Indian system is ready by 2017 rather than 2019, RBI has set out an aggressive timeline in ensuring Indian banks are well-capitalised. The issue however is how this capital is to be raised. To sustain growth of 20% per annum in credit for the next 5 years (assuming a lower growth for this year), public sector banks would need another R5 lakh crore of additional capital, of which around R3 lakh crore or so would have to come from common equity or core capital. This works out to R50-60,000 crore a year as compared to the R20,000 crore or so that banks are able to get through ploughing back of profits and additional equity capital. Clearly, there is a wide gap to fill. Since, under Basel III, there is more emphasis on common equity, public sector banks in India will have a challenge when it comes to raising fresh equity—the flip side is that these banks can reduce dividend payouts with relatively greater ease than private banks can. Given the government does not have the kind of money that these banks need, lowering its equity stake

is the only solution—while this looks like an easy policy step, in reality it will be a tough one.

Since the objective of going in for Basel III norms is to improve the banking sector’s ability to absorb shocks arising from financial and economic stress—of the kind we’ve seen in the West after the Lehman crisis where the spill-over effects from the financial sector have moved to the real sector—the idea of the capital conservation buffer (in the form of common equity, and equalling 2.5% of risk weighted assets) is a good one. This will enable banks construct capital buffers that can be reduced if there are losses during a period of stress. This will also ensure that we will not reach a state where banks have to breach the minimum capital requirement stipulations.

A ticklish issue for banks will be additionally to grapple with the issue of reclassification of what constitutes core capital and raising capital through hybrid instruments which would be beyond the realm of tier I under Basel III. Getting all these things right is the challenge for banks as there will be a cost involved in terms of meeting these requirements. That means going back to the drawing board ASAP.


Last Updated ( Friday, 06 January 2012 09:08 )

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