Banks may get to issue floating rate debt

The Reserve Bank of India may allow banks to float subordinated debt with the floating interest rate option in its annual monetary policy announcement for 2004-05.

Also on the cards are upping of the existing limit on interbank investment in Tier-II capital to 25 per cent for all banks/ financial institutions and guidelines for banks to raise long term bonds from the market.

The floating rate subordinated debt issues could prove to be a boon for both investors' as well as to the banks that find it difficult to get their issues subscribed.

As the situation obtains now, a bank can raise subordinated debt or supplementary capital only at a fixed coupon rate. It then hedges this liability by entering into an interest rate swap with a counterparty.

The bank pays floating rate and receives fixed interest rate payment from the counterparty.

The existing limit on interbank investment in Tier-II capital is 10 per cent for all banks/ financial institutions. By raising the limit to 25 per cent, the financial intermediaries will have more headroom for investing in sub-debt issues.

A bank's capital fund consists of Tier-I and Tier-II capital. Tier-II should not exceed Tier-I component.

Tier-I or the core capital comprises (1) paid-up capital less equity investment in subsidiaries (net of provisions made), (2) intangible assets and losses of current and earlier period, (3) reserves & surplus (statutory reserves, capital reserves representing share premium or profit from sale proceeds of assets, special reserves & other disclosed free reserves).

Government equity in PSU banks contributed in the form of recapitalisation bond is included in Tier-I capital.