Study of capital adequacy and privatization: A challenging role of commercial banks in India

Abstract

Inadequacy of capital relative to the scale of risk exposure was internationally acknowledged as a major concern all over the world. As a result, in 1988, the Basle Committee established a norm that capital of a bank must at least be equal to 8 percent of the risk weighted assets. It might be useful to recall that risk exposure became a major concern in the context of wide spread financial distress of the 1980s. In fact, many foreign and international banks consider an 8 percent capital adequacy norm as barely adequate. In the reforms package introduced in India, this minimum norm was accepted and was to be attained by 31st March, 1996. In view of the international agreement in this regard, the banks which have overseas branches (there are only eight such banks) were specially required to attain this requirement even earlier if they were to continue with their foreign operations. Other banks would also suffer by way of lower credit rating and difficulty in operating lines of credit from overseas banks if they fail to achieve the norm. Overseas suppliers may not honor letter of credit of such banks which will require them to route such business through other banks this will undoubtedly push up their costs.