The Hindu Business Line : Basel II norms: RBI asks banks to draw road map by year-end

THE level of rating penetration by rating agencies in India are not very significant and their lack of rating issuers, rather than issues, will pose to be a challenge as banks in India attempt to implement Basel II norms, said the Reserve Bank of India. Rating agencies do not rate companies or banks themselves but only the particular issue of capital or debt.

Speaking at a seminar on Basel II at Washington recentlyt, Ms Kishori J. Udeshi, Deputy Governor, Reserve Bank of India enumerated the challenges the Indian banking system will face on migration to the new more stringent capital norms. She said encouraging ratings of issuers would be a challenge.

RBI has introduced risk-based supervision in 23 banks on a pilot basis and has asked banks to draw a road map by end December 2004 for complying with Basel II. RBI is of the opinion that there is ample evidence of the capacity of the Indian banking system to migrate smoothly to Basel II. At a minimum, all banks in India, to begin with, will adopt Standardised Approach for credit risk and Basic Indicator Approach for operational risk. After adequate skills are developed, both in banks and at supervisory levels, some banks may be allowed to migrate to the internal ratings-based (IRB) approach.

Basel II provides scope for the supervisor to prescribe higher than the minimum capital levels for banks for, among others, interest rate risk in the banking book and concentration of risks / risk exposures. As already stated, RBI has initiated supervisory capacity building to identify slackness and to assess/quantify the extent of additional capital which may be required to be maintained by such banks. "The magnitude of this task to be completed by December 2006, when we in India have as many as 100 banks, is daunting," said the RBI circular.

Whether the internal models approved by the head offices of foreign banks and the home country supervisor adopted by the Indian branches of these banks need to be validated again by the Reserve Bank is another point of debate.

RBI feels consistent prudential norms in good and bad times are better than calibrated prudential norms to counter pro-cyclicality.

The existence of large and complex financial conglomerates could potentially pose a systemic risk and it would be necessary to put in place supervisory policies to address this, said the circular.

Another challenge could be that banks adopting IRB approach will be much more risk sensitive than the banks on Standardised Approach, since even a small change in degree of risk might translate into a large impact on additional capital requirement for the IRB banks. Hence IRB banks could avoid assuming high-risk exposures and the system as a whole may maintain lower capital than warranted.

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