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RBI has released draft norms for implementing India’s Counter Cyclical Capital Buffer (CCCB) under Basel guidelines. The CCCB sets higher capital reserve levels for banks once a country’s credit-to-GDP ratio rises above certain thresholds, deviating from its long term trend. It is intended to protect the stability of banks in times of cyclical fluctuation. India joins a handful of countries that are ahead of the game in finalising norms and introducing the CCCB. The RBI sets its rules in India’s context as an emerging economy. All banks (Indian and foreign) will have to maintain capital in India under the CCCB framework in line with their exposure to the Indian market.
The Basel Committee, which sets international banking standards, has observed that excess credit growth builds up risk in financial systems. A deviation of any country’s credit-to-GDP ratio from its long-term trend (a credit-to-GDP gap) indicates excessive credit growth and increased system-wide risk which could be a precursor to financial crisis. The Committee has therefore recommended that when the credit-to-GDP gap exceeds a defined threshold, countries build up a counter cyclical capital buffer (CCCB). The threshold at which the buffer is triggered and the additional capital required are determined by the regulator in each country.
In line with the Basel recommendations, the RBI suggests that India’s credit-to-GDP gap be used as the basis for decisions on whether to activate the CCCB and what level of buffer to set. However the report notes that the credit-to-GDP ratio may not be the only reference point for banks in India and that it will be used in conjunction with other indicators like growth in Gross Non-Performing Assets (GNPA). It argues that since credit penetration in India is low and the credit to GDP ratio only around 50% of GDP, an increase in the ratio could reflect a structural shift attributable to growth rather than excessive risk, hence a multiple indicator approach is better suited to India.
The report recommends that the CCCB is activated when the credit-to-GDP gap reaches 3%. The size of the CCCB should increase gradually from an initial 0% to a maximum of 2.5 per cent of the risk weighted assets of a given bank once the credit-to-GDP gap reaches 15%. It also recommends that the CCCB decision be pre-announced nearly a year ahead of implementation to allow banks to arrange their capital accordingly. Please see link for the full report : http://rbidocs.rbi.org.in/rdocs/PublicationReport/Pdfs/CCB021213FR.pdf
Separately, the RBI has also released the draft framework identifying domestic systematically important banks, based on the framework prescribed by the Basel committee. Banks whose assets exceed 2% of GDP will be covered. Foreign banks will not qualify based on their size, however, since they are active in the derivatives market and their specialized services may not be easily substituted by domestic banks, a few large foreign banks will also be included in the sample of banks. Please see link for full report : http://rbi.org.in/scripts/bs_viewcontent.aspx?Id=2766
India’s emerging economy context and limitations have been taken into consideration. In effect, , this gives the RBI discretion on the terms, timing and applicability of these additional capital requirements. These are draft norms and feedback can be sent to the RBI’s Department of Banking Operations by December 31.
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