Banking and Legal Frameworks

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Content
Banking Regulation Act-1949. Reserve Bank of India Act- 1934. Basel I, II, III. Risk faced by Bank.

Capital Adequacy Ratio.

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 It empowered the Reserve Bank of India (RBI) "to regulate, control, and inspect the banks in India". Framework for regulation and supervision of commercial banking activity. In 1965 the act was amended to cover cooperatives banks. The emphasis of supervision has shifted from CAMELS to more risk based approach.
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Banking Regulation Act1949

cont...
Banking Regulation Act- 1949 defines a banking company as a company which transact the business of banking in India Sec 7 of Banking Regulation Act prohibits a company other than banking company from using the word bank, banker, banking, or banking company.

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Reserve Bank Of India Act-1934

RBI was established on 1st April 1935.

RBI was originally Privately owned.

RBI was Nationalised in Year 1949. Central Office was initially established in Calcutta and moved to Mumbai in 1937.
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Structure of RBI
RBI Have 20 Directors : The Governor Four Deputy Governors One Govt. Official from Ministry of Finance. Ten Nominated Director, nominated by Govt. Four Directors to represent Headquarters at Mumbai, Kolkata, Chennai & New Delhi. Appointed/ Nominated for period of Four Years. RBI has Head office in Mumbai & other 22 regional offices. 6
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Function of RBI
1. 2. 3. 4. 5. 6. Bank of Issue Banker to Government Bankers' Bank and Lender of the Last Resort Controller of Credit Custodian of Foreign Reserves Promotional functions

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Basel Norms
Basel guidelines refer to broad supervisory standards. Currently there are 27 member nations in the committee. The set of agreement by the BCBS are called Basel accord. It mainly focuses on risks to banks and the financial system.
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Basel Norms cont...

The purpose of the accord is to ensure that financial institutions have enough capital. India has accepted Basel accords for the banking system.

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Establishment of Basel Committee

It was formed in response to the messy liquidation of a Cologne-based bank in 1974. On 26 June 1974, a number of banks had released Deutsche Mark to the Bank Herstatt in exchange for dollar. Due differences in the time zones, there was a lag in the dollar payment.

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Cont...
This incident prompted G-10 nation to form Basel committee on banking supervision.

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Basel I, II, III

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Basel I
In 1988, BCBS introduced capital measurement system called as Basel 1. It focused almost entirely on credit risk. It defined capital and structure of risk weights Assets (RWA)for banks. India adopted Basel 1 guidelines in 1999.

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Cont...
This classification system grouped a bank's assets into five risk categories:
Risk Weights
0% 0%, 10%, 20% or 50% Public sector debt

Asset Classification
Cash, government and debt and any OECD government debt

20%

Development bank debt, OECD bank debt, OECD securities firm debt, non-OECD bank debt (under one year maturity) and non-OECD public sector debt, cash in collection
Residential mortgages private sector debt, non-OECD bank debt (maturity over a year), real estate, plant and equipment, capital instruments issued at other banks
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50% 100%

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Cont...
Calculation of RWA
Assets Category Treasury Bond Municipal Bond Residential Mortgage Unsecured Loan Risk Weight Capital ratio Amount RWA Minimum Capital Requirement $0 $16 $40 $80

0% 20% 50% 100%

8% 8% 8% 8%

$1000 $1000 $1000 $1000

$0 $200 $500 $1000

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Pitfalls of Basel I
Limited differentiation of credit risk. Static measure of default risk. No recognition of term-structure of credit risk . Simplified calculation of potential future counterparty risk

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Basel II
In June 04, Basel II guidelines were published by BCBS. Guidelines were based on three parameters, which the committee calls it as pillars. Capital Adequacy Requirements Supervisory Review Market Discipline
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Changes
Banks are required to maintain a minimum capital to Risk-weighted assets ratio (CRAR) of 9% on an ongoing basis. Two approaches for computing RWAs for Credit Risk: Standardized Approach: Foundational Internal Rating Approach:
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Cont...
Operational & Market Risk Three approaches Basic Indicator Approach Standardized Approach Advanced Measurement Approach

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Basel II-3Pillars

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Basel III
In 2010, Basel III guidelines were released. These guidelines were introduced in response to the financial crisis of 2008. Basel III norms aim at making most banking activities such as their trading book activities more capital-intensive. The guidelines aim to promote resilient banking system by focusing on four vital banking parameters.
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Cont...
The minimum amount of equity, as a percentage of assets, will increase from 2% to 4.5% There is also an additional 2.5% "buffer" requirement.

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Risks faced by Banks

Credit risk. Country and transfer risk. Interest rate risk. Liquidity risk. Operational risk. Settlement Risk.

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Capital Adequacy Ratio

Definition: Capital Adequacy Ratio (CAR) is defined as the ratio of bank's capital to its risk assets. Capital Adequacy Ratio (CAR) is also known as Capital to Risk (Weighted) Assets Ratio (CRAR).

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Cont...
In1992-93 banks are required to have a minimum capital of 8%. In 1998-99. the CRAR to be raised to 10%. Minimum requirements of capital fund in India: Existing Banks 09 % New Private Sector Banks 10 % Banks undertaking Insurance business 10 % Local Area Banks 15%
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Cont...
Concepts of Capital Adequacy Norms:

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Thank You
Presented By: Bhavini Patel - 27 & Shradha Pereira - 32

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