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Basel-III norms: A challenge for the greater good

As per the latest Basel-III norms, Indian banks will require an additional capital of Rs.5 trillion by 31st March 2018. Indian Government-owned public sector banks face the biggest challenge of having to arrange nearly Rs.900 billion of this amount. For this, the Government has the following options:
(I) Bear the entire load of recapitalization of Rs.900 billion, and maintain its shareholding at the current level
(II) Reduce shareholding to 51% and fork out Rs.700 billion  towards recapitalization
(III) Reduce shareholding below 51% by divesting it to other parties.  This will pave the way for new entrants.  It will be interesting to see how the Government protects its voting rights in this scenario.

While Basel-III compliance may not be very difficult for some private sector banks like ICICI or Kotak Mahindra, which are adequately capitalized, the Union Government has its hands full trying to provide nearly Rs.159 billion this fiscal to recapitalize the banks it owns to maintain their capital adequacy at 8% as per Basel-II norms.

Which leads us to ask whether Basel-II implementation poses a threat to the Indian economy. The answer might be a "yes". In the words of the RBI Deputy Governor "The Basel III guidelines envisage an increase in capital and liquidity requirements worldwide. By the end of the implementation, according to RBI's estimates, we could see a (marginal) dip in GDP growth". While there are no precise quantitative estimates of the impact on growth there is concern that the requirement for higher capital will coincide with a rising demand for credit. Under such circumstances, banks might have to forcibly divert their lending funds to shore up capital, which could directly impact economic growth. It will be a tough trade off: growth versus protection against financial instability.

Although there are concerns about Basel-III, the future looks bright with a stronger global banking environment in the making. Empirical research by BIS economists shows that even if Basel-III imposes costs in the short-term, it will secure growth in the medium to long.

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