In April 1992 Reserve Bank of India advised banks of the need for adopting capital adequacy measures in accordance with the agreed framework on international convergence of capital measures and capital standards as laid down by the Basle Committee. Essentially under the proposed system, the Balance Sheet Assets, non-funded items and other off-Balance Sheet exposures would be assigned weights according to the prescribed risk weights and banks have to maintain unimpaired minimum capital funds equivalent to the prescribed ratio of the aggregate of the risk weighted assets and other exposures on an ongoing basis. It was stipulated by the Reserve Bank of India that for Indian Banks which have branches abroad, the norm of 12% should be achieved as early as possible and, in any case, by 31st March 2005.
In India, various groups of banks are at present subject to different minimum capital requirements as prescribed in the Statutes under which they have been set up. Foreign banks operating in India should have foreign funds deployed in Indian business equivalent to 3.5% of their deposits as at the end of each year. The risk weighted assets ratio approach to capital adequacy measurement is more equitable as it requires those institutions with higher risk assets profile to maintain a higher level of capital funds. In the long run, such an approach, incorporating both On-Balance Sheet and Off-Balance sheet exposures of a bank into its capital ratio according to the level of perceived risk would encourage the banks to be more risk sensitive and to structure their Balance Sheets in a more prudent manner.
Capital Funds Tier 1 Capital in the case of Indian banks would mean paid-up capital, statutory reserves and other disclosed free reserves, if any. Capital reserves representing surplus arising out of sale proceeds of assets will also be reckoned for this purpose. Equity investments 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 This will consist of the following:
1. Undisclosed reserves and cumulative perpetual preference shares.
2. Revaluation reserves. It was considered prudent to consider revaluation reserves at a discount of 50% when determining their value for inclusion in Tier 2.
3. General provisions and loss reserves. This will be restricted up to a maximum of 1.25% of risk weighted assets.
4. Hybrid debt capital instruments. 5. Subordinated debt.
The instrument should be fully paid up, unsecured, subordinated to the claims of other creditors, free of restrictive clauses, and should not be redeemable at the initiative of the holder or without the consent of the bank’s supervisory authorities. Instruments with an initial maturity of less than 5 years or with a remaining maturity of one year should not be included. Subordinated debt instruments will be limited to 50% of Tier 1 Capital. Risk Weights in India Cash, balances with RBI, balances with other banks’, money at call and short notice, investment in Government and other trustee securities as well as claims on other banks such as Certificate of Deposits carry 0 risk weight. So also loans guaranteed by Central/state Governments. However, loans granted to Central/state Governments public sector undertakings as well as other assets carry 100 % risk weight. Reserve Bank of India has announced that banks should assign a risk weight of 5 percent for government/approved securities.
Staff loans should be assigned 100% risk weight. Reserve bank has also announced a 20 percent risk weight to be assigned to the securities of government undertakings which do not form part of the approved market borrowing programmed. In another important measure announced, the Reserve Bank of India has stipulated that the risk weight for government guaranteed advances to be the same as for other advances. Forex open position to have 100% weight The Reserve Bank has hiked the risk weight assigned to banks foreign exchange open positions to 100 percent.
