Capital adequacy guidelines for Basel-II move unveiled

The Reserve Bank of India (RBI) has decided that all banks will adopt the 'standardised approach' for credit risk and 'basic indicator approach' for operational risk with effect from March 31, 2007.

The apex bank today released draft guidelines on capital adequacy for implementation of Basel II norms in India and sought feedback from the banks for finalisation of the same, said the central bank in a press note issued today.

The guidelines were prepared in consultation with 14 banks representing Indian public and private banks and foreign banks.

To ensure a smooth transition to the revised framework, the guidelines propose that banks in India could adopt a parallel run of the revised framework with effect from April 1, 2006.

Under the standardised approach for credit risk there will be a set of Indian credit rating agencies empanelled by the RBI. Even as the banks will continue with the internal assessment of the risks, these agencies will also map the risk assessment of assets.

These assets will be rated as AAA, AA, A, BBB,BB+ and below and unrated. There will be four categories of assets, corporate, retail, sovereign and project finance.

Credit risk arises from the fear of default of the asset in terms of loan or bonds.

The major change that will be brought in by the new norms is that banks will no more have to assign 9 per cent risk weightage and provide capital.

Rather, AAA will be accorded 20 per cent risk weight followed by 50 per cent to AA, 75 per cent to A, 100 per cent to BBB and 150 per cent to BB and below. Unrated assets will attract a risk weight of 100 per cent. Thus for risk prudent banks, the capital requirement will go down.

In order to handle the operational risk which arises from unseen circumstances on daily basis, the central bank has prescribed the simple basic indicator approach.

Under this approach each bank should set aside 15 per cent of their gross income as provision towards the operational risk. The gross income will be calculated as an average of last three years.

After adequate skills are developed, both in banks and at supervisory levels, some banks may be allowed to migrate to internal rating based approach after obtaining the specific approval of Reserve Bank, said the release.

The approaches available for computing capital for credit risk are standardised approach, foundation internal rating based approach and advanced internal rating based approach.

The approaches available for computing capital for operational risk are basic indicator approach, standardised approach and advanced measurement approach.