BASEL ACCORD AND BASEL NORMS History of Basel The Basel Committee was constituted by the Central Bank

Governors of the G -10 countries in 1974. The G-10 Committee consists of members from Belgium, Canada, France, Germany, Italy, Japan, Luxembourg, The Netherlands, Spain, Sweden, Switzerland, The UK and The US. These countries are represented by their Central Bank and also by the authority with onus for the prudent supervision of banking business where this is not the central bank. The Committee's Secretariat is located at the Bank for International Settlements in Basel, Switzerland. This committee meets four times in a year. The present Chairman of this committee is Mr. Nout Wellink(President of The Netherlands Bank). The Secretary General of the Basel Committee is Mr. Stefan Walter. This committee on banking supervision provides a forum for regular cooperation on banking supervisory matters. Its objective is to enhance understanding of key supervisory issues and quality improvement of banking supervision worldwide. This committee is best known for its international standards on capital adequacy; the core principles of banking supervision and the concordat on cross-border banking supervision. Basel Capital Accord The Basel Capital Accord (Basel II) guidelines promulgated by the BIS to establish capital adequacy requirements and supervisory standards for banks to be implemented by 2007 and are structured by three pillars. The Basel II is designed to facilitate a more comprehensive, sophisticated and risk sen sitive approach for banks to calculate regulatory capital. The proposals will enable banks to align regulatory requirements more closely with their internal risk measurement and to improve operational process. The Committee today consists of central bankers and supervisory regulators from 13 countries. Basel I Vs. Basel II Basel I is very simplistic in its approach towards credit risks. It does not distinguish between collateralized and non-collateralized loans, while Basel II tries to ensure that Basel I are corrected. Advantages of Basel-II

the greater risk to which the bank is exposed. In a nut-shell. the greater the amount of capital the bank needs to hold to safeguard its solvency and overall economic stability. Reduces losses to the banks. The basic purpose of this recommendation is to ensure that capital allocation is more ris k sensitive. Makes better business standards. . Basel II attempts to accomplish this by setting up rigorous risk and capital management requirements designed to ensure that a bank holds capital reserves appropriate to the risk the bank exposes itself to through its lending and investment practices. In simple terms. Providing range of alternatives to choose from. improving the decision matrix for banks. Basel II Provides effective assessment methods. separating operational risk from credit risk and quantifying both. Providing an incentive for better and more objective risk measurement. Allowing capital discrimination of the banking system by allocating proper risk w eighs to each asset class. and attempting to align economic and regulatory capital more closely to reduce the scope for regulatory arbitrage. In practice. Takes global aspect into consideration for more rational decision making. The above-mentioned advantages of Basel II recommendation are helpful in various ways to the Indian banking industry: Improving overall efficiency of banking and finance systems.It is believed that such an international standard can help protect the international financial system from the types of problems that might arise should a major bank or a series of banks collapse. Allowing capital allocation based on ratings of the borrower making capital more risk sensitive. Incorporates sensitivity to banks.

Operatinal Risk & Market Risk) Supervisory Review (Provides Framework for Systematic Risk. this ultimately leads to proper control over their capital and assets. the overall capital level of the banks will see an increase.Encouraging mergers and acquisitions and more collaboration on the part of the banks. the banks that will not be able to make it as per the global system. Liquidity Risk & Legal Risk) Market Discipline & Disclosure (To promote greater stability in the financial system) Challenges With Indian Banking Industry With the feature of additional capital requirements. . But. The 3-Pillar Approach of Basel II Minimum Capital Requirement (Addressing Credit Risk.

banks will have to re-structure and adopt if they are to survive in the new environment. as most Indian banks do not have such a database. Penetration of information technology in banking has been successful in the urban areas. will be difficult due to significant disconnect between business.Another biggest challenge is re-structuring the assets of some of the banks would be a tedious process. which have their network spread out in fa r-flung areas. Implementation of the Basel II will require huge investments in technology. unlike in the rural areas where it is insignificant. According to estimates. credit and operational risk. it aims to give impetus to the use of internal rating system by the international banks. SWOT Analysis (In Indian Banking Context) . This also may lead to Mergers & Acquisitions. An integrated risk management concept. especially for those banks. Thus. will need to spend well over $ 50-70 Million on this. The new norms seem to favor the large banks that have better risk management and measurement expertise. risk managers and IT across the organizations in their existing set-up. More and more banks may have to use internal model developed in house and their impact is uncertain. Since improved risk management and measurement is needed. which is the need of the hour to align market. Indian banks. who also have better capital adequacy ratios and geographically diversified portfolios. especially those with a s izeable branch network. Computerization of branches. The technology infrastructure in terms of computerization is still in a nascent stage in most Indian banks. since most of the banks have poor asset quality leading to significant proportion of NPA. The smaller banks are also likely to be hurt by the rise in weightage of inter-bank loans that will effectively price them out of the market. Experts say that dearth of risk management expertise in the Asia Pacif ic region will serve as a hindrance in laying down guidelines for a basic framework for the new capital accord. will be a daunting task. Most of these models require minimum historical bank data that is a tedious and high cost process. which itself would be loss of capital to entire system.

But the decision to implement the guidelines remains unchanged. Basel II allows national regulators to specify risk weights different from the internatio nally recommended ones for retail exposures. announced an indicative set of weights for domestic corporate long -term loans and bonds subject to different ratings . 2008. originally set for March 31. Whereas some of the large banks say that they are Basel II compliant with the presence of all the requirements. 2007. therefore. The RBI had. which Basel II recommends.Present Scenario in Implementing Basel II in India The deadline for implementing Basel II. 2009. while all other scheduled commercial banks will have to adhere to the guidelines by March 31. Foreign banks in India and Indian banks operating abroad had to meet those norms by March 31. This is true even though the international exposure of even the major Ind ian banks is still limited. has no w been extended.

has become robust and displayed ample resilience to shocks in the economy. the Indian banking system has shown significant improvement on various parameters. . those with high exposures to higher rated corporate or to the regulatory retail portfolio. like asset securitization. ample evidence of the capacity of the Indian banking system to migrate smoothly to Basel II.by international rating agencies such as Moody's Investor Services. are likely to be increasingly used. our formal banking system can learn many lessons from money-lenders. a few banks. We would like to continue the process of interaction with other countries to learn from their experiences through various international fora. have reported increased CARs. There is. we would like to conclude that keeping in view the cost of compliance for both banks and supervisors. By implementing Basel II norms. not for smaller or less developed economies. therefore. the increase in risk weight for residential mortgage loans will make this area less attractive. Conclusion The Basel Committee on Banking Supervision is a Guideline for Computing Capital for Incremental Risk. given their higher lending margins and lower risk weights. However. In contrast. With the gradual and purposeful implementation of the banking sector reforms over the past decade. Its implementation may involve significant changes in business model in which potential economic impacts must be carefully monitored . India is one of the early countries which subjected itself voluntarily to the FSAP of the IMF. This was designed for the big banks in the BCBS member countries. and our system was assessed to be in high compliance with the relevant principles. which are slightly different from that specified by the Basel Committee. The major challenge the country's financial system faces today is to bring informal loans into the formal financial system. n a nut-shell. which unlocks resources and spread s risk. Given recent changes in regulatory charges. Banks would find it increasingly attractive to give out loans to the small business segment that qualify as regulatory retail. Most of the Indian banks that have migrated to Basel II have reported a reduction in their total Capital Adequacy Ratios (CARs) due to the new operational risk -based capital charges. the regulatory challenge would be to migrate to Basel II in a non disruptive manner. it is doubted whether this will be sustainable. It is a new way of managing risk and asset-liability mis-matches.