Set up systems to maintain economic capital, banks told

The Reserve Bank of India (RBI) has advised major domestic banks operating in the international markets to evolve suitable methodologies for estimating and maintaining economic capital.

"Due to diversity and varying size of balance sheets, banks have been advised to design risk management architecture dictated by the size, complexity of business, risk philosophy, market perception and the level of capital," Shyamala Gopinath, executive director, RBI, said at the 25th Becon.

As for the other banks, they are required to formulate medium term strategy for estimating and maintaining economic capital.

The estimation of economic capital requires determining both the expected and unexpected losses using sophisticated mathematical modeling techniques on the basis of diverse risk factors, she said.

The capital requirements as per this approach will differ across banks based on risk profile.

As per the risk management guidance notes of the Reserve Bank of India, banks have to assess capital requirements based not merely on regulatory standards but on the basis of underlying risks.

To prepare banks, the central bank has initiated risk- based supervision for a few banks on pilot basis.

The adoption of this approach will lead to deeper understanding of the risks faced by banks and thereby facilitate optimum use of scarce supervisory resources.

With increasing integration of the financial markets, the restructuring and consolidation in the financial sector, the interlinkages with subsidiaries and growing overlap of banking and non-banking activities of financial institutions, issues of systemic stability have acquired new dimensions that require a proactive stance so that gains on financial stability are further strengthened, said Gopinath.