CHAPTER – 3

RISK MANAGEMENT IN BANKS UNDER BASEL NORMS

Risk Management is a major apprehension for banks and regulators all over
the world. It refers to the practice of identifying potential risks in advance, analysing
them and taking precautionary steps to reduce the risk. Risk is innate and anticipated
in every walk of life, be it the personal life or the industry. Risks are highly
interdependent; even one area of risk can have ramifications for a range of other risk
categories. Risk is distinguished from the term uncertainty, as Frank H. Knight writes,
―The practical difference between the two categories, Risk and Uncertainty, is that in
the former the distribution of the outcome in a group of instances is known (either
through calculation, priority or from statistics of past experience), while in the case of
Uncertainty, this is not true, the reason being in general it is impossible to form a
group of instances, because the situation dealt with is to a high degree unique.‖

Thus, Top Management of banks should attach considerable importance to

improve the ability to identify measure, monitor and control the overall level of risks
undertaken.
RBI has suggested broad parameters of risk management function as follows:
1. Organisational structure.
2. Comprehensive Risk Management Approach.
3. Risk Management Policies approved by the Board which should be consistent
with the broader business strategies, capital strength, management expertise
and overall willingness to assume risk.
4. Guidelines and other parameters used to govern risk taking include detailed
structure of prudential limits.
5. Strong MIS for reporting, monitoring and controlling risks.
6. Well laid out procedures, effective control and comprehensive risk reporting
framework.
7. Separate Risk Management framework independent of Operational
Departments and with clear delineation levels of responsibility for
management of risk.
8. Periodical review and evaluation (RBI, 1999).

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3.1 VARIETY OF RISK

Banks in the process of financial intermediation are confronted with various

kinds of financial and non-financial risks viz. Credit, Market, Liquidity, Interest Rate,
Foreign Exchange Rate, Commodity Price, Legal, Regulatory, Reputational and
Operational etc. The RBI was conscious of the ever increasing dimensions of various
risks faced by the banking system in India and have been initiating steps in direction
of Risk Management. It had introduced measures for managing Liquidity Risk,
Foreign Risk, Credit Risk and Operational Risk. The various types of risks faced by
banks are as follows.

Fig. 3(a) Variety of Risk

Source: Developed by the Author

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3.1.1 Credit Risk

Credit Risk can be defined as the potential of a bank borrower or counterparty

to fail to meet its obligations in accordance with the agreed terms. It is the risk in
which interest or principal or both will not be paid as promised and is estimated by
observing the proportion of assets that are below standard. Transaction Risk or
Default Risk is the alternate terms used for Credit Risk. The two variants of Credit
Risk are Portfolio Risk and Counterparty Risk. The ‗Portfolio Risk‘ comprises
Intrinsic or Concentration Risk. The Credit Risk of banks‘ portfolio depends upon
both internal and external factors. The internal factors are deficiencies in loan
policies/administration; absence of prudential credit concentration limits; deficiencies
in appraisal of borrowers‘ financial position; inadequately defined lending limits for
loan officers/credit committees; excessive dependence on collaterals; inadequate risk
pricing, absence of loan review mechanism and post-sanction surveillance. The
external factors are the state of economy, wide swings in commodity and equity
prices, foreign exchange rates and interest rates, trade restrictions, economic sanctions
and governmental policies.

Another important type of Credit Risk is ‗Counterparty Risk‘. It arises from

non-performance of the trading partners. The non-performance may arise from
counterparty‘s refusal/inability to perform due to adverse price movements or from
external constraints that were not anticipated by the principal. Credit Risk can be
managed by applying various processes as given below:

1. Fair assessment of creditworthiness of borrower before granting loan.

2. Measurement of risk through credit rating or scoring.
3. Banks should fix prudential limits on various aspects of Credit-
Benchmarking, viz. Current Ratio, Debt Equity Ratio and Profitability Ratio
etc.
4. Maximum limit exposure for single/group borrower.
5. Proper loan review mechanism with post sanction follow up can also reduce
the defaults.

3.1.2 Market Risk

Market Risk is defined as the possibility of loss to a bank caused by the

changes in the market variables. It is the risk in which the value of on/off balance
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sheet positions are badly affected by the movements in equity and interest rate
markets, currency exchange rates and commodity prices. Besides it, Market Risk is
the risk to the bank‘s earnings and capital due to changes in the market level of
interest rates or prices of securities, foreign exchange and equities, as well as the
volatilities of those prices (Saddy, 2013).

Managing Market Risk provides a comprehensive and dynamic framework for

measuring, monitoring and managing liquidity, interest rate, foreign exchange and
equity as well as commodity price risk of a bank that needs to be closely integrated
with the business strategy of a bank. ‗Stress Testing and Scenario Analysis‘ are tools
used to assess areas of potential problems in a given portfolio. The conditions
precedent for carrying out stress testing are identifications of future changes in
economic conditions like economics/industry over turns, Market Risk events, liquidity
conditions that could have unfavourable impact on bank‘s portfolio.

Market Risk inculcates Liquidity Risk, Foreign Exchange Risk, Cross Border
or Country Risk and Interest Rate Risk.

a. Liquidity Risk: Bank deposits, generally, have a much shorter contractual

maturity than loans and liquidity. The management needs to provide a cushion to
cover anticipated deposit withdrawals. Liquidity is the ability to accommodate
deposits, reduction in liabilities, to fund the loan growth and possible funding of
the off balance sheet claims. The cash flows are placed in different time buckets
based on future likely behaviour of assets, liabilities and off-balance sheet items
(Kanchu and Kumar, 2013). Liquidity Risk consists of Funding Risk, Time Risk
and Call Risk:
i) Funding Risk: It is the need to replace net outflows due to unarticulated
withdrawal/non-renewal of deposits.
ii) Time Risk: It is the need to compensate for non-receipt of expected inflows
of funds, i.e., performing assets turning into non-performing assets.
iii) Call Risk: It happens on account of crystallisation of contingent liabilities and
inability to undertake profitable business opportunities when desired.

The first step towards liquidity management is to put in place an effective

liquidity management policy, which inter alia, should spell out the funding strategies,
liquidity planning under alternative scenarios, prudential limits, liquidity

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reporting/reviewing etc. The Asset Liability Management is a part of the overall risk
management system in banks, which implies examination of all the assets and
liabilities simultaneously on a continuous basis with a view of ensuring a proper
balance between funds mobilisation and their deployment with respect to their (a)
maturity profiles (b) cost (c) yield and (d) risk exposure, etc. It includes product
pricing for deposits as well as advances, and the desired maturity profile of assets and
liabilities. Mismatches are fixed for various maturities depending upon the asset
liability profile, deposit mix, nature of cash flow, etc.

b. Foreign Exchange Risk: Foreign Exchange Risk is the risk that a bank may
suffer loss as a result of adverse exchange rate movement during a period in
which, it has an option position, either spot or forward or both in same foreign
currency. Even in case, where spot or forward positions in individual currencies
are balanced the maturity pattern of forward transactions may produce
mismatches. Banks are also exposed to interest rate risk, which arises from the
maturity mismatch of foreign currency position. The Value at Risk indicates the
risk that the bank is exposed due to uncovered position of mismatch and these gap
positions are to be valued on daily basis at the prevalent forward market rates.

c. Country Risk: Liberalisation and Globalisation had accelerated the cross border
transactions, consequently the country risk. Country Risk comprises of Transfer
Risk arising on account of possibility of losses due to restrictions on external
remittances; Sovereign Risks associated with lending to government of a
sovereign nation or taking government guarantees; Political Risks when political
environment or legislative process of a country leads to government taking over
the assets of the financial entity (like nationalisation, etc.) and preventing
discharge of liabilities in a manner that is agreed to earlier. Cross Border Risk
arises on account of the borrower being a resident of a country other than the
country where the cross border asset is booked; Currency Risk is the possibility
that exchange rate change will alter the expected amount of principal and return
on the lending or investment. In the process, there can be a situation in which
seller (exporter) may have delivered the goods, but may not be paid or the buyer
(importer) might have paid the money in advance, but may not be delivered the
goods for one or the other reasons.

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d. Interest Rate Risk: It is the risk of an adverse impact on Net Interest Income
(NII) due to variations of interest rate. Changes in interest rate affect earnings,
value of assets, liability, off-balance sheet items and cash flow management of
interest rate risk, aiming at capturing the risks arising from the maturity and re-
pricing mismatches, and is measured both from the earnings and economic value
perspective. Interest rate risk can take different forms:

i. Gap or Mismatch Risk: It arises from holding assets and liabilities and off-
balance sheet items with different principal amounts, maturity dates or re-
pricing dates, thereby creating exposure to unexpected changes in the level
of market interest rates.
ii. Basis Risk: Basis Risk is the risk that arises when the interest rate of
different assets, liabilities and off-balance sheet items may change in
different magnitude. For example, in a rising interest rate scenario, asset
interest-rate may rise in different magnitude than the interest rate on
corresponding liability, thereby creating variation in net interest income.
iii. Yield Curve Risk: Banks, in a floating interest scenario may price their
assets and liabilities based on different benchmarks, i.e., treasury bills'
yields, fixed deposit rates and call market rates. In case the banks use two
different instruments maturing at different time horizon for pricing their
assets and liabilities then any non-parallel movements in the yield curves,
which is rather frequent, would affect the net interest income.
iv. Embedded Option Risk: The embedded risk is experienced in volatile
situations and is becoming a reality in India. Significant changes in market
interest rates create the source of risk to banks‘ profitability by encouraging
prepayment of cash credit/demand loans, term loans and exercise of call/put
options on bonds/debentures and/or premature withdrawal of term deposits
before their stated maturities (Deb, 2011).

3.1.3 Operational Risk

Operational Risk can be defined as the risk of loss arising from inadequate or
failed internal processes, people and systems or from external events. Today, banks
live with the risks arising out of human error, financial fraud and natural disasters.

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 Exponential growth in the use of technology and increase in global financial
inter-linkages are the two primary changes that contributed to such risks. In order to
mitigate Operational Risk, Internal Control and Internal Audit Systems are used as the
primary means. Risk education for familiarising the complex operations at all levels
of staff can also reduce Operational Risk.

The key to management of operational risks lies in the bank‘s ability to assess
its process for vulnerability and establish controls as well as safeguards while
providing for unanticipated worst-case scenarios. Operational Risk involves
breakdown in internal controls and corporate governance leading to error, fraud,
performance failure, compromise on the interest of the bank resulting in financial loss.
Putting in place proper corporate governance practices by itself would serve as an
effective risk management tool. Banks should strive to promote a shared
understanding of operational risks within the organisation; especially since
operational risks are often intervene with Market or Credit Risk and it is difficult to
isolate (Kanchu and Kumar, 2013).

Operational Risk comprises of Transaction and Compliance Risk.

a) Transaction Risk: It is the risk arising from fraud both internal and external
failed business processes and the inability to maintain business continuity and
manage information.
b) Compliance Risk: Compliance Risk is also known as Legal or Regulatory
Risk. It is financial loss or reputation loss that a bank may suffer as a result of
its failure to comply with any or all of the applicable laws, regulations, and
codes of conduct and standards of good practice. It is also called integrity risk
since a bank‘s reputation is closely linked to its adherence to principles of
integrity and fair dealing. Banks should learn the art of playing their business
activities within the regulatory controls.

The Basel Committee has identified the following types of Operational Risk events
as having the potential to result in substantial losses:

 Internal fraud—for example, international misreporting of positions,

employee theft, and insider trading on employee‘s own account.
 External fraud—for example robbery, forgery, cheque kiting, and damage
from computer hacking.

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  Employment practices and workplace safety—for example, workers
compensation claims, violation of health and safety rules, organised labour
activities discrimination claims, and general liability.
 Clients, products and business practices—for example, fiduciary breaches,
misuse of confidential customer information, improper trading activities on
the bank‘s account, money laundering and sale of unauthorised products.
 Damage to physical assets—for example, terrorism, vandalism, earthquakes,
fires and floods.
 Business disruption and system failures—for example, hardware and software
failures, telecommunication problems and utility outages.
 Execution, delivery and process management—for example, data entry
errors, collateral management failures, incomplete legal documentation, and
unauthorized access given to client accounts, non-client counterparty
mis-performance, and vendor disputes (BIS, 2004).

3.1.4 Other Risks

During course of business, banks confront with other risks namely Strategic,
Reputational and Environmental risks are explained below.
a) Strategic Risk: Strategic Risk is the risk arising from adverse business
decisions, improper implementation of decisions or lack of responsiveness to
industry changes. This risk is a function of the compatibility of an
organisation‘s strategic goals, the resources deployed against these goals and
the quality of implementation.
b) Reputation Risk: This risk arises from negative word of mouth. It may
expose the institution to litigation, financial loss or decline in customer base.
c) Environmental Risk: With the advent of liberalisation and globalisation,
more national and international players are operating in the financial markets,
particularly in the banking field. This provides the platform for environmental
change and exposes the bank to improve their delivery channels, reach
customers, and innovate their products that are service oriented.

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3.2 RISK MANAGEMENT STRUCTURE IN BANKS

All over the globe there is a trend of centralised risk management structure
with integrated treasury management function to benefit from information on
aggregate exposure natural netting of exposure, economics of scale and easier
reporting to top management.
As far as the Indian banks are concerned, due to diversity of Balance Sheet
profiles, banks are insisted to adopt a less uniform framework for management of
risks. Following is the Risk Management Architecture followed by Indian banks.

Fig. 3(b) Risk Management Architecture in Banks

Source: RBI/2005-06/180, DBOD.No.BP.BC.39/21.04.118/2004-05, RBI‘s Guidance Note on Management of

Operational Risk.
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 The primary responsibility of understanding the risks run by the bank,
deciding the overall Risk Management Policy and ensuring that the risks are
appropriately managed is clearly vested with the Board of Directors. The Board sets
risk limits by assessing the bank‘s risk and risk bearing capacity. At organisational
level, Overall Risk Management is assigned to an Independent Risk Management
Committee or Executive Committee of the Top Executives that reports directly to the
Board of Directors. The functions of Risk Management Committee are to identify,
monitor and measure the risk profit of the bank. It is also the responsibility of
committee to develop policies and procedures, verify the models that are used for
pricing complex products and reviewing the risk models. Executive Level
Committees includes Asset Liability Management Committee for Market Risk, Credit
Risk Management Committee for Credit Risk and Operational Risk Management
Committee for Operational Risk. These Committees meet regularly to supervise and
monitor the risks in various areas on an ongoing basis. Some banks are in the practice
of appointing consultants for advising and assisting the Management in implementing
the Risk Management Systems and making the bank Basel Compliant.

The design of Risk Management Framework in Indian Banks is oriented

towards the own requirement of banks dictated by the size and complexity of
business, risk philosophy, market perception and the expected level of capital.
Recently, RBI issued guidelines to bring uniformity in managing risk regarding role
and responsibilities of Chief Risk Officer (CRO), his qualifications and experiences in
the area of Risk Management should be prescribed by Board of Directors. It depends
upon the policy of a bank that CRO would work as an Advisor or Decision maker in
the credit sanction process.

3.3 RISK MANAGEMENT IN PRE-BASEL SCENARIO

Indian Banking System adopted Health Code System in 1985–86, which was a
critical analysis to monitor credit comprehensively and uniformly. The RBI advised
all Commercial Banks (excluding Foreign banks, most of which had similar coding
system) on November 7, 1985, to bring in the Health Code System indicating the
quality (or health) of individual advances under the following eight categories, with a
health code assigned to each borrower‘s account (RBI, 2012).

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1. Satisfactory: The conduct is satisfactory; if all the terms and conditions are
compiled with; all accounts are in order; and safety of the advance is not in doubt.
2. Irregular: The safety of the advance is not suspected, though there may be
occasional irregularities, which may be considered as a short term phenomenon.
3. Sick, Viable: The advances to units that are sick, but viable under nursing and
units for which nursing/revival programmers are taken up.
4. Sick, Non-viable/sticky: The irregularities continue to persist and there are no
immediate prospects of regularisation and the accounts could throw up some of
the usual signs of incipient sickness.
5. Advances recalled: An accounts where the repayment is highly doubtful and
nursing is not considered worthwhile and where decision has been taken to recall
the advance.
6. Suit filed accounts: The accounts where legal action or recovery proceedings
have been initiated.
7. Decreed debts: Where decrees have been obtained.
8. Bad and Doubtful debts: Where the recoverability of the bank‘s dues has
become doubtful on account of shortfall in value of security, difficult in enforcing
and realising the securities or inability/unwillingness of the borrowers to repay the
bank‘s dues partly or wholly.

Under the above Health Code System, the RBI classified problem loans of each bank
into three Categories:

i. Advances classified as bad and doubtful by the bank (Health Code No. 8).
ii. Advances where suits were filed/decrees obtained (Health Codes No. 6 and 7).
iii. Advances with major undesirable features (Health Codes No. 4 and 5) (Saddy,
2013).

For managing Liquidity Risk in Pre-Basel Scenario, Indian Banks reported

their Assets and Liability position fortnightly to RBI, a regulated inter bank
borrowing market, and RBI playing the role of lender of the last resort. Similarly, in
case of Foreign Exchange Risk Management banks had a cap on their open position,
along with forward cover restricted to 180 days and RBI closely monitoring the
volatility and managing it as the ultimate buyer/seller to prevent excessive movement
(Roy, et. al. 2013).

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 Prior to the introduction of Basel Norms in India the concept of Risk
Management was proposed by Narasimham Committee (1991) on Financial Sector
Reforms which indicated the capital adequacy requirement and risk constraints
through devising necessary Prudential Norms by the RBI. The RBI stipulated that
Foreign Banks operating in India should largely conform to international standards. It
was stipulated that Foreign Banks operating in India should achieve a Capital to Risk
Weighted Assets Ratio (CRAR) of 8% by March, 1993 while Indian Banks with
branches abroad should comply with the norm by March, 1995. All other banks had to
achieve a capital adequacy norm of 4% by March, 1993 and the 8% norm by March,
1996.

In the mid-term review of Monetary and Credit Policy in October, 1998 the
RBI revised the minimum regulatory CRAR requirement to 9%, and banks were
advised to attain this level by March 31, 2009. The RBI responded to the market risk
amendment of Basel I in 1996 by initially prescribing various surrogate capital
charges such as investment fluctuation reserve of 5% of the bank‘s portfolio and a
2.5% risk weight on the entire portfolio for these risk between 2000 and 2002.

Basel I primarily focused on credit risk. The assets of banks were classified
and grouped into five categories according to credit risk, carrying risk weights of zero
(e.g. home country sovereign debts), 10, 20, 50 and up to 100 percent (for corporate
debts).

3.4 BASEL I FRAMEWORK

The formal framework for banks‘ capital structure was evolved in 1988 with
the introduction of the ―International Convergence of Capital Measurement and
Capital Standards‖ popularly known as Basel I, issued by the Basel Committee on
Banking Supervision (BCBS). BCBS was formed in response to the messy liquidation
of a Frankfurt Bank in New York. Basel I was enforced by law in the group of ten (G-
10) countries in 1992, over the years, Basel I was accepted by hundred Central Banks
across the globe, under which came to be known as the Basel Accord.

Basel I Accord in 1988 focused on reducing Credit Risk, prescribing a

minimum Capital to Risk Adjusted Ratio (CRAR) of 8% to the ‗Risk Weighted
Assets‘ (RWAs). This framework for Capital Adequacy was designed to establish

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minimum level of capital for internationally active banks (Pasha and Swamy, 2012).
RBI issued Basel Norms for the Indian banks which required them to identify the
Tier-1 and Tier-2 capital and also to assign risk weights to the assets.

3.4.1 Tier-1 Capital:

Tier-1 capital is the most reliable form of capital. The major components of
Tier-1 capital are:

 Paid up Equity Share Capital

 Statutory Reserves
 Disclosed Reserves
 General Reserves
 Capital Reserves representing surplus arising out of sale proceeds of the assets.

Equity investment in subsidiaries, intangible assets and losses in the current

period and those brought forward from previous periods will be deducted from Tier-1
capital. Tier-2 capital absorbs losses without the bank being required to cease
functioning.

3.4.2 Tier-2 Capital

Tier-2 capital is known as Supplementary Capital. This capital is less

permanent in nature. The reason for holding Tier-2 capital is that it should provide
protection against unexpected losses at the event of winding up and thus provide a
lesser degree of protection to depositors.

 Undisclosed Reserves and Cumulative Perpetual Preference Shares.

 Revaluation Reserves.
 General provisions and loss reserves.
 Hybrid Instruments.

3.4.3 Risk Weighted Assets

Funded Risk Assets i.e., On Balance Sheet items and Non-funded Risk Assets
i.e., Off Balance Sheet items are ranked from less risky to more risky categories. Bank
of International Settlements (BIS) has prescribed five categories of risk weights viz.,
0, 10, 20, 50, 120. The higher the risk, greater is the weightage. On Balance Sheet

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items are those appearing in the Balance Sheet (B/S) excluding equity investments in
subsidiaries and intangible assets and losses. Off Balance Sheet items
are—guarantees, letters of credit, forward exchange contract etc. (Nathwani, 2004).

India has adopted Basel guidelines in 1999 as per RBI and Basel Committee
on Banking Supervision. RBI has always taken a conservative view and setup capital
adequacy standards more than international standards, viz. Capital Adequacy Ratio
(CAR) must be 9% of Risk Weighted Assets in India, however BCBS has
recommended 8% of Risk Weighted Assets (RWAs) for Basel I.

Capital Funds (Tier 1 Capital Tier Capital

1
Risk Weighted Assets

Basel I primarily focused on Credit Risk but gradually all banks worldwide
accelerated their trading activity by investing in securities, which invited banks to
price risks. Therefore, Basel Committee in 1996 suggested that banks should maintain
capital funds against Market Risk by following either the Standardised Measurement
Approach (SMA) or Internal Measurement Approach (IMA) to meet the unforeseen
losses arising out of Market Risks.

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Table 3.1 Trends in Component-wise Capital Adequacy Ratio (CAR) of Selected Banks under Basel I for the period 2000 to 2008
(in%)
Year CAR\Banks SBI BOB BOI PNB Canara Bank ICICI Bank HDFC Bank Axis Bank Federal Bank J&K Bank
Tier-1 Capital 8.28 8.86 6.91 6.73 7.77 17.42 9.56 7.99 7.72 15.51
2000 Tier-2 Capital 3.21 3.24 3.66 3.58 1.87 2.22 2.63 3.38 3.61 3.31
CAR 11.49 12.10 10.57 10.31 9.64 19.64 12.19 11.37 11.33 18.82
Tier-1 Capital 8.58 8.49 7.62 6.84 7.31 10.42 8.69 5.84 7.72 14.33
2001 Tier-2 Capital 4.21 4.31 4.61 3.40 2.53 1.15 2.40 3.16 2.57 3.11
CAR 12.79 12.80 12.23 10.24 9.84 11.57 11.09 9.00 10.29 17.44
Tier-1 Capital 9.22 7.56 6.37 6.34 8.07 7.47 10.81 6.42 6.96 12.41
2002 Tier-2 Capital 4.13 3.76 4.31 4.36 3.81 3.97 3.12 4.23 3.67 3.05
CAR 13.35 11.32 10.68 10.70 11.88 11.44 13.93 10.65 10.63 15.46
Tier-1 Capital 8.81 8.10 7.56 7.11 7.85 7.05 9.49 6.44 6.65 12.48
2003 Tier-2 Capital 4.69 4.55 4.46 4.91 4.65 4.05 1.63 4.46 4.58 4.00
CAR 13.5 12.65 12.02 12.02 12.50 11.10 11.12 10.90 11.23 16.48
Tier-1 Capital 8.34 8.47 7.47 7.01 7.81 6.09 8.03 6.44 6.26 12.98
2004 Tier-2 Capital 5.19 5.44 5.54 6.09 4.85 4.27 3.63 4.77 5.22 3.90
CAR 13.53 13.91 13.01 13.10 12.66 10.36 11.66 11.21 11.48 16.88
Tier-1 Capital 8.04 8.21 7.05 8.87 7.29 7.59 9.60 8.87 6.42 12.48
2005 Tier-2 Capital 4.41 4.40 4.47 5.91 5.49 4.19 2.56 3.79 4.85 2.67
CAR 12.45 12.61 11.52 14.78 12.78 11.78 12.16 12.66 11.27 15.15
Tier-1 Capital 9.36 10.98 6.75 10.06 7.81 9.20 8.55 7.26 9.72 11.76
2006 Tier-2 Capital 2.52 2.67 4.00 1.89 3.41 4.15 2.86 3.82 4.03 0.38
CAR 11.88 13.65 10.75 11.95 11.22 13.35 11.41 11.08 13.75 12.14
Tier-1 Capital 8.01 8.74 6.54 8.93 7.17 7.42 8.57 6.42 8.94 12.60
2007 Tier-2 Capital 4.33 3.06 5.04 3.36 6.33 4.27 4.51 5.15 4.49 0.64
CAR 12.34 11.80 11.58 12.29 13.50 11.69 13.08 11.57 13.43 13.24
Tier-1 Capital 8.48 7.63 7.70 8.52 7.01 11.32 10.30 10.17 19.09 12.14
2008 Tier-2 Capital 4.16 5.28 4.34 4.44 6.24 3.60 3.30 3.56 3.37 0.66
CAR 12.64 12.91 12.04 12.96 13.25 14.92 13.60 13.73 22.46 12.80
Mean 12.66 12.64 11.60 12.04 11.92 12.87 12.25 11.35 12.87 15.38
SD 0.71 0.83 0.82 1.48 1.41 2.87 1.06 1.31 3.78 2.27
CAGR 1.07% 0.72% 1.46% 2.57% 3.60% -3.01% 1.22% 2.12% 7.90% -4.19%
Source: Statistical Tables relating to Banks in India, 1999-2000 to 2007-2008, RBI Publications
Note: (i) SD stands for Standard Deviation and CAGR stands for Compound Annual Growth Rate
(ii) CAR stands for Capital Adequacy Ratio

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 Table 3.1 shows the trends in Component-wise Capital Adequacy Ratio of
selected Public and Private Sector Banks under Basel I for the period 2000–2008.
Bank-wise analysis indicates that all the banks under study have been in comfortable
position of maintaining Capital Adequacy Ratio equal to or above the stipulated level
i.e., 9% suggested by RBI and 8% by BCBS.

Among Public Sector Banks, SBI has the highest average Capital Adequacy
Ratio such as 12.66%, followed by BOB (12.64%), PNB (12.04%), Canara Bank
(11.92%) and BOI (11.60%). Tier-1 capital has the range within 6.34% to 10.98%,
which is the most reliable form of capital with loss absorbing capacity, whereas Tier-2
capital which is supplementary capital is within the range 1.87% to 6.33%. PNB
(1.48) has the maximum variation from the Mean value and SBI (0.71) has the least
variation from Mean. All Public Sector Banks have shown increasing growth rate i.e.,
CAGR is the highest in Canara Bank (3.60%) and followed by PNB (2.57%), BOI
(1.46%), SBI (1.07%) and BOB (0.72%).

In Private Sector Banks, J&K Bank (15.38%) holds the highest mean Capital
Adequacy Ratio, followed by ICICI Bank (12.87%), Federal Bank (12.87%), HDFC
Bank (12.25%) and Axis Bank (11.35%). Tier-1 capital ratio varies within 5.84% to
19.09% and the supplementary capital has the range within 0.38% to 5.22%. Federal
Bank (3.78) has the maximum variation form the Mean value and HDFC (1.06) has
represented the lowest Standard Deviation. Three, out of five, Private Sector Banks
have positive Compound Annual Growth Rate, while ICICI Bank and J&K Bank have
negative growth rates, due to their volatile rate of growth. Among Private Sector
Banks, Compound Annual Growth Rate of Private Sector Banks is as 7.90%, 2.12%,
1.22%, -3.01% and -4.19% for Federal Bank, Axis Bank, HDFC Bank, ICICI Bank
and J&K Bank, respectively.

Bank-wise analysis shows that SBI, BOB in Public Sector Banks and J&K
Bank, Federal Bank and ICICI Bank, among Private Sector Banks have kept higher
CAR as compared to other banks, whereas BOI in Public Sector Banks and Axis Bank
in Private Sector Banks have maintained the lowest capital adequacy ratios. The
higher the Capital Adequacy Ratio a bank has, the higher the level of unexpected
losses a bank can absorb before becoming insolvent. Fatima (2014) and Sajid and
Handa (2014) particularly emphasised that ICICI Bank has an edge over HDFC and

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Axis Bank in terms of average Capital Adequacy Ratio under Basel I, while among
Public Sector Banks BOI has the least CAR. Their justification is in accordance with
the current research that Private Sector Banks are in good position as compared to
Public Sector Banks. The CRAR of Public and Private Sector Banks have improved
over the years 2000–2004 due to the impact of higher growth in Capital than the Risk
Weighted Assets (RWAs). Banks were able to raise Capital Adequacy Ratio, either by
surge in profits or by mobilisation of equity capital (RBI, 2000–2004). From the year
2005–2007 banks have sharply increased their Risk Weighted Assets due to rapid
growth in credit (RBI, 2005–2007). Therefore, majority of selected banks are showing
decline in Capital Adequacy Ratio during that period. Year 2008, has witnessed larger
growth of capital than RWAs of banks, which resulted in increasing trend of CRAR
during that year (RBI, 2008).

Sector-wise analysis shows that Private Sector Banks have been performing
better in terms of Component-wise Capital Adequacy Ratio with larger CRAR. Basel
I (2000–2008) has been completely congenial for all the selected banks in terms of
maintaining CAR.

3.4.4 Merits of Basel I

 Basel I has relatively simple structure.

 It induces substantial increase in capital adequacy ratios of internationally
active banks.
 Basel I has worldwide adoption with greater discipline in managing capital.
 It has raised the standard of competitive equality among internationally active
banks.
 Basel I is a benchmark of lending capability of banks and for assessment by
market participants.

3.4.5 Demerits of Basel I

 Basel I was mainly criticised for its rigidity of ‗one size fits‘ approach i.e.,
focusing majorly on Credit Risk.
 It emphasised book values and not market values.
 In credit risk assessment, there is no difference between debtor of different
credit quality and rating.

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  There is an absence of risk sensitivity in estimating capital requirements.
 Basel I ignored Operational Risk and Macro aspects for the implementation.

3.5 BASEL II FRAMEWORK

Basel I framework was restrained to the prescription of only Minimum
Capital Requirement for Banks, whereas the Basel II framework expanded this
approach, not only to capture certain additional risks in capital adequacy ratio but also
involved two other mutually reinforcing pillars Supervisory Review Process and
Market Discipline.

In 2004, the ‗Basel Committee on Banking Supervision‘ (BCBS) came out

with a comprehensive framework of capital regulation popularly known as Basel II.
BCBS tried to ensure that the shortcomings existed in Basel I are corrected. The
intention was not intended to raise or lower the overall level of regulatory capital
fixed by Basel I but to follow some special objectives such as:
 To ensure that capital allocation is more risk sensitive.
 Enhancing disclosure requirements which would allow market participants to
assess the capital adequacy of an institution.
 To quantity Credit Risk, Operational Risk and Market Risk based on data and
formal techniques.
 To align regulatory capital more closely with economic capital to reduce the
scope for arbitrary arbitrage (Sajid and Handa, 2014).

The RBI had directed banks in India to implement Basel II norms in phases.
Phase-I had been carried out for Foreign Banks operating in India and Indian Banks
having operational presence outside India with effect from March 31, 2008. In Phase
II, all other Scheduled Commercial Banks (except Local Area Banks and Regional
Rural Banks or RRBs) had to adhere to Basel II guidelines by March 31, 2009. RBI
directed that all the banks had to maintain Capital to Risk Weighted Assets Ratio
(CRAR) of 9% which is above the stipulated requirement of Basel guidelines of 8%.
However, the Government of India (GOI) had emphasised that Public Sector Banks
should maintain CRAR of 12%. Indian Banks should maintain the Tier-1 capital of at
least 6%.
The Reserve Bank of India had advised the Domestic Banks operating outside
India and the Foreign Banks operating in India to migrate to the ‗Standardised
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Approach‘ for Credit Risk and the ‗Basic Indicator Approach‘ for Operational Risk
with effect from 31st March, 2008. All other ‗Scheduled Commercial Banks‘ were
encouraged to migrate to these approaches under Basel II in alignment with them but
in any case not later than 31st March, 2009.

The Basel II Capital Accord consists of three pillars.

3.5.1 Pillar I - Minimum Capital Requirement
3.5.2 Pillar II - Supervisory Review Process
3.5.3 Pillar III - Market Discipline

3.5.1 Pillar I - Minimum Capital Requirement

Banks were required to maintain the minimum capital requirement of 8%

against the Risk Weighted Assets and 4% Tier-1 CRAR, whereas RBI has given
guidelines for at least 9% CRAR and 6% Tier-1 CRAR. Risk weighted Assets were
computed by considering the three major generic risks—Credit, Market and
Operational Risks.

To estimate the capital requirements for Credit Risk and Operational Risk,
Basel II proposed a menu of approaches—Standardised, Foundation Internal Ratings,
and Advanced Internal Ratings Approach. However, for Market Risk Basel II
continued with the 1996 framework which suggested both standardised and Internal
Measurement Models.

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Table 3.2 Trends in Component-wise Capital Adequacy Ratio (CAR) of Selected Banks under Basel II for the period 2009 to 2013
(in%)
Year CAR\Banks SBI BOB BOI PNB Canara Bank ICICI Bank HDFC Bank Axis Bank Federal Bank J&K Bank
Tier-1 Capital 9.38 8.49 8.91 8.98 8.01 11.84 10.58 9.26 18.42 13.80
2009 Tier-2 Capital 4.87 5.56 4.10 5.05 6.09 3.69 5.11 4.43 1.80 0.68
CAR 14.25 14.05 13.01 14.03 14.10 15.53 15.69 13.69 20.22 14.48
Tier-1 Capital 9.45 9.20 8.48 9.11 8.54 13.96 13.26 11.18 16.92 12.79
2010 Tier-2 Capital 3.94 5.16 4.46 5.05 4.89 5.45 4.18 4.62 1.44 3.10
CAR 13.39 14.36 12.94 14.16 13.43 19.41 17.44 15.80 18.36 15.89
Tier-1 Capital 7.77 9.99 8.33 8.44 10.87 13.17 12.23 9.41 15.63 11.33
2011 Tier-2 Capital 4.21 4.53 3.84 3.98 4.51 6.37 3.99 3.24 1.16 2.39
CAR 11.98 14.52 12.17 12.42 15.38 19.54 16.22 12.65 16.79 13.72
Tier-1 Capital 9.79 10.83 8.59 9.28 10.35 12.68 11.60 9.45 15.86 11.12
2012 Tier-2 Capital 4.07 3.84 3.36 3.35 3.41 5.84 4.92 4.21 0.78 2.24
CAR 13.86 14.67 11.95 12.63 13.76 18.52 16.52 13.66 16.64 13.36
Tier-1 Capital 9.49 10.13 8.20 9.76 9.77 12.80 11.08 12.23 14.09 10.86
2013 Tier-2 Capital 3.43 3.17 2.82 2.96 2.63 5.94 5.72 4.77 0.64 1.97
CAR 12.92 13.30 11.02 12.72 12.40 18.74 16.80 17.00 14.73 12.83
Mean 13.28 14.18 12.22 13.19 13.81 18.35 16.53 14.56 17.35 14.06
SD 0.88 0.54 0.82 0.83 1.08 1.63 0.65 1.78 2.06 1.19
CAGR -1.94% -1.09% -3.27% -1.94% -2.54% 3.83% 1.38% 4.43% -6.14% -2.39%

Source: Statistical Tables relating to Banks in India, 2008-2009 to 2012-2013

Note: (i) SD stand for Standard Deviation and CAGR stands for Compound Annual Growth Rate
(ii) CAR stands for Capital Adequacy Ratio

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 Component-wise Capital Adequacy Ratio in Table 3.2 for selected Public
and Private Sector Banks under Basel II shows that Public Sector Banks are
witnessing downfall in Capital Adequacy Ratio (CAR or CRAR) from the period
2009–2013, while adopting Basel II guidelines, which is due to their deteriorating
asset quality. Old Private Sector Banks i.e., Federal Bank and J&K Bank have been
also following the downward trend, on the other, three larger Private Sector Banks
i.e., ICICI Bank, HDFC Bank, and Axis Bank have increasing trend in CRAR since
beginning under Basel II period, viz. 2009–2013.

BOB among Public Sector Banks has the highest average Capital Adequacy
Ratio, viz.14.18%followed by Canara Bank (13.81%), SBI (13.28%), PNB (13.19%)
and BOI (12.22%). Tier-1capital ranges within 7.77% to 10.87%, whereas Tier-2
capital is within 2.63% to 6.09%. Public Sector Banks are maintaining CAR above the
stipulated level of BCBS i.e., 8%, and RBI‘s 9% and Government of India‘s 1 %
(except BOI, which, lags behind in one year by 0.5%). Canara Bank (1.08) shows the
highest Standard Deviation and BOB (0.54) has the least variability from the Mean
value. All Public Sector Banks show negative compound growth rate due to the
reduction in CAR from 2009 to 2013 such as -1.09%, -1.94%, -1.94%, -2.54% and -
3.27% for BOB, PNB, SBI, Canara Bank and BOI, respectively.

Among Private Sector Banks, ICICI Bank (18.35%) represents the highest
mean Capital Adequacy Ratio, followed by Federal Bank (17.35%), HDFC Bank
(16.53%), Axis Bank (14.56%) and J&K Bank (14.06%). The range of Tier-1 capital
is from 9.26% to 18.42%, while, Tier-2 capital lies within the range of 0.64% to
6.37%. Federal Bank (2.06) has the highest variation form Mean and HDFC Bank
(0.65) has the least variation from the Mean value. HDFC Bank (1.38%), ICICI Bank
(3.83%) and Axis Bank (4.43%) have positive CAGR due to increasing trend in
Capital Adequacy Ratio, while Federal Bank (-6.14%) and J&K Bank (-2.39%) have
displayed negative compound growth rate. Shukla and Malusare (2014) have
presented results consistent with the present research by emphasising that ICICI Bank
is maintaining the highest CAR throughout the Basel II time period and J&K Bank
has maintained the least capital adequacy ratio.

Bank-wise analysis exhibits that BOB in Public Sector Banks and ICICI in
the Private Sector Banks have the highest Capital Adequacy Ratio, whereas BOI in

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Public Sector Banks and J&K Bank in Private Sector have the least Capital Adequacy
Ratio. The CAR has remained above 9% for all the banks. However, there is decline
in Capital Adequacy Ratio of Public Sector Banks in Basel II, as compared to Basel I
period, which is due to deterioration of their capital position and asset quality during
Basel II (RBI, 2013). Not only in Capital Adequacy Ratio, on the whole, all the banks
have been in ease while retaining Tier-1 capital, above the mandatory level of 6%
suggested by BCBS and 7% by RBI.

Sector-wise analysis indicates that continuing with the past trend of Basel I,
Private Sector Banks have been performing better as compared to their Public Sector
peers in Basel II too. This proves that Indian banks are efficiently managing their
risks by holding adequate capital and reserves to make sure their solvency and
stability are not threatened.

3.5.1.1 Estimating Capital Requirement for Credit Risk, Market Risk and
Operational Risk

Banks can estimate their capital requirements for Credit Risk, Market Risk and
Operational Risk by following methods.

Fig. 3 (c) Capital Requirement under Basel - II

Capital Requirment

Credit Risk Market Risk Operational Risk

Standard Approach Standard Approach Basic Indicator

Approach

FIRB1 Internal Model Standardised

Approach Approach

AIRB2 Advanced
Measuremnet
Approach

Source: Swamy, V. (2013), “Basel III Implications for Indian Banking” A Research Report submitted
to IBS-Hyderabad, p.43.
Note: (i) Foundation Internal Rating Based Approach1
(ii) Advanced Internal Rating based Approach2

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(A) Estimating Capital Requirement for Credit Risk:

Banks are permitted a choice between two broad methodologies for

calculating their capital requirements for Credit Risk. One method is to measure it in
standardised manner based on external credit rating assessment (Patwardhan, 2009).
The other method allowed the banks to use their internal rating system for Credit
Risk. This will be subjected to the explicit approval of bank‘s supervisor.

Under ‗Standardised Approach‟ preferential weights ranging from 0% to

150% are assigned to assets based on the external credit rating agencies. Risk
sensitivity of assets is captured by rating agencies. The risk weights are inversely
related to the rating of the counter party as lower the rating, higher the risk. National
Supervisors are responsible for determining whether the External Credit Assessment
Institution (ECAI) meets the requisite criteria. The criteria for approval of credit
rating agencies are—Objectivity, Independence, International Access, Transparency,
Disclosure, Resources and Credibility. Some of the approved Credit Rating Agencies
by RBI are—CARE, ICRA, CRISIL and SMERA.

Under „Internal Rating Based‟ (IRB) Approach, the bank‘s internal

assessment of key risk parameters serves as a primary input to capital computation.
Banks are allowed to estimate their own Probability of Default (PD) instead of
standard percentages such as 20%, 50%, 100% etc. For this purposes two approaches
namely Foundation IRB and Advanced IRB are suggested. The ratings under the
Foundation IRB approach are based on the risk characteristics of both the borrower
and the specific transaction. Expected Loss which is normal business risk of banks is
calculated based on Probability of Default of Borrower (PD), Loss given Default
(LGD , Bank‘s Exposure at Default (ED) and Remaining Maturity of Exposure.

Expected Loss = PD x LGD x ED x M

Unexpected Loss is the part of Credit Risk that cannot be priced in the
product and hence the banks have to provide capital for it by risk weighing their
assets. It is the upward variation in expected loss over a definite time horizon.
Unexpected loss can be expressed as:

Unexpected Loss = ED x LGD x Standard Deviation of PD

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  Probability of Default (PD) measures the likelihood that the borrower will
default over a given time horizon.
 Loss Given Default (LGD) measures the proportion of the exposure that will
be lost if default occurs.
 Exposure at Default (ED) is the estimated amount outstanding in a loan
commitment if default occurs.
 Maturity (M) measures the remaining economic maturity of the exposure.

In Foundation IRB, Probability of Default is calculated by the bank and the

remaining is based on supervisory values set by Basel Committee or RBI in India.

Advanced Internal Rating Based Approach emphasised on self-estimation

of capital charge computation by banks. Not only Probability of Default but other
three components—Loss Given Default (LGD), Exposure at Default (ED) and
Maturity (M) are also estimated by the bank based on the historical data.

(B) Estimating Capital Requirement for Market Risk:

Capital Requirement for general Market Risk is designed to capture the risk of
loss arising from changes in market interest rates. One is the standardised method and
the other one is based on the banks‘ internal risk management model.

Under the Standardised Approach there are two principal methods of

measuring Market Risk a ‗Maturity‘ method and a ‗Duration‘ method. RBI has
adopted Standardised Duration method to arrive at the capital charge as it is more
accurate than maturity method. Basel II had recommended banks to hold capital
within 0% to 1 .5% of an asset‘s value to protect against movements in interest rates.

Under Internal Risk Management Models Approach banks are encouraged

to develop their own internal models to calculate stock, currency, or commodity‘s
Market Risk on a case-to-case basis. Under the supervision of RBI, banks had to
develop their measure to calculate ―Value of Risk‖ (VaR) based on five years data on
position to position basis and capital requirements are predicted.

(C) Estimating Capital Requirement for Operational Risk:

Basel Accord defines Operational Risk as the loss arising from the potential
that inadequate information system, technology failures, breaches in internal controls,

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fraud, unforeseen catastrophes, or other operational problems may result in,
unexpected losses or reputation problems.

The Basel II accord recommended three approaches for estimating capital

requirements for Operational Risk namely Basic Indicator Approach, Standardised
approach and Internal Measurement Approach.

Under the Basic Indicator Approach, banks have to hold capital for
Operational Risk equal to the fixed percentage (Alpha) of average annual gross
income over the previous three years.

KBIA = GI × 

Where KBIA = the capital charge under the Basic Indicator Approach.
GI = average annual gross income over the previous years.
 = Fixed percentage

The additional capital required for Operational Risk is 20% of the minimum
regulatory capital (i.e., 20% of 9% = 1.8% of the Total Risk Weighted Assets).

The Standardised Approach divides the bank‘s activities into eight business
lines such as—finance, trading and sales, retail banking, commercial banking,
payment and settlement, agency services, asset management and retail brokerage. The
capital charge for Operational Risk is arrived at based on fixed percentage for each
business line.

Under the Internal Measurement Approach individual banks use their own
data to determine capital requirement for Operational Risk.

Thus, under Basel II, the denominator of the minimum capital ratio will
consist of three parts—the sum of all risk weighted assets for Credit Risk, plus 12.5
times (reciprocal of 8% minimum risk based capital ratio) the sum of the capital
charges for Market Risk and Operational Risk. The multiplicatory factor of 12.5 has
been introduced in order to enable banks to create a numerical link between the
calculation of capital requirement for Credit Risk and the capital requirement for
Operational and Market Risks. In case of capital requirement for Credit Risk,
calculation of capital is based on the risk weighed assets. However, for calculating
capital requirement for Operational Risk and Market risk, the capital charge itself is
calculated directly (Deb, 2011).

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 Table 3.3 Trends in Credit, Market and Operational Risk Capital Requirement of Selected Banks under Basel II for the period 2009 to 2013
(Rs. in crore)
Banks\
Year SBI BOB BOI PNB Canara Bank ICICI Bank HDFC Bank Axis Bank Federal Bank J&K Bank
Capital Requirement
Credit Risk 64,023 10,215 10,928 12,025 10,010 32,814 10,740 8,399 1,845 1,468
2009 Market Risk 3,767 806 844 642 491 4,613 563 1,050 121 85
Operational Risk 4,972 709 884 1,166 760 2,114 806 431 142 136
Credit Risk 71,539 12,340 14,653 15,180 12,198 26,281 12,281 11,040 2,202 1,765
2010 Market Risk 5,068 859 1,326 666 522 3,270 589 2,017 100 149
Operational Risk 5,541 849 1,079 1,166 836 2,459 1,175 656 186 188
Credit Risk 83,878 16,897 18,532 19,747 13,977 29,656 15,262 15,350 2,589 2,360
2011 Market Risk 5,186 973 1,572 942 664 3,402 928 1,379 109 198
Operational Risk 6,452 1,020 1,319 1,699 972 2,625 1,514 962 230 177
Credit Risk 88,074 20,442 21,326 22,805 16,623 33,919 19,760 17,815 2,738 2,799
2012 Market Risk 4,377 1,098 1,237 1,400 1,154 3,196 460 1,749 166 208
Operational Risk 7,918 1,296 1,497 2,064 1,201 2,619 1,893 1,290 278 277
Credit Risk 103,608 24,008 22,774 25,102 18,557 37,718 24,682 19,785 3,371 3,383
2013 Market Risk 6,390 1,782 962 1,760 1,937 3,246 1,373 1,842 234 270
Operational Risk 9,581 1,638 1,684 2,422 1,407 2,749 2,256 1,625 315 339
Credit Risk 82,224 16,780 17,642 18,972 14,273 32,078 16,545 14,478 2,549 2,355
Mean Market Risk 4,958 1,104 1,188 1,082 954 3,545 783 1,607 146 182
Operational Risk 6,893 1,102 1,292 1,703 1,035 2,513 1,529 993 230 223
Credit Risk 15327.01 5667.60 4866.10 5373.82 3407.78 4336.24 5702.61 4712.79 576.37 772.78
SD Market Risk 983.75 395.30 290.79 486.62 610.82 601.64 374.22 389.12 55.25 69.15
Operational Risk 1870.10 371.01 319.37 553.40 266.91 245.76 572.18 478.92 69.41 82.73
Credit Risk 10.11% 18.64% 15.82% 15.86% 13.14% 2.82% 18.11% 18.69% 12.81% 18.18%
CAGR Market Risk 11.15% 17.20% 2.67% 22.36% 31.62% -6.79% 19.53% 11.88% 14.06% 25.92%
Operational Risk 14.02% 18.24% 13.76% 15.75% 13.11% 5.39% 22.86% 30.38% 17.33% 20.11%
Source: Basel II Pillar 3 Disclosures and Annual Reports of respective banks from their web-sites
Note: (i) Approaches used—Credit Risk Capital Requirement: Standardised Approach, Market Risk Capital Requirement: Standardised Duration Approach and
Operational Risk Capital Requirement: Basic Indicator Approach
(ii) SD stands for Standard Deviation and CAGR stands for Compound Annual Growth Rate

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 Table 3.3 indicates the Credit, Market and Operational Risk Capital
Requirement of selected banks under Basel II for the period 2009 to 2013 in Rs.
crore. Among Public Sector Banks the highest average of credit risk capital
requirement has shown by SBI (82,224cr), followed by PNB (18,972cr), BOI
(17,642cr), BOB (16,780cr) and Canara Bank (14,273cr). It means credit risk is the
highest in SBI and the least is in Canara Bank. Bank which has the largest capital
requirement such as SBI has huge asset base. Every bank has increased its credit risk
capital requirement from 2009–2013, which is clear from their positive Compound
Annual Growth Rate which is the highest for BOB (18.64%), followed by PNB
(15.86%), BOI (15.82%), Canara Bank (13.14%) and SBI (10.11%). SBI (15327.01)
has highest variation from the Mean value and Canara Bank (3407.78) has the lowest
variation from the Mean value.

Private Sector Banks such as HDFC Bank, Axis Bank, Federal and J&K
Bank have shown increasing trend for credit risk capital requirement except ICICI
Bank. ICICI Bank‘s credit risk capital requirement declined in the year 2010 due to
reduction in its Risk Weighted Assets from 315195 crore to 248559 crore (ICICI
Bank, 2009–2010).The highest credit risk among Private Sector Banks is in ICICI
Bank specified by (32,078cr) its credit risk capital requirement, followed by HDFC
Bank (16,545cr), Axis Bank (14,478cr), Federal Bank (2,549cr) and J&K Bank
(2,355cr). HDFC Bank (5702.61) has the highest Standard Deviation and Federal
Bank (576.37) has the lowest deviation from the Mean value. All Private Sector
Banks have positive CAGR such as Axis Bank (18.69%), J&K Bank (18.18%),
HDFC Bank (18.11%), Federal Bank (12.81%) and ICICI Bank (2.82%). Shukla and
Malusare (2014) and Kumar et. al. (2014) presented the identical results in their study
that ICICI Bank has the largest credit risk capital requirement, followed by ICICI
Bank and HDFC Bank due to their huge asset base. Credit Risk Capital requirement
depends upon Risk Weighted Assets, Loan to Deposit ratio and Loan to Asset ratio.
Moreover, a bank which has higher lending capacity and higher disposal of funds in
terms of loans will show larger capital requirement for its credit risk.

Among Public Sector Banks Market Risk is the highest in case of SBI,
shown by its market risk capital requirement (4,958cr), followed by BOI (1,188cr),
BOB (1104cr), PNB (1082cr) and Canara Bank (954cr). Change (increase or
decrease) in the market risk capital requirement is based on Interest Rate Risk, Equity

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Risk (buying stocks in other companies) and Foreign Exchange Risk. Maximum
variation from the Mean is shown by SBI (983.75) and minimum can be seen in BOI
(290.79). Every Public Sector Bank has positive CAGR, as highest is visible in
Canara Bank (31.62%), followed by PNB (22.36%), BOB (17.20%), SBI (11.15%)
and BOI (2.67%).

Among Private Sector Banks, ICICI Bank holds the maximum market risk as
indicated by its capital requirement of (3,545cr), followed by Axis Bank (1,607cr),
HDFC bank (783cr), J&K Bank (182cr) and Federal Bank (146cr). Shukla and
Malusare (2014) and Kumar et. al.(2014) presented the symmetrical results in their
study that ICICI Bank has the largest market risk capital requirement, followed by
Axis Bank and HDFC Bank due to scale of operations. Changes in market risk capital
requirement in Basel II for the period 2009 to 2013 are unstable. ICICI Bank (601.64)
has the highest variation from Mean and Federal Bank (55.25) has the lowest
variation. ICICI Bank has negative growth rate due to fall in market risk capital
requirement in the year 2013 in comparison to year 2009, whereas all other Private
Sector Banks have positive growth rate, the highest is in J&K Bank (25.92%)
followed by HDFC Bank (19.53%), Federal Bank (14.06%) and Axis Bank (11.88%).

The Public Sector Banks, in case of operational risk capital requirement

have depicted increasing trend. SBI (6893cr) has the highest average operational risk
capital requirement, whereas PNB (1703cr), BOI (1292cr), BOB (1102cr) and Canara
Bank (1035cr) are the followers. SBI (1870.10) has the highest variation from the
Mean value and Canara Bank (266.91) has the lowest Standard Deviation. CAGR of
every Public Sector Banks is positive, the highest in case of BOB (18.24%), followed
by PNB (15.75%), SBI (14.02%), BOI (13.76%) and Canara Bank (13.11%).

The average operational risk capital requirement for Private Sector Banks
is described as ICICI Bank (2,513cr), HDFC Bank (1,529cr), Axis Bank (993cr),
Federal Bank (230cr) and J&K Bank (223cr), which is directly proportionate to their
asset base. Shukla and Malusare (2014) and Kumar et. al. (2014) found the congruent
results in their study that ICICI Bank has the largest operational risk capital
requirement, followed by HDFC Bank and ICICI Bank. The highest variation of
Mean is found in HDFC Bank (572.18) and the lowest is seen in Federal Bank
(69.41). Axis Bank has the maximum Compound Annual Growth Rate of 30.38%

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followed by HDFC Bank (22.86%), J&K Bank (20.11%), Federal Bank (17.33%) and
ICICI Bank (5.39%). Operational risk capital requirement depends upon the scale of
operations, branch expansion, number of employees and compliance requirements.
All the selected banks are displaying operational risk capital requirement according to
aforesaid factors.

Bank-wise analysis has revealed that SBI in Public Sector Banks and ICICI
bank in Private Banks have the largest credit risk capital requirement than other
banks, whereas Canara Bank and J&K Bank have the lowest capital requirement for
credit risk among Public and Private Sector Banks, respectively. These banks have
huge capital base with maximum lending capacity which resulted in higher credit
capital requirement. SBI in Public Sector Banks and ICICI Bank in Private Sector
have larger appetite for Market Risk than rest of the banks, while Canara Bank in
Public Sector Banks and Federal Bank in Private Banks have the lowest appetite for
market risk capital, Whereas the capital requirement for operational risk is the least in
Canara Bank and J&K Bank amid Public Sector Banks, respectively.

Sector-wise analysis indicates that Public Sector Banks have larger capital
requirement to handle Credit, Market, and Operational Risk as compared to their
Private counterparts due to their huge capital base, disposal of funds to public, market
activities such as interest rate fluctuations, trading activities, expansion of branches,
number of employees, regulatory risk and interference of government. As per
disclosures, Public and Private Sector Banks are using same approaches for measuring
capital risk requirements such as Standardised Approach for Credit Risk, Standardised
Durations Approach for Market Risk and Basic Indicator Approach for Operational
Risk.

3.5.2 Pillar II - Supervisory Review Process

Supervisory review process is intended not only to ensure that banks have
adequate capital to support all the risks in their business, but also to encourage banks
to develop and use better risk management techniques in monitoring and managing
their risks. The objectives of the supervisory review process are as follows:
 To ensure that banks have adequate capital to support all the risks in their
business and

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  To encourage banks to develop and use better risk management techniques in
monitoring and mitigating their risks.

Pillar II casts responsibility on the supervisors to exercise best ways to manage

the risks specific to that bank and also to review and validate banks risk measurement
modes. All the supervisors should evaluate the activities and risk profiles of
individual banks to determine whether those organisations should hold higher levels
of capital than the minimum requirements and to see whether is any need for remedial
action to ensure that each financial institution adopts effective internal processing for
risk management (Balasubramaniam, 2012).

3.5.3 Pillar III - Market Discipline

It provided disclosure requirements for banks using Basel II Framework.

These disclosures allowed market participants to assess key information and thereby
make ‗informed‘ decision about a bank. Basel Committee on Banking Supervision has
emphasised the importance of timeliness of information. It recommended that all
sophisticated internationally active banks should provide disclosures on a semi-annual
basis. Critical information such as Tier-1 capital, capital ratios and their components
may be published on a quarterly basis. On the other hand, qualitative disclosures such
as policies, system, definitions may be made on an annual basis.
Pillar I provided a menu of alternative approaches, from simple to advanced ones, for
determining the regulatory capital towards Credit Risk, Market Risk and Operational
Risk.
Pillar II required the banks to establish an ‗Internal capital Adequacy Assessment
Process‘ (ICAAP) to capture all material risks including those are not covered under
the other two pillars.
Pillar III described public disclosures of information on the affairs of the banks to
enable effective market discipline on the banks‘ operations. The RBI issued
guidelines on the Capital Adequacy Framework on April, 2007 and advised banks to
put in place an ICAAP, with the approval of Board (Leeladhar, 2007).

3.5.4 Merits of Basel II

 Basel II is a comprehensive and risk sensitive capital adequacy framework to

address the infirmities in the Basel I Accord.

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  Basel I only accounts for Credit Risk and Market Risk, whereas Basel II
consists Operational and Other Risks in detailed manner.
 Basel II aims to keep capital requirements more risk sensitive.
 Prime mortgaged customers are major concern for Basel II.
 It induces collateralised and hedged exposures.

3.5.5 Demerits of Basel II

 Basel II restricts additional capital requirement in good times.

 Basel II justifies the absence of any explicit regulation governing leverage.
 It ignores the macro concept, while implementing Basel II Norms.

3.6 INDIAN BANKING AND GLOBAL FINANCIAL CRISIS

As a response to the global financial crisis (2007–08) package of reforms

collectively referred to as Basel III has been unleashed; as part of the global
regulatory effort to enhance the soundness and resilience of the banking system
(Gandhi, 2014). Indian Economy, like most of the emerging economies, was lucky to
avoid the first round of adverse effect because its banks were not overly exposed to
supreme lending.

Strict regulations and conservative policies adopted by the RBI and decision
not to allow investment banking on the U.S. Model have ensured that banks in India
are relatively insulated from the travails of their western counterparts. In U.S. certain
regulations were permitted in the case of large banks which were considered ‗too big
to fail‘ and this exemption ultimately triggered crisis. Consequently, it is not the size
that matters, but proper and prudent risk management system. In fact, the financial
sector has emerged without much damage and this was possible due to our strong
regulatory framework and also on account of state ownership of most of the banking
sector. Financial crisis was the main reason behind the introduction of Basel Norms.

Banks in the developed economics were under capitalised, over leveraged and
had a greater reliance on short-term funding, hence the need was felt to further
strengthen financial system. Interim arrangement was also done at the global level in
2009 for adoption of enhanced Basel II regulations known as Basel II.5.

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3.7 BASEL III FRAMEWORK

Basel III Norms were introduced in 2011 to plug the regulatory loopholes of
Basel II Framework. Basel III aims to improve banking sectors‘ ability to absorb
shocks from financial stress by strengthening resilience against future shocks;
supplementing the current recovery process and reducing the risks spill over to the
real economy. Basel III guidelines revolve around the following issues of Risk
Management.
 Enhanced quality and quantity of capital instruments.
 Revision of credit risk weights (securitisation and counterparty risk).
 Introduction of new global liquidity standards.
 Enhanced market risk capital charge.
 Sound compensation practices.
 Leverage Ratio.

Basel III capital regulation has been implemented in India since April 1, 2013
in a phased manner. The Reserve Bank of India extended the transitional period for
full implementation of Basel III capital regulations in India up to March 31, 2019
instead of March 31, 2018. This will also align full implementation of Basel III in
India closer to the internationally agreed date of January, 2019. Basel III does not
supersede the basic ‗three pillar‘ approach i.e., Pillar I - Minimum Capital
Requirement, including separate capital charge for Credit Risk, Market Risk and
Operational Risk. Pillar II - Supervisory Review of Banks allowing for adjustments
of bank‘s capital requirements above to the minimum. Pillar III - Disclosure of
Details regarding capital calculations introduced by Basel III.

3.7.1 Features of Basel III Accord

1. Enhanced Capital Requirements

Banks have to maintain the total regulatory capital (Tier-1 capital +Tier-2
capital) at 8% of the Risk Weighted Assets at all times. Indian Banks are required to
maintain a minimum Pillar I Capital to Risk Weighted Assets ratio of 9% on-going
basis. The total regulatory capital is divided into Tier-1 and Tier-2 capital.

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 Tier-1 capital is divided into Common Equity Tier-1 capital and Additional
Tier-1 capital (Tier-1 cap. = CET 1 cap.+AdT1 cap.). It is the purest form of capital
which constitutes of common shares, surpluses and retained earnings. BCBS advised
banks to maintain 4.5% of the Risk Weighted Assets as common equity all the times.
Additional Tier-1 capital mainly constitutes the instruments used by the banks and
surpluses. The minimum Tier-1 capital should be 6% including Additional Tier-1
capital i.e., 1.5%. Tier-2 capital is gone concern capital including general provisions,
loss reserves, and debt instruments issued by banks, stock surplus and revaluation
reserves.

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 Table 3.4 Trends in Component-wise Capital Ratios of Selected Banks under Basel III for the period 2014 to 2016
(in %)
Capital
Year SBI BOB BOI PNB Canara Bank ICICI Bank HDFC Bank Axis Bank Federal Bank J&K Bank
Ratios\Banks
CET 1 Capital 9.59 8.95 6.84 8.55 7.41 12.78 11.77 12.62 14.59 11.22
Tier-1 Capital 9.72 9.28 7.24 8.87 7.68 12.78 11.77 12.62 14.59 11.22
2014
Tier-2 Capital 2.72 3.00 2.73 2.65 2.95 4.92 4.30 3.45 0.55 1.47
CAR 12.44 12.28 9.97 11.52 10.63 17.70 16.07 16.07 15.14 12.69
CET 1 Capital 9.31 9.35 7.17 8.74 7.37 12.78 13.66 12.07 14.81 11.26
Tier-1 Capital 9.60 9.87 8.17 9.30 8.02 12.78 13.66 12.07 14.81 11.26
2015
Tier-2 Capital 2.40 2.74 2.56 2.91 2.54 4.24 3.13 3.02 0.65 1.31
CAR 12.00 12.61 10.73 12.21 10.56 17.02 16.79 15.09 15.46 12.57
CET 1 Capital 9.81 10.29 7.97 7.87 8.18 13.00 13.22 12.48 13.36 10.60
Tier-1 Capital 9.92 10.79 9.03 8.41 8.80 13.09 13.22 12.51 13.36 10.60
2016
Tier-2 Capital 3.20 2.39 2.98 2.87 2.28 3.55 2.31 2.78 0.57 1.21
CAR 13.12 13.18 12.01 11.28 11.08 16.64 15.53 15.29 13.93 11.81
Mean 12.52 12.69 10.90 11.67 10.76 17.12 16.13 15.48 14.84 12.36
SD 0.56 0.46 1.03 0.48 0.28 0.54 0.63 0.52 0.81 0.48
CAGR 1.79% 2.39% 6.40% -0.70% 1.39% -2.04% -1.13% -1.64% -2.74% -2.37%

Source: Statistical Tables relating to Banks in India – RBI Publications and Annual Reports of respective banks from their web-sites for the period 2014 to 2016
Note: (i) CAR stands for Capital Adequacy Ratio
(ii) CET 1 Capital is the part of Tier-1 Capital and CAR
(iii) Gap between CET 1 and Tier-1 Capital shows the presence of AdT 1 Capital
(iv) CET 1, Tier-1 Capital and CAR involves Capital Conservation Buffer (CCB) of 0.625% in the Year 2016
(v) SD stands for Standard Deviation and CAGR stands for Compound Annual Growth Rate

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 Table 3.4 exhibits Capital Ratios of Selected Banks under Basel III for the
period i.e., 2014 to 2016.Capital Adequacy Ratio in Basel III period includes CET1
Capital (Common Equity Tier-1 Capital); and Additional Tier-1Capital; therefore all
these ratios are called Capital Ratios. Public and Private Sector Banks over the years
under study hold the sufficient amount of capital under Basel III scenario.

In Public Sector Banks, BOB has the highest average Capital Adequacy
Ratio (12.69%), followed by SBI (12.52%), PNB (11.67%), BOI (10.90%) and
Canara Bank (10.76%). BOI (1.03) has the highest variation from Mean, whereas
Canara Bank (0.28) has the least variability from the mean value. Compound Annual
Growth Rate of BOI (6.40%) is the highest, followed by BOB (2.39%), SBI (1.79%),
Canara Bank (1.39%) and PNB (-0.70%). The negative growth rate in PNB during
Basel III period has resulted in declining trend. Public Sector Banks are strictly
following Basel guidelines and maintaining all the Capital Ratios such as CET1 ≥ 5.5,
AdT1 ≥ 1.5, Minimum Tier-1 Capital ≥ 7. , Tier-2 Capital ≥ . and addition of
Capital Conservation Buffer in 2016. Selected Public Sector Banks have kept Capital
Conservation Buffer of 0.625% in their Capital Adequacy Ratio of Risk Weighted
Assets in the year 2016.

As far as the Private Sector Banks are concerned, their Capital Ratios are
higher in comparison to their Public sector competitors. ICICI Bank (17.12%) holds
the highest mean Capital Adequacy Ratio, followed by HDFC Bank (16.13%), Axis
Bank (15.48%), Federal Bank (14.84%) and J&K Bank (12.36%). Federal Bank
(0.81) has the maximum Standard Deviation, while J&K (0.48) Bank has the
minimum Standard Deviation. Private Sector Banks have been showing decreasing
trend of Capital Adequacy Ratios, therefore Compound Annual Growth Rate
represents negative values such as -1.31%, -1.64%, -2.04%, -2.37%, -2.74% for
HDFC Bank, Axis Bank, ICICI Bank, J&K Bank and Federal Bank, respectively.
Similar to Public Sector Banks, Private Sector Banks have also adhered to RBI
stipulated Capital Ratios such CET 1, AdT1, Min. Tier-1 capital, Min. Tier-2 capital
and on whole Capital Adequacy Ratio. Year 2016 has witnessed Capital Conservation
Buffer of 0.625% of Risk Weighted Assets in CAR for selected Private Sector Banks
under the study.

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 Thus, Bank-wise analysis examines that BOB and SBI in Public Sector Banks
and ICICI Bank and HDFC Bank in Private Sector Banks are the top performer banks
in terms of implementing Capital Ratios, whereas Canara Bank and J&K Bank are the
least performers in Public Sector and Private Sector Banks, respectively. Group-wise
analysis indicates that Private Sector Banks have larger Capital Ratios than Public
Sector Banks. The reason could be Private Sector Banks have better profitability
position and lesser NPAs than Public Sector Banks, which makes it easy for them to
raise the capital. Although Private Sector Banks have more Risk Weighted Assets
because of lending to corporate houses and sensitive areas, yet they are able to raise
their capital by surge in profits and that brings the higher capital ratios.

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 Table 3.5 Trends in Credit, Market and Operational Risk Capital Requirement of Selected Banks under Basel III for the period 2014 to 2016
(Rs. in crore)
Banks\Capital
Year SBI BOB BOI PNB Canara Bank ICICI Bank HDFC Bank Axis Bank Federal Bank J&K Bank
Requirement
Credit Risk 116,270 28,740 28,038 28,058 24,597 42,969 28,534 22,076 3,515 3,895
2014 Market Risk 7,182 1,762 1,619 2,277 1,983 2,976 1,040 1,828 276 268
Operational Risk 10,877 1,948 1,905 2,689 1,558 3,124 2,810 2,000 353 397
Credit Risk 122,801 31,503 29,296 29,141 27,073 46,397 34,842 26,833 3,921 4,122
2015 Market Risk 11,116 1,883 1,601 2,290 2,144 3,940 1,760 2,511 270 278
Operational Risk 12,114 2,267 2,116 2,886 1,680 3,700 3,414 2,432 389 450
Credit Risk 131,951 32,797 27,142 29,157 27,417 51,660 43,348 31,128 4,439 4,990
2016 Market Risk 11,256 2,360 1,708 2,733 2,613 3,782 2,433 2,711 333 215
Operational Risk 14,928 2,945 2,380 3,023 2,229 4,927 4,658 3,287 477 450
Credit Risk 123,674 31,013 28,159 28,785 26,363 47,009 35,575 26,679 3,959 4,336
Mean Market Risk 9,851 2,002 1,643 2,434 2,247 3,566 1,744 2,350 293 254
Operational Risk 12,640 2,387 2,134 2,866 1,822 3,917 3,628 2,573 406 432
Credit Risk 7876.81 2072.43 1082.15 630.16 1538.42 4377.59 7433.88 4527.92 463.24 577.81
SD Market Risk 2312.92 316.17 57.55 259.83 327.37 516.78 696.26 462.82 35.02 34.08
Operational Risk 2076.17 509.47 237.96 168.14 357.33 920.56 942.22 655.11 64.07 30.32
Credit Risk 4.31% 4.50% -1.08% 1.29% 3.68% 6.33% 14.96% 12.14% 8.09% 8.61%
CAGR Market Risk 16.16% 10.24% 1.81% 6.27% 9.63% 8.32% 32.73% 14.03% 6.47% -7.13%
Operational Risk 11.13% 14.78% 7.70% 3.99% 12.68% 16.40% 18.35% 18.01% 10.61% 4.25%

Source: Basel III Pillar 3 Disclosures and Annual Reports of respective banks from their web-sites
Note: (i) Approaches used—Credit Risk Capital Requirement: Standardised Approach, Market Risk Capital Requirement: Standardised Duration Approach and
Operational Risk Capital Requirement: Basic Indicator Approach
(ii) SD stands for Standard Deviation and CAGR stands for Compound Annual Growth Rate.

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 Table 3.5 shows the Capital Requirements for Various Types of Risks
under Basel III period from the year 2014–2016 in Rs. crore. Risk capital requirement
for Public and Private Sector Banks have been increasing throughout in Basel III,
except BOI. Among Public Sector Banks, SBI has the highest mean ratio of credit
risk capital requirement (1,23,674cr) which shows the bank is aggressive in lending,
followed by BOB (31,013cr), PNB (28,785cr), BOI (28,159cr) and Canara bank
(26,363cr), which shows that the bank is conservative in lending. SBI shows the
highest variation from Mean, viz. 7876.81 and PNB represents the lowest variation
from Mean value i.e., 630.16 for the purpose. Every Public Sector Bank has positive
Compound Annual Growth Rate i.e., BOB (4.50%), SBI (4.31%), Canara Bank
(3.68%) and PNB (1.29%), except BOI (-1.08%).

In Private Sector Banks, the selected banks are showing upward trend in
credit risk capital requirement. ICICI Bank shows the highest credit risk as
depicted in its capital requirement for credit risk (47,009cr) due to its aggressive
lending policy, HDFC Bank (35,575cr) and Axis Bank (26,679cr) hold moderate
credit risk, whereas, J&K Bank (4,336cr) and Federal Bank (3,959cr) have low credit
risks due to their small assets base and conservative lending. Banks with low assets
base have lesser lending capacity, therefore they take lesser risks. HDFC Bank
(7433.88) has the maximum variation from Mean, whereas Federal Bank (463.24) has
the minimum variation from the Mean value. Private Sector Banks have been showing
positive CAGR such as in ICICI Bank (6.33%), Federal Bank (8.09%) and J&K Bank
(8.61%), Axis Bank (12.14%) and HDFC Bank (14.96%).

Public Sector Banks show the increasing trend in market risk capital
requirement every year, as market risk has been increasing from 2014–2016. The
average market risk capital requirement of SBI (9,851cr) is at the top followed by
PNB (2,434cr), Canara Bank (2,247cr), BOB (2,002cr) and BOI (1,643cr). SBI
(2,312.92) has the highest Standard Deviation, while BOI (57.55) has the lowest
Standard Deviation from the Mean value. CAGR for Public Sector Banks is positive,
it is maximum in the case of SBI (16.16%) followed by BOB (10.24%), Canara Bank
(9.63%), PNB (6.27%) and BOI (1.81%).

Among Private Sector Banks, Market Risk Capital Requirements are

fluctuating due to the lack of consistency in participation in Equity Investment of

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stock in other companies, Foreign Exchange Risk and Interest Rate Risk. The average
capital requirements for market risk of all the Private Sector Banks is described for
ICICI Bank (3,566cr), Axis Bank (2,350cr), HDFC Bank (1,744cr), Federal Bank
(293cr) and J&K Bank (254cr). It is found that HDFC Bank has the highest deviation
from Mean i.e., 696.26 and J&K Bank has the lowest variation from Mean (34.08) in
case of market risk capital requirement. As far as the CAGR is concerned, J&K Bank
has negative CAGR of -7.13%,whereas among positive Compound Growth Rate
HDFC bank has the highest CAGR (32.73%), followed by Axis Bank (14.03%),
ICICI Bank (8.32%) and Federal Bank (6.47%).

Both the sectors have enhanced operational risk capital requirement under
the Basel III Period i.e., 2014–2016. In Public Sector Banks, the average operational
risk capital requirement is described in descending order as, SBI (12,640cr), PNB
(2,866cr), BOB (2,387cr), BOI (2,134cr) and Canara Bank (1,822cr). SBI shows that
the highest variation from Mean with value (2076.17) and PNB has the lowest
variation from Mean i.e., (168.14). Every bank, in Public Sector Banks has positive
Compound Annual Growth Rate, the details are: BOB (14.78%), Canara Bank
(12.68%), SBI (11.13%), BOI (7.70%) and PNB (3.99%). SBI Bank has larger capital
requirement due to its greater size, larger scale of operations, number of employees
and branches, whereas Canara Bank‘s least capital requirement shows the smaller
size, smaller scale of operations, lesser number of employees and number of branches.

Among Private Sector Banks, ICICI bank has the largest average
operational risk capital requirement (3,917cr) due to its greater size, followed by
HDFC bank (3,628cr), Axis Bank (2,573cr), J&K Bank (432cr) and Federal Bank
(406cr) due to its lower scale of operations. The highest Standard Deviation for the
purpose is in ICICI bank (920.56) and the lowest is in J&K Bank (30.32). If we have a
look at CAGR of Private Sector Banks, HDFC Bank (18.35%) is at the top position,
remaining Axis Bank (18.01%), ICICI Bank (16.40%), Federal Bank (10.61%) are the
followers, whereas J&K Bank (4.25%) is at the bottom position.

Bank-wise analysis reveals that under Basel III regime, all the selected Public
and Private Sector Banks show increasing trend of risk capital requirements for credit,
market and operational risks except one or two banks. Among Public Sector Banks,
SBI has the highest credit risk, and Canara Bank has the lowest credit risk, whereas

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ICICI bank has the maximum credit risk and Federal Bank has the least credit risk in
Private Sector Banks. Market Risk is the highest in SBI, followed by PNB, Canara
Bank, BOB and BOI in Public Sector Banks, whereas in Private Sector Banks ICICI
Bank holds the maximum market risk. The market risk capital requirement is the least
in BOI and J&K Bank among Public and Private Sector Banks, respectively. SBI has
the highest operational risk capital requirement in Public Sector Banks, while the
operational risk is the highest in case of ICICI Bank and the least in Federal Bank
among Private Sector Banks. Thus, it can be said that SBI and ICICI Bank carry top
most position in credit, market and operational risk capital requirement. Other
selected Public and Private Sector Banks vary in holding various capital requirements
as per their risk appetite.

Group-wise analysis reveals that Public Sector Banks have higher credit,
market and operational capital requirements than Private Sector Banks due to their
huge asset base, loan disposals and aggressive participation in market activities such
as investments in stocks, large scale of operations and their greater size.

2. Capital Conservation Buffer

Basel Committee on Banking Supervision kept in mind the objective of

strengthening the resilience of the banking sector and introduced extra buffer of 2.5%
of common equity over and above the minimum requirement of Tier-1 equity. Capital
Conservation Buffer (CCB) is intended to ensure that financial institutions have a
cushion in the event of financial and economic distress. CCB brought the total Tier-1
capital reserves required be 7%. In case of drop down of buffers, the bank will be
restricted to certain activities like distribution of dividends, share buy bank and bonus
issues. Banks can rebuild them by reducing the discretionary earnings such as
payment of dividends, bonus to staff etc.

3. Countercyclical Buffer

The Basel Committee has suggested that the use of buffer is especially
appropriate when the amount of credit in the economy is excessive as compared to its
historical needs. The countercyclical capital buffer entails common equity or other
fully loss absorbing capital in the range of 0% to 2.5% to be implemented according
to national circumstances and kicks in when credit to Gross Domestic Product (GDP)
ratio deviates significantly from the trend.
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 4. Leverage Ratio
Basel Committee has introduced a Leverage Ratio (Ratio of Tier-1 Capital to
Total Assets) which can be used as non-risk sensitive backdrop measure to reduce the
risk of excessive leverage in the institution and in the financial system. Basel III
Accord recommended that Tier-1 capital has to be at least 3% of Total Assets, even
when there is no risk weighing. The Committee intended to test a minimum Tier-1
leverage ratio of 3% during the parallel run period from January 2013 to January
2017. RBI proactively suggested to maintain a leverage ratio of 4.5%, but maintaining
the ratio is not mandatory until end of the year 2017. Bank level disclosure of the
leverage ratio and its components has started from April, 2015 and further the ratio
would be reported quarterly.

Table 3.6 Trends in Leverage Ratio (LR) of Selected Banks under Basel III for the
period 2015 to 2016
(in %)
Leverage SBI BOB BOI PNB Canara ICICI HDFC Axis Federal J&K
Ratio/Banks Bank Bank Bank Bank Bank Bank
June 2015 5.22 5.17 4.72 5.43 4.87 8.22 8.51 7.8 8.33 6.59
September 5.47 5.3 4.79 5.73 4.91 8.55 8.47 7.54 8.14 N/A
2015
December 5.3 5.1 4.37 5.44 4.85 8.19 8.59 7.26 7.95 7.78
2015
March 2016 5.24 5.83 4.8 5.88 4.9 9.06 8.87 8.33 7.68 7.29
Mean 5.31 5.35 4.67 5.62 4.88 8.51 8.61 7.73 8.03 7.22
SD 0.11 0.33 0.20 0.22 0.03 0.40 0.18 0.46 0.28 0.60
CGR 0.10% 3.05% 0.42% 2.01% 0.15% 2.46% 1.04% 1.66% -2.01% 2.56%

Source: Basel III Disclosures and Annual Reports of respective banks from their web-sites
Note: (i) Leverage Ratio has been implemented from April 1, 2015 and calculated on Quarterly
Basis
(ii) N/A stands for data Not Available
(iii) SD stands for Standard Deviation and CGR stands for Compound Growth Rate.

Table 3.6 represents Leverage Ratio (LR) of selected banks under study,
which is introduced in Basel III and is used as non-risk sensitive backdrop measure to
reduce the risk of built-up of excessive leverage in the institution. Disclosures of
leverage ratio have been made by banks, from April, 2015 (quarterly
disclosures).The benchmark set by BCBS, is that leverage ratio of ‗Tier-1 Capital to
Total Assets‘ has to be at least 3% of Total Assets up to year 2017, on trial basis. RBI
has suggested banks to maintain leverage ratio of 4.5% up to year2017, which is not

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mandatory on part of the banks. The analysis indicates that all the banks are
maintaining leverage ratio according to prescribed limit in four quarters.

Among Public Sector Banks, the highest average leverage ratio is represented
by PNB (5.62%) which shows higher likelihood of bank withstanding negative
shocks, followed by BOB(5.35%), SBI (5.31%), Canara Bank (4.88%) and BOI
(4.67%) which is lesser resilient towards negative shocks. BOB (0.33) has the highest
Standard Deviation and Canara Bank (0.03) has the lowest variation from the Mean
value. Leverage Ratio is in the range of 4.37% to 5.88% in Public Sector Banks.
Every Public Sector Bank has displayed positive Compound Growth Rate, the highest
is found in BOB (3.05%), followed by PNB (2.01%), BOI (0.42%), Canara Bank
(0.15%) and SBI (0.10%).

The leverage ratio of Private Sector Banks varies within 6.59% to 9.06%.
The highest average leverage ratio is shown by HDFC Bank (8.61%) which indicates
the higher likelihood of bank withstanding negative shocks, followed by ICICI Bank
(8.51%), Federal Bank (8.03%), Axis Bank (7.73%) and J&K Bank (7.22%) which
indicates the lower likelihood of bank withstanding negative shocks. J&K Bank (0.60)
has the highest variation from Mean and HDFC Bank (0.18) has the lowest variation
from the Mean value. Four, among five Private Sector Banks, viz. J&K Bank
(2.56%), ICICI Bank (2.46%), Axis Bank (1.66%) and HDFC Bank (1.04%) have
positive compound growth rate due to increasing trend in leverage ratio throughout
the four quarters but Federal Bank has represented negative growth rate of -2.01% due
to decrease in leverage ratio within last two quarters. The second quarter data of J&K
Bank is not available.

Bank-wise analysis has shown that PNB, BOB and SBI among Public Sector
Banks hold larger leverage ratios as compared to other Public Banks, while HDFC,
ICICI in Private Sector Banks hold greater leverage ratio than their counterparts. BOI
in Public Sector Banks and J&K Bank in Private Sector Banks have the least leverage
ratio. Public and Private Sector Banks have sufficient amount of high quality capital
or equity proportionate to its total assets.

Group-wise analysis shows that Public and Private Sector Banks are
maintaining the leverage ratio recommended by the RBI i.e.,4.5%.Public Sector
Banks are maintaining the leverage ratio within the range 4.37% to 5.88% which is

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near the benchmark of RBI (4.5%), but Private Sector Banks are holding leverage
ratio above the benchmark, within the range 6.59% to 9.06%. Private Sector Banks
have substantial equity with respect to total assets. As the amount of equity has
increased in leverage ratio Private Sector Banks are less prone to risks or have higher
likelihood of withstanding the negative shocks as compared to their Public Sector
Counterparts.

5. Liquidity Risk Measurement

Basic III introduced a new global liquidity standard aligning with the minimum
capital requirement of the Basel Capital Accords. The Basel Committee developed
two minimum standards for funding liquidity.

a. Liquidity Coverage Ratio (LCR)

b. Net Stable Funding Ratio (NSFR)

a. Liquidity Coverage Ratio (LCR): Liquidity Coverage Ratio (LCR), which is a

short term perspective, is designed to ensure that a bank maintains and adequate
level of unencumbered, High Quality Liquid Assets (HQLAs) that can be
converted into cash to meet its liquidity needs for a thirty daytime horizon under
an acute liquidity stress scenario specified by supervisors. As per BCBS, by Jan,
2019 banks have to maintain 100% Liquidity Coverage Ratio.

High Quality Liquid Assets

Total Net Cash Outflow for Next 3 Day

There are Level 1 and Level 2 HQLAs. Level 1 Assets are cash, Central Bank
reserves, certain securities issued by Government, Central Banks and some other
International Finance Agencies. Level 2 Assets are other qualifying liquid assets.
Level 2 Assets which cannot exceed 40% of the total liquid assets used to compute
the LCR.

As per RBI guidelines, the minimum LCR required to be maintained by banks

shall be implemented in the phased manner from January, 2015 as given below:

Year 2015 2016 2017 2018 2019

LCR 60% 70% 80% 90% 100%

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 Table 3.7 Trends in Liquidity Coverage Ratio (LCR) of Selected Banks under Basel III
for the period 2015–2016
(in %)
Banks
/Liquidity Canara ICICI HDFC Axis Federal J&K
SBI BOB BOI PNB
coverage Bank Bank Bank Bank Bank Bank
Ratio
March 81.91 108.11 129.56 96.79 64.95 101.45 100.80 88.05 112.92 305.46
2015
June 2015 78.50 90.58 114.98 N/A 77.90 88.32 84.91 74.99 158.08 N/A
September 74.03 83.27 87.74 N/A 88.63 86.76 79.62 80.12 154.60 N/A
2015
December 72.06 105.36 92.60 N/A 90.79 84.72 73.53 73.15 163.53 N/A
2015
March 76.36 100.90 96.46 74.93 84.92 91.62 80.00 85.75 140.98 113.58
2016
Mean 76.57 97.64 104.27 N/A 81.44 90.57 83.77 80.41 146.02 N/A
SD 3.84 10.44 17.50 N/A 10.44 6.58 10.34 6.50 20.29 N/A
CGR -1.74% -1.71% -7.11% N/A 6.93% -2.52% -5.61% -0.66% 5.71% N/A

Source: Basel III Disclosures and Annual Reports of respective banks from their web-sites
Note: (i) LCR has been implemented from Jan 1, 2015 and calculated on Quarterly Basis.
(ii) The LCR of PNB and J&K Bank is calculated annually.
(iii) LCR as on March, 2016 of PNB and J&K Bank is average of four quarters.
(iv) N/A stands for data Not Available.
(v) SD stands for Standard Deviation and CGR stands for Compound Growth Rate.

Table 3.7 depicts Liquidity Coverage Ratio of selected banks for five
quarters under Basel III. The ratio has been implemented from 1st January, 2015.
BCBS has prescribed that by the year 2019, banks have to maintain Liquidity
Coverage Ratio (LCR) of 100% in phases. LCR, a short term liquidity coverage ratio
is the ratio of High Quality Liquid Assets (HQLA) to Total Net Cash Outflows in
thirty (30) days period. The RBI has suggested phase in arrangement and advised the
benchmark of 60% and 70% for the year 2015 and 2016, respectively. Every bank,
among selected banks, whether it is Public or Private Sector Bank, is maintaining
liquidity coverage ratio according to the standard fixed by the RBI.

Public Sector Banks show LCR above the level decided by RBI in first four
quarters of the year 2015. Next quarter, in the year 2016, has also witnessed the ratio
above the specified norms. PNB‘s LCR ratios of three quarters are not available, as
bank calculates its average of four quarters, represented by LCR of 74.93% as on
March, 2016. BOI (104.27%) shows the highest average LCR indicates the higher
liquidity position of a bank, followed by BOB (97.64%), Canara Bank (81.44%) and
SBI (76.57%) which shows the lower liquidity position of a bank. BOI (17.50) shows

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the highest variation from the Mean value, whereas SBI (3.84) holds the lowest
variation from Mean due to its less fluctuating LCR. Three, out of five Public Sector
Banks (except PNB) have negative CGR due to volatile LCR in the year 2016, as
compared to year 2015. Canara Bank (6.93%) has the positive compound growth rate,
whereas BOB (-1.71%), SBI (-1.74%) and BOI (-7.11%) have negative growth rate.

Initially, BCBS prescribed 100% of LCR ratio, but later on RBI prescribed
phase in arrangements up to the year 2019, Public Sector banks, proactively, could
have kept aside the money for this ratio according to BCBS norms to avoid any
discomforts, therefore their mean LCR could be high and above the prescribed level
of RBI, especially in first quarter of the year 2015.

Private Sector Banks hold the Liquidity coverage Ratio (LCR) in five
quarters above the prescribed limit of 60% in 2015 and 70% in the year 2016. Federal
Bank (146.02%) has the highest mean LCR indicating the greater liquidity in bank,
followed by ICICI Bank (90.57%), HDFC Bank (83.77%) and Axis Bank (80.41%)
indicating the lower liquidity in bank. J&K Bank and PNB calculate the LCR
similarly on annual average pattern. Therefore, their Mean, Standard Deviation and
Compound Growth Rate cannot be calculated for both the banks. Federal Bank
(20.29) holds the greatest variation from Mean value and Axis Bank (6.50) depicts the
smallest variation. Analogous to Public Sector Banks, CGR of Private Sector Banks
such as Axis Bank (-0.66%), ICICI Bank (2.52%) and HDFC Bank (-5.61%) are
negative. Federal bank has positive Compound Growth Rate of 5.71% as it has been
showing increasing trend of LCR in the last quarter of year 2016.

Bank-wise analysis depicts that BOI, among Public Sector Banks, Federal
Bank in Private Sector Banks have ample amount of high quality liquid assets for
thirty days‘ time period to meet its liabilities, whereas SBI and Axis Bank have the
least high quality liquid assets among Public and Private Sector Banks, respectively. It
has been noticed by Sector-wise analysis that Private Sector Banks have more high
quality liquid assets than Public Sector Banks. Overall both the banks groups under
study are strictly following RBI‘s suggested LCR and have enough amounts of
HQLAs to Net Cash Outflows to deal short term liquidity risk.

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b. Net Stable Funding Ratio (NSFR)
At the long term spectrum, the Net Stable Funding Ratio is intended to address
maturity mismatches over the entire Balance Sheet for up to one year and provides
incentive for banks to use stable sources to fund their activities. NSFR is defined as
the ratio, for a bank, of its ‗available amount of stable funding‘ divided by its
‗required amount of stable funding‘. The standard requires that the ratio should not be
lower than 100%.

The full implementation of Capital Ratios, Capital Conservation Buffer and

the Capital Requirements are summarised as follows:

Table 3.8 Requirements of Capital Ratios for Basel III

Regulatory Capital As % to
RWAs
(i) Minimum Common Equity Tier-1 Ratio 5.5
(ii) Capital Conservation Buffer (comprised of Common Equity) 2.5
(iii) Minimum Common Equity Tier-1 Ratio plus Capital
8.0
Conservation Buffer [(i)+(ii)]
(iv) Additional Tier-1 Capital 1.5
(v) Minimum Tier-1 Capital Ratio [(i) +(iv)] 7.0
(vi) Tier 2 Capital 2.0
(vii) Minimum Total Capital Ratio (MTC) [(v)+(vi)] 9.0
(viii) Minimum Total Capital Ratio plus Capital Conservation Buffer
11.5
[(vii)+(ii)]

Source: RBI Master Circular No. RBI/2011-12/530, DBOD No. BP.BC.98

Earlier Capital Conservation Buffer was scheduled to be implemented from

March 31, 2015 in phases up to March 31, 2018 by Reserve Bank of India. Later, RBI
revised guidelines regarding Basel III implementation in India and Capital Planning
and decided the implementation of CCB will begin as on March 31, 2016 and Basel
III Capital regulations will be fully implemented by March 31, 2019. The transitional
arrangements are as follows:

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 Table 3.9 Transitional Arrangements for Scheduled Commercial Banks for Basel III
(% of RWAs)
Minimum Capital April 1, March 31, March 31, March 31, March 31, March 31, March 31,
Ratios 2013 2014 2015 2016 2017 2018 2019
Minimum Common
4.5 5 5.5 5.5 5.5 5.5 5.5
Equity Tier-1 (CET1)
Capital Conservation
- - - 0.625 1.25 1.875 2.5
Buffer (CCB)
Minimum CET1+ CCB 4.5 5 5.5 6.125 6.75 7.375 8
Minimum Tier-1 Capital 6 6.5 7 7 7 7 7
Minimum Total Capital* 9 9 9 9 9 9 9
Minimum Total Capital
9 9 9 9.625 10.25 10.875 11.5
+ CCB
Phase-in of all
deductions from CET1 20 40 60 80 100 100 100
(in %) #
Source: RBI Circular RBI/2013-14/538, DBOD No. BP.BC.102/21.6/201/2013-14
Note: (i) *The difference between the minimum total capital requirement of 9% and the Tier-1
requirement can be met with Tier-2 and higher forms of capital;
(ii) #The same transition approach will apply to deductions from Additional Tier-1 and Tier-2
capital

3.7.2 Merits of Basel III

 Basel III has emphasised on better liquidity management by introduction of

short-term Liquidity Coverage Ratio (LCR) and Net Stable Funding Ratio
(NSFR).
 It has enhanced the Banking Supervision.
 It prevents excessive usage of leverage by applying Leverage Ratio.
 Basel III addresses issues of pro-cyclicality and maintenance of enhanced
liquidity levels.

3.7.3 Demerits of Basel III

 It may become the cause to global capital shortfall and lack of liquid assets in
banks for funding.
 As lot of risk weighing depends upon credit rating agencies and the weights
are assigned on the basis of rating. Sometimes, the credit rating agencies may
prove wrong.
 Basel III compliance requires enhanced capital requirements, which may
hamper the profit margins as Indian Banks are plaguing with non-preforming
loans.

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  It could change demand from short-term lending to long-term lending.

3.8 REGULATORY SCENARIO IN INDIA FOR IMPROVISING RISK

MANAGEMENT IN BANKS

The Reserve Bank of India has adopted a proactive and calibrated approach
towards demanding and facilitating robust Risk Management efforts by the banks. It
has adopted a conservative and proactive approach for implementation of Basel
Norms and time to time issued guidelines for improvising Risk Managements in
banks, which are as follows:
1. RBI has issued enhanced Pillar 3 disclosure requirements, effective from
quarter ended September 30, 2013 to improve transparency of regulatory
capital to enhance market discipline.
2. Guidelines on Liquidity Risk Management have been issued on November,
2012 and guidelines regarding Liquidity Coverage Ratio in Basel III were
issued on June, 2014.
3. Reserve Bank of India on July, 2013 has issued guidelines on capital
requirements for bank exposures to Central Counterparties (CCPs) provide
incentives for banks to clear Over the Counter (OTC) derivatives contracts
through qualified central counter parties.
4. Draft framework dealt with Domestic Systemically Important Banks (D-SIBs)
required additional common equity capital requirement applicable to a
Domestic Systemically Important Bank (D-SIB) will be 0.8% of Risk
Weighted Assets.
5. The Reserve Bank has revised its guidelines on Securitisation in May, 2012.
6. Guidelines on Risk Management of un-hedged exposures and also the
methodology to be followed by banks for computing incremental provisioning
and capital requirement for exposure to corporate having un-hedged foreign
currency exposures have been introduced.
7. To avoid concentration of Credit Risk and large losses due to Intra-Group
Transactions and Exposures (ITEs), RBI has prescribed regulatory guidelines
on February, 2014 putting in place both quantitative limits for the financial
Intra-Group Transactions and Exposures and prudential measures for the Non-
Financial ITEs.

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 8. A framework for revitalising ‗Distressed Assets‘ emphasised on early
recognition of financial distress, information sharing among lenders,
centralised reporting and dissemination of information on large credits,
incentives for lenders and borrowers to agree on resolution and improvements
in the current restructuring process.
9. The RBI has revised Guidelines on ‗Sound Stress Testing‘ practices and
supervision on December, 2013 which is expected to provide a
complementary and independent risk perspective to other risk management
tools such a value-at-risk (VaR).
10. As per direction of BCBS, RBI has introduced Countercyclical Capital Buffer
in India, which is based upon the credit-to-GDP gap in conjunction with other
indicators like gross non-performing assets (GNPAs) growth. The
Countercyclical Buffer shall increase linearly from 0 to 2.5% of the Risk
Weighted Assets of the bank.
11. Besides the above regulatory norms, the RBI has issued various guidelines on
other areas such as Corporate Governance; Know Your Customer/Anti Money
Laundering, Credit Information Sharing, Fit and Proper customer service in
addition to specific guidance on Credit, Market and Operational Risk
Management to strengthen the overall risk management culture in Indian
banks (Gandhi, 2014).

3.9 CONCLUSION

The Basel Committee on Banking Supervision took initiative to strengthen the

soundness and stability of banks by introducing Basel Norms. Under Basel I regime,
Capital Adequacy Ratio was introduced, which is the important tool for handling risk.
Over the years, Basel I Framework became outdated due to its credit and market risk
confined coverage. Basel II, which was based on three mutually reinforcing pillars
sought to strengthen the safety and soundness of banking system. Financial Crisis
2008–2009 insisted BCBS to plug the regulatory loopholes of Basel II Accord and
bring in Basel III regulations characterised by micro and macro prudential outlays.
Indian Banks have been adopting Basel III Norms since 2014 under the mentorship
and proactive guidelines of the RBI.

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 Under Basel I Accord, Capital Adequacy Ratio of selected Public and
Private Sector Banks for the period 2000–2008 has been analysed. It has been
examined that all the Public and Private Sector Banks have been comfortably
maintaining Capital Adequacy Ratio in Basel I. SBI, BOB among Public Sector
Banks and J&K Bank, ICICI in Private Sector Banks hold larger Capital Adequacy
Ratios as compared to other banks. Whereas, BOI and J&K Bank have the least
Capital Adequacy Ratio in Public and Private Sector Banks, respectively. Overall,
Private Sector Banks have performed better in terms of Capital Adequacy.

Keeping in line with the past trend of Basel I, selected banks in Basel II
(2009–2013) have fulfilled stipulated norms of the RBI related to Capital Adequacy
Ratio. BOB and Canara Bank in Public Sector Banks and ICICI Bank and Federal
Bank have depicted larger Capital to Risk Weighted Asset Ratios, whereas BOI and
J&K Bank hold the least CAR among Public and Private Banks, respectively. Overall,
Private Sector Banks are more capitalised in contrast to their Public Sector Peers in
Basel II time period. Basel III has demanded higher and better quality capital and
enhanced risk coverage. BOB, SBI in Public Sector Banks are best performers in
terms of maintaining Capital Ratios according to Basel III regime requirements,
whereas ICICI and HDFC Bank are the best performer banks among Public Sector
Banks. Canara Bank and J&K Bank have maintained the least Capital Ratios in Public
and Private Sector Banks, respectively. Private Sector Banks have more efficiently
maintained the Capital Adequacy Ratio since the implementation of Basel Norms.

Both the bank groups have increased appetite for Credit Risk Capital
Requirement. Usually, banks with huge asset base have large funds to lend;
consequently they need large cushion to deal with default risk. SBI has been showing
the largest capital requirement of credit risk throughout in Basel II and Basel III,
followed by PNB. Canara Bank has the least credit risk capital requirement
throughout in Basel II and Basel III, in Public Sector Banks. Among Private Sector
Banks, ICICI and HDFC Bank have depicted larger credit risk, while J&K Bank and
Federal Bank have the least credit risk during Basel II and Basel III.

Variation in the Market Risk Capital Requirement is based on Interest Rate,

Foreign Exchange Risk and Investment in Equity Stocks of other Companies. Among
Public Sector Banks Market Risk is the highest in SBI in Basel II and Basel III time

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period and lowest in Canara Bank and BOI for Basel II and Basel III, respectively.
The capital requirement is greater in ICICI Bank for Basel II and Basel III period and
the lesser can be seen in Federal and J&K Bank for Basel II and Basel III period,
respectively among Private Sector Banks.

Capital Requirement for Operational Risk depends upon size of the bank,
branch expansion, nature of activities, ownership structure of banks and scale of
operations. During Basel II and Basel III banks with large assets and maximum
branch expansion have displayed higher operational risk such as SBI and ICICI bank
in Public and Private Sector Bank groups for Basel II and Basel III, respectively.
Canara Bank has shown the least operational risk both for Basel II and Basel III
period among Public Sector Banks, while J&K Bank and Federal Bank have the least
operational risk for Basel II and Basel III period among Private Banks.

All the banks are using basic approaches to measure different risks, viz.
Standardised Approach for Credit Risk, Standardised Duration Approach for Market
Risk and Basic Indicator Approach for Operational Risk. Public and Private Sector
Banks are maintaining Leverage ratio above the prescribed limit of Tier-1 Capital to
Total Assets i.e., 4.5%, which shows sufficient amount of Equity in banks as
compared to Total Assets. Basel Committee on Banking Supervision prescribed that
by the year 2019, banks have to maintain Liquidity Coverage Ratio by100% in
phases, which is the ratio of High Quality Liquid Assets to Total Net Cash Outflows
in thirty days period. Both the bank groups under study are strictly following RBI‘s
guidelines for maintenance of LCR and have enough amounts of HQLAs to Net Cash
Outflows to tackle short term liquidity risk. Private Sector Banks have better high
quality capital and liquid assets to prevent banks from risks.

Hence, it is concluded that selected Public and Private Sector Banks have been
in comfortable position, while adopting the Basel Norms. Thus, in view of current
dynamic business scenario, which is backed by creative financial tools and enlarged
financial sophistication, there is need of robust Risk Management System. Banks need
to move further from basic approaches to advanced approaches to have accurate and
proactive assessment of Credit, Market and Operational Risk.

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