Documente Academic
Documente Profesional
Documente Cultură
Submitted by
VARUN.VM
February, 2017
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CERTIFICATE
The project entitled BASEL norms and the risk management by Banks in India
submitted to the Symbiosis Law School, NOIDA for International Banking and Finance
as part of internal assessment is based on my original work carried out under the guidance
of Mr. Amit Bagga from 06/January/2017 to 25/February/2017. The research work has
not been submitted elsewhere for award of any degree.
The material borrowed from other sources and incorporated in the thesis has been duly
acknowledged.
I understand that I myself could be held responsible and accountable for plagiarism, if
any, detected later on.
Date:22/02/2017
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Acknowledgment
I thank the librarians of Symbiosis Law School NOIDA for their sincere support for
helping me to find various books. I also thank my family, teachers and friends for their
guidance and support. At last but not the least I thank Almighty God for giving me an
opportunity to do and submit this project on time.
Thank you
Varun.VM
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Table of Contents
Conclusion 13
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INTRODUCTION- EMERGENCE OF BASEL NORMS
Post chaotic liquidation of Herstatt Bank in Germany which was direct effect
of failure of Bretton Woods system, there was a call for need for formation of
body or committee to formulate guidelines and recommendations on banking
regulation. In the year 1974, Committee of Banking Regulations and
Supervision was established by the Central Banks of G-10 Countries. The
Committee had regular meetings at the Bank for International Settlements
located at Basel, Switzerland. This Committee was later renamed as the
Basel Committee on Banking Supervision. At present, the committee
comprises of 27 members and each member country is represented by their
respective Central Bank.
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This research paper aims to build a deeper understanding of the emergence
of BASEL banking norms, its objectives and relevance. The primary purpose
of developing this understanding is to further analyze the extent of
effectiveness of the BASEL norms in risk management in Indian scenario.
This research project also covers about the risks to which the banks are
exposed and role of RBI in mitigating such risks through effective risk
management.
For the sake of understanding, the research question has been sub-divided
as follows:
1
Vasavada, Gaurang., Kumar, Sharad., Rao, S. Upendra., Pai, Satish.(2005). General Bank
Management. Mumbai: Indian Institute of Banking and Finance
2
Periasamy, P. (2008). Financial Management. India: Tata McGraw Hill Education India)
Private Limited
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2. What are the types of risks to which the banks are exposed to?
Liquidity risk: The liquidity risk of banks arises from funding of long-
term assets by short-term liabilities, thereby making the liabilities
subject to rollover or refinancing risk.4
Interest rate risk: Interest Rate Risk arises when the Net Interest
Margin or the Market Value of Equity (MVE) of an institution is affected
due to changes in the interest rates. In other words, the risk of an
adverse impact on Net Interest Income (NII) due to variations of
interest rate may be called Interest Rate Risk.5
Operational risk: An operational risk is the risk of direct or indirect loss
resulting from, inadequate or failed internal processes, people and
systems or from external event.6
Solvency risk: The term solvency is always associated with sufficiency
of fund. It is the risk of not having adequate capital to meet out the
losses arising due to all other risk factors.
Market risk: This is usual risk faced by bank due to change in market
variables. The risk of adverse deviations of the mark-to-market value
of the trading portfolio, due to market movements, during the period
required to liquidate the transactions is termed as Market Risk.7
3
Kumar, Ajay., Chatterjee, D.P., Chandrasekhar, C. & Patwardhan D.G. (2005). Risk
Management. Mumbai: Indian Institute of Banking and Finance.
4
ibid
5
Sharma, H.S. (2003, May). Risk management in banks emerging issues. Banking
Finance, 2-6
6
Jurgen H M, Van Grinsven, Improving operational risk management, Amesterdam, 2nd ed.
2009
7
Supra note 3
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identification and measurement of risk followed by monitoring and reporting
to ensure that the returns are appropriate to the risk undertaken and risk
undertaken are commensurate with the risk appetite and risk tolerance.8 The
bank has to ensure that the it holds sufficient capital backed by reserves to
maintain the solvency.
The two most watershed developments that have made it mandatory for
Commercial banks in India to emphasize on risk management are as follows:
8
Why risk management assumes greater significance in banks: RBI , available at
http://www.indiainfoline.com/article/news-top-story/why-risk-management-assumes-
greater-significance-in-banks-rbi-114050900190_1.html
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The 1988 and 2006 Basel accords gave weightage to importance of risk
management. It linked the banks capital adequacy to the risk weighted
assets (hereinafter referred to as RWA) on account of credit and RWA
equivalent for market and operational risks.9 The second Basel accord used
principle of proportionality as a tool for the purpose of risk measurement and
management of credit, market and operational risks. The three pillars can
thus be summarized10 as follows:
Basel III compared previous accords emphasize on improving the quality and
quantity of loss absorbing capital that a bank holds and aims at increasing
the risk coverage of capital framework, in particular for trading activities,
securitizations exposures to off-balances sheet vehicles and counterparty
credit exposures arising out of derivatives.11 Basel III framework regarding
risk management can be summarized as follows12:
9
Supra note 8
10
Risk review and disclosures under Basel III Framework for the period ended 31 March
2015 available at https://www.sc.com/in/assets/pws/pdf/SCB-India-Pillar-3-Disclosures-
31st-March-2015.pdf
11
Supra note 8
12
ibid
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Banks are required to raise the amount of common equity from 2% to
4.5% of assets by January, 2009.
Minimum for Tier one capital has been increased to 6%.
The innovative elements of the Basel III requirements include
additional layers of capital in form of the Capital Conservation Buffer
and Countercyclical Capital Buffer, minimum Liquidity requirements
in the form of short term Liquidity Coverage Ratio (LCR) and long
term structural Net Stable Funding Ratio (NSFR), a leverage ratio as
a back-stop to the risk based capital framework and additional
proposals for the Global Systemically Important Banks (G-SIBs).13
The Capital Conservation Buffer is prescribed as 2.5% of common
equity in addition to the 4.5% minimum requirement bringing the
total common equity requirements to 7% which if breached would
restrict pay-outs of earnings to help protect the minimum common
14
equity requirement.
To mitigate credit risk, the framework further increased the minimum
capital requirement from 8 percent to 10.5 percent.15
Basel III framework proposed a leverage ratio which provides that
banks total assets should not exceed its capital by 33 times.16
13
ibid
14
ibid
15
Dr. Ravindra Tripathi, Analysis of Basel III and Risk Management in Banking, available at
http://www.newmanpublication.com/May15_issue/5.pdf
16
ibid
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Following are steps taken by RBI to implement Basel III accord in India. The
implementation started in the year 2013 and is expected to be completed in
the year 2019.
17
Supra note 8
18
ibid
19
ibid
20
ibid
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additional common equity capital requirement applicable to a D-SIB
with highest systemic importance will be 0.8% of RWAs.21
The Reserve Bank revised its guidelines on securitization in May
2012 and introduced norms on minimum holding period, minimum
retention ratio, and standards for due diligence to align the interest
of the originators and investors, and induce Skin in the Game
concept to discourage Originate to Distribute models 22.
Un-hedged foreign currency exposures (UFCE) of the corporates are
a cause of concern as they pose risk to the individual corporates as
also to the entire financial system. Guidelines on risk management of
un-hedged exposures as also the methodology to be followed by
banks for computing incremental provisioning and capital
requirements for exposure to corporates having un-hedged foreign
currency exposures have since been introduced 23.
The Reserve Bank has from time to time also issued regulatory
guidelines on other areas such as Corporate Governance, Fit &
Proper, Know Your Customer/Anti Money Laundering, Credit
Information Sharing, Customer Services in addition to specific
guidance on credit, market and operational risk management etc., to
strengthen the over-all risk management culture in Indian banks 24.
21
ibid
22
ibid
23
ibid
24
ibid
25
International Journal of Management (IJM), ISSN 0976 6502(Print), ISSN 0976 - 6
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CONCLUSION
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