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Basel III Compliance: Challenges for PSBs in India

Basel III norms are supposed to be implemented in India starting next year in 2013 and will be completed by 2018. In the aftermath of the financial crisis of 2008-09, the Basel Committee on Banking Supervision in 2010-11 came up with the new stringent capital adequacy requirement along with the new counter-cyclical capital buffers. The stringent capital requirement for Basel III stipulates that banks will have to hold 6% of the Risk Weighted Assets as Tier I capital with 4.5% of this being Common Equity up from 2% in Basel II norms. Private Banks in India may be able to get other players onboard but for Public Sector Banks this will be a major challenge.

With the Indian market growth story still intact, the banks will have scope for growth in assets. But increase in asset base will mean the government will have to recapitalize public sector banks with an estimated Rs 900 billion or be ready to reduce their equity stake in banks below 50% for them to comply with Basel III norms of 4.5% common equity. The Indian Government stated policy on stake dilution has been to maintain the majority stake in public sector entities. With the subsidy bill of the government snow-balling and social schemes like the MGNREGA escalating the Fiscal Deficit, it has left hardly any funds for recapitalization of the public sector banks. So what is the way out of this impending logjam?

Possible Solutions

There are a couple of possible solutions to this problem of compliance to Basel III norms for Public Sector Banks. The first would be to introduce the concept of golden share for Indian banks as Margaret Thatcher the then Prime Minister of Britain did it in the 1980’s for privatizing public sector entities. As a concept golden share means, reducing the stake in a company below 50% but retaining the majority voting rights. It basically delinks voting rights from ownership. So, as a solution the government can take up golden share to retail the voting rights but bring in funds from private players and reduce their stake below 50% in public sector banks.

An alternative to this is to create a banking sector holding company in which the Government will hold the majority stake, and the holding company in turn will hold majority stake in public sector banks. This was briefly outlined by the Finance Minister of India in his Union budget speech in March 2012. The Government can raise capital for the banking holding company through various means including a public offering. The modalities of the same are not clear as of now and will have to be closely watched for this to be a success. If implemented successfully this could be the biggest structural change in the Indian banking sector since nationalization in 1969 and 1980.

Looking Ahead

The way in which the Government and public sector banks in India are able to cope with this puzzle will largely shape the banking industry in India in the next five years. As the Banks in India and across the world move to Basel III compliance, the demand for Out of the Box Banking solutions for regulatory reporting and aligning their operations to meet the stringent Basel III norms will grow manifold.

And the players that are ahead of the curve will be able to capture the market!



Comments: (5)

Ketharaman Swaminathan
Ketharaman Swaminathan - GTM360 Marketing Solutions - Pune 12 November, 2012, 07:58Be the first to give this comment the thumbs up 0 likes

There are several problems with "golden share" in India viz. (a) They're unlikely to find favor with the public (b) The present government might find it too challenging to implement a Thatcherite scale of reform (c) Financial analysts tend to frown upon them, as is the case with a similar instrument floated by Facebook that delinked voting rights with ownership.

The combination of SLR and CRR already provides higher capital adequacy for banks in India compared to those in many other parts of the world. Besides, public sector banks enjoy sovereign guarantee by definition. As a result, many analysts and government officials are asking whether Basel-III is even required for India.

Rajneesh Kumar
Rajneesh Kumar - Infosys Ltd - Pune 12 November, 2012, 08:27Be the first to give this comment the thumbs up 0 likes

@ ketharaman Swaminathan:

For the first point, agreed that the opposition for Golden Share in India in the near future will be too much for the government to implement it. So, that really leaves the 2nd option of creating a Banking holding Company. This in itself will not be easy either.

For your second point, at current levels the Public Sector Banks are well capitalized, but looking at the growth expected for Banks and the financial tightrope government finds itself.. from where ll the funds to recapitalize banks come for the government to maintain its majority stake in PSBs. That is the larger question that needs to be addressed. Basel III may not be required urgently for Banks in India, but in 5 years' time thing might be different.

Ketharaman Swaminathan
Ketharaman Swaminathan - GTM360 Marketing Solutions - Pune 12 November, 2012, 10:54Be the first to give this comment the thumbs up 0 likes


TY for your reply. I specifically refrained from crystalball-gazing. But, now that you bring it up, for something that's supposed to solve the problems that led to the GFC in 2008, it's almost laughable that Basel-III will happen only by 2018. Besides, five years from now, I expect that we'll be debating about Basel-V or -VI. I love the way BIS has created this seemingly-endless source of business for risk and analytics technologies and services. Not sure how long banks will be able to fund the party, though.

Rajneesh Kumar
Rajneesh Kumar - Infosys Ltd - Pune 12 November, 2012, 11:58Be the first to give this comment the thumbs up 0 likes

@ K Swaminathan:

Thanks for replying. Strong views those on BIS and I respect that.

The reality is that all central Banks the Fed in US, ECB in Europe or RBI in India are looking at more regulation with or without Basel III and the Banks have to do business and remain profitable.

More regulations for capital adequacy directly hits cost of operations as the Banks have to leave aside funds to meet various capital adequacy requirement and have to spend more effort towards greater level of regulatory reporting. It is here that technology comes in to help banks to automate much of the regulatory reporting and compliance related effort.

Also, Basel III will be implemented in a phased manner beginning next year (2013). The 5 year window has been given so that it does not impact growth significantly.

Ketharaman Swaminathan
Ketharaman Swaminathan - GTM360 Marketing Solutions - Pune 15 November, 2012, 18:47Be the first to give this comment the thumbs up 0 likes

The Lehman failure precipitated the GFC. Lehman was so heavily over-leveraged that no Basel accord could have saved it. The events of the last few years have shown that, when things are fine, you don't need Basel and when the dominos start falling, Basel is of no use. Only government bailout can stop the fall, and, if that requires the government to print more currency notes, it will. Point is, Basel accords are woefully inadequate to solve real world crises.

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