The Hindu Business Line : Banking on Basel-II

WITH THE RESERVE Bank of India issuing draft guidelines, the stage is set for banks to migrate to a new risk-management regime under the Basel-II norms. The deadline is March 31, 2007 and for one year before that banks are expected to do a parallel run to finetune their systems and procedures. Top bankers say the transition may be relatively smooth, given that they have been sensitised to the needs of a more sophisticated risk-containment scheme thanks to the Basel-I accord and the various regulatory measures introduced by the RBI in its wake. Most banks will require additional capital, though few have even a ballpark figure. While reworking their capital adequacy requirements under the new guidelines, banks will have to outlay more capital under certain heads and less under some other categories. This arises out of the essential difference between Basel-I and -II approaches.

The former was quite a straightforward, `one-size-fits-all' approach; it did not distinguish between the risk profiles and management standards across banks. But under the new guidelines, banks may have to provide less for credit risks but more for operational (in fact, for the first time) and market risks (these have to be reworked more scientifically). One certain outcome will be a spate of public offerings by the government-owned banks as they try and raise additional resources. The Government would naturally support such an endeavour by giving the banks, for instance, greater autonomy than now. The overriding goal of the Basel-II framework is to provide adequate capitalisation of banks and encourage improvements in risk management, thereby strengthening the financial system's stability. Towards that it proposes three mutually reinforcing `pillars', which together constitute a more scientific way of estimating risks and, if need be, providing for capital. The first pillar strengthens the capital adequacy standards of the earlier accord. The second emphasises better supervisory review while the third attempts to incentivise market discipline.

In the long run the Basel-II norms will make banks more risk-sensitive and improve their risk-management systems. The argument that such a complex reworking of the risk-management system is not relevant to many Indian banks that have no major international presence does not stand scrutiny. Regulators worldwide are already pushing for these standards and no Indian bank can stay isolated from international developments. The Basel-II framework is loaded in favour of larger banks with better systems. They can provide for lesser capital while implementing the more advanced approaches to risk containment. The evolution of the Basel-II norms is a big step forward for global cooperation among highly acclaimed financial regulators. The Basel Committee on Banking Supervision, at the Bank of International Settlements (BIS), was first set up to discuss global financial issues in the wake of the collapse of Bankhaus Herstatt in 1974. Basel-I came into being in 1988 and changed the complexion of banking. It is early to measure the costs and benefits of the Basel-II approach but it will fundamentally alter banking practices including those of the supervisors.

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