The Hindu Business Line : Banks can meet Basel II capital adequacy norms, says Crisil

CRISIL is of the view that banks will comfortably be able to meet the incremental capital requirements for the implementation of the Basel II norms, through internal accruals and fresh capital issuances.

If the proposed new capital adequacy framework based on Basel II were to be applied on the banking sector's March 31, 2004 portfolio, the overall capital adequacy would have declined by 1.6 percentage points to 11.3 per cent from 12.9 per cent, as per a CRISIL study.

The overall decline would be a combined effect of lower capital requirement for credit risk and higher capital requirement for market and operational risk. In the long term, the implementation of these norms will encourage banks to be more risk-sensitive, leading to an improvement in risk management systems.

The proposed framework is more comprehensive in its coverage of risks than the one currently in force. Operational risk will be addressed for the first time and market risk will be measured more scientifically under the proposed framework. It will also encourage better risk appreciation and foster risk-based pricing.

Capital allocated to an `A' rated exposure would be five times that of a `AAA' rated exposure-enough incentive for risk-based pricing, according to Ms Roopa Kudva, Executive Director and Chief Rating Officer, CRISIL.

It is expected, that had the proposed framework been applied on the banking sector's March 31, 2004 portfolio, the sector would have gained 0.7 percentage point on capital adequacy as a result of the implementation of the standardised approach for credit risk.

Capital savings on credit risk arise as the reduction in capital requirements for the high safety rating category (mainly AAA and AA) exposures and retail category exposures, more than offsets the additional capital required for the moderate safety and speculative grade-rating category (BBB and below ratings).

Capital allocation for operational risk under the proposed framework would have resulted in capital adequacy declining by 1.1 percentage points. Operations risk is inherent in the banking business, but has so far not received adequate attention. The proposed measure, although not very scientific, marks a beginning towards an understanding of operational risk.

The net effect of all these changes would have been 1.6 percentage points reduction in the capital adequacy ratio, according to CRISIL.

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Banks can meet Basel II capital adequacy norms, says Crisil