RBI’s timely move to ring-fence banks

RBI’s timely move to ring-fence banks

Subject: Economy

Section: Monetary policy

Context: Amid the rising spill over risks due to the recent spate of US bank failures and stress building up in Credit Suisse, the RBI rightly began specific actions to further strengthen banks. A forward outlook of RBI indicates that banks will be able to maintain capital to risk weighted assets ratio (CRAR) much beyond the minimum threshold even in severe stress scenario

CRAR

• Capital Adequacy Ratio (CAR) is the ratio of a bank’s capital in relation to its risk weighted assets and current liabilities.
• It is decided by central banks and bank regulators to prevent commercial banks from taking excess leverage and becoming insolvent in the process.
• The Basel III norms stipulated a capital to risk weighted assets of 8%.
• However, as per RBI norms, Indian scheduled commercial banks are required to maintain a CAR of 9% while Indian public sector banks are emphasized to maintain a CAR of 12%.

Recapitalization

• Bank recapitalization, means infusing more capital in state-run banks so that they meet the capital adequacy norms.
• The government, using different instruments, infuses capital into banks facing shortage of capital.
• In compliance with RBI guidelines which are based on Basel norms requiring banks to maintain certain amount of capital reserves, the government, which is also the biggest shareholder, infuses capital in banks by either buying new shares or by issuing bonds.
• As the state-run banks were struggling to deal with burgeoning NPAs, the government from time-to-time kept on announcing recapitalization to keep the banks afloat.