Govt to press hard to align RBI regulations with international norms

The Union government will continue to push the Reserve Bank of India (RBI) to align its regulatory capital norms and the prompt corrective action (PCA) framework with Basel-III guidelines, an international regulatory framework for banks, in a crucial meeting next week.

In the regulator’s central board meeting, it will ask the RBI to ease provisioning norms for micro, small and medium enterprises (MSMEs) to bring them in line with the Basel framework. Government representatives will also be present in the meeting on Monday.

The government has argued while the Basel framework requires the application of minimum capital norms to internationally active banks but the RBI has applied the norms to all scheduled commercial banks in India, irrespective of their global presence.

The government has based its argument on the Basel Committee on Banking Supervision’s (BCBS’s) assessment report on Basel-III regulations in June 2015 that observed “several aspects of the Indian framework are more conservative than the Basel framework”. 

However, two RBI Deputy Governors publicly reasoned last month why India required a stricter regime than the Basel framework.

Basel-III, which provides minimum standards to be met by banks, is being implemented in India in phases since April 2013, and will be fully implemented by March 2019. Sources said India had four internationally active banks, including State Bank of India, Bank of Baroda and ICICI Bank, citing the BCBS report. These are banks with more than 10 per cent assets on their international books.

However, the RBI’s perspective is that it wants all commercial banks to have the same set of standards in a bid to prevent any potential build-up of risk in the banking system.

The government is in favour of adopting the international guidelines (Basel-III norms), to be implemented ideally in the case of four banks in India as a stricter regime followed by the RBI has a “significant impact on capital requirements of banks”, sources said. In addition, the government has flagged how countries like the US, Peru, Japan, the Philippines, along with the European Union, do not use net non-performing assets (NPAs) and profitability, in the form of return on assets, as additional parameters to put banks under their early intervention regimes (known as the PCA framework in India).

Another critical issue bothering the government is that the capital requirements set by the RBI are higher than the international standards. According to the regulator, common equity tier 1 (CET-1) of banks must be at least 5.5 per cent of its risk-weighted assets and Tier-I capital 7 per cent — 1 percentage point higher than the Basel-III norms.

“A higher capital norm leads to additional capital requirement, restricting lending ability and income generation,” a government source said.

Banks are required to maintain a minimum capital, in terms of capital-to-risky asset ratio (CRAR) and common equity tier (CET)-1, to ensure they do not lend all the money they receive as deposits and keep a buffer to meet future risks. The capital adequacy ratio of banks is considered to be one of the key indicators of banks’ health.

However, during a lecture at the Indian Institute of Technology Bombay last month, RBI Deputy Governor Viral Acharya had said Basel norms were only a floor and after the global financial crisis, many countries required their banks to hold capital at higher levels. These include Brazil, Mexico, China, Singapore, South Africa, Turkey and Switzerland.

In addition, the government wants the RBI to do away with the need for maintaining a capital conservation buffer (CCB) — an additional layer of common equity — for the present financial year. Basel-III requires the CCB to be maintained “during normal times (i.e. outside periods of stress)” at 2.5 per cent of risk-weighted assets by March 2019. The government feels that a phased implementation of the CCB between 2016 and 2019 coincided with stress in balance sheets of public sector banks.

In a speech last month, RBI Deputy Governor N S Vishwanathan said the current level of provisions done by Indian banks for expected losses arising out of NPAs was not enough and “adequate buffers have to be built” in.

“Front-loading of regulatory relaxations before the structural reforms fully set in could be detrimental to the interests of the economy,” Vishwanathan had said. A government official said PSBs had done a provisioning close to 70 per cent for expected losses arising out of NPAs.

On the PCA framework, the government feels the additional triggers, apart from the minimum capital requirement, restricts the growth of Indian banks. 
 

Currently, any of the three scenarios — banks registering a net NPA level of 6 per cent, two consecutive years of negative return on assets, defined as a percentage of profit to average total assets, or the capital adequacy ratio falling below the regulatory requirement — can prompt the RBI to put a bank under PCA.

The PCA framework, introduced in 2002, was tightened by the RBI in April 2017, following consultations with the government. However, according to a report by Bank of International Settlements in April 2018, “asset quality indicators can provide useful complementary information.”

In countries like Peru, United States and Japan, their early warning systems are triggered automatically as against a discretionary action by the RBI in India. The RBI considers putting a bank under PCA based on its financial results and supervisory assessment.

While revising the PCA framework in 2017, the RBI revised the minimum net NPA ratio threshold from 10 per cent to 6 per cent and introduced a negative return on assets ratio as an additional parameter. However, the RBI also put some corrective actions to be prescribed by it from mandatory actions to a “more comprehensive menu of ‘discretionary actions’.”

An official said public sector banks are wary of lending to MSMEs due to higher risk weights assigned to them compared to Basel norms. While an unrated MSME is assigned a risk weight of 100 per cent and a BB-rated MSME gets 150 per cent, the Basel-II framework prescribes a risk weight of 75 per cent, the source added. However, according to Vishwanathan, the losses due to loan defaults in India are much higher than what is observed internationally. “It would be evident that with this kind of default behaviour, applying the Basel specified risk weights would understate the true riskiness in the loan assets carried on the books of Indian banks,” he had said during his speech.