Definition• In India, the definition of the business of banking has been given in the Banking Regulation Act, (BR Act), 1949 a banking company is a company which transacts the business of banking in India., accepting, for the purpose of lending or investment, of deposits of money from the public, repayable on demand or otherwise, and withdrawable, by cheque, draft, order or otherwise.
Funtions Of A bank(i) maintaining deposit accounts including currentaccounts,(ii) issue and pay cheques, and(iii) collect cheques for the banks customers.
What is Risk Management?The four letters „RISK‟ indicates that risk is an unexpected event or incident, which needs to be identified, measures monitored and control.• R = Rare (Unexpected)• I = Incident (Outcome)• S = Selection (Identification)• K = Knocking (measuring, monitoring, controlling)
Different Types of Risks?Broadly speaking the risk can be divided into four main categories.• Market Risk: Market Risk can be defined as the risk of losses in and off balance sheet positions arising from adverse movement of market variables.• OPERATION RISK: “Operational Risk” is defined as the risk of direct or indirect loss resulting from inadequate or failed internal process , people and system or from external events.• COUNTRY RISK: Country Risk is the possibility that a Country will be unable to service or repay its debts foreign lenders in a timely manner Risk relating to dealing with other countries such as sovereign risk, political risk,• Credit risk: It is a risk of potential loss arising out of inability or un- willingness of a customer or counter party to meet its commitments in relation to lending. Hedging, settlement and other financial transactions.
TOOLS FOR CREDIT RISK MANAGEMENT• Operations in the account• Stock Statements• QIS/QMR• Review of account and financial statements• ASCROM and PSR• Audit and inspections: concurrent audit, annual audit, Stock audit, periodical inspection, ZIC inspection, etc.• Discretionary Lending power and „Cap”• Exposure ceiling- Single, Group, and activity exposure.• Insurance and Credit rating• Credit rating – CRISIL RAM
Risk Based Supervision• The Reserve Bank of India is supervising the banks on CAMELS model which covers Capital Adequacy, Asset Quality, Management, Earnings, Liquidity and Systems & Control.• All other Schedule Commercial banks are encouraged to migrate to these approaches under Basel-II in alignment with them, but, in any case not later than March 31, 2009. RBI has also specified that banks would have to maintain a minimum Tier-I ratio of 6 %, while continuing to maintain CAR of 9 %.
Credit Risk Mitigation (CRM) Techniques• 1. Collateralised Transactions - Certain securities are eligible to be considered for Basel-II purpose. The securities may be either prime securities or collateral securities like cash margin, Bank‟s own deposit, NSC, Indira Vikas Patras & Kisan Vikas Patra, LIC policies, Gold, etc i.e. cash or near cash securities are considered as security for Basel-II purpose. In respect of Standard Assets Basel-II does not recognize land and building, Plant and Machinery as Collateral for risk mitigation purposes.• 2. On balance sheet netting - It is confined to loans / advances and deposits, where banks have legally enforceable netting arrangement, involving specific lien with proof documentation. Loans and advances are treated as exposure and deposits as collateral. Exposure may be offset against eligible collateral credit.•• 3. Guarantees - The eligible guarantors are Sovereign, sovereign entities, ECGC, PSEs, Banks, primary dealers with a lower risk weight than the counter party (borrower), other entities rated AA or better External Credit
Mitigation Of Risks• 1. Credit Concentration Risk – Concentration risk may be used in a broader sense to include concentration by sector, Concentration by Industry, geographical location and concentration of risk mitigant measures.• 2. Country Risk – The exposure to various countries are in terms of rating categories as specified by the ECGC guidelines on Country risk management in terms of percentage to Tier 1 and Tier 2 Capital.• 3. Interest Rate Risk in the Banking Book – Interest rate risk is taken to be the current or prospective risk to both the earning and capital of the bank arising from adverse movements in interest rates. In the context of pillar 2, this is to be estimated for banking book only, given that the interest rate risk in the trading book is already covered under Pillar 1 market risk regulation.
Mitigation Of Risks• 4. Liquidity Risk - Liquidity risk occurs when an institution is unable to fulfil its commitment in time when commitment falls due. The liquidity risk for the bank will be monitored and measured as per the ALM Policy. It is not mandatory to maintain capital for liquidity risk.• 5. Reputation Risk - Reputation risk is the current or prospective indirect risk to earnings and capital from adverse perception of the image of the bank on the part of customers, shareholders and regulator. Reputation risk may originate in lack of compliance with industry service standards and regulatory standards, failure to deliver on commitments, lack of customer friendly service and fair market practices, a service style that does not harmonize with customer expectation.• 6. Business and Strategic risk - Business risk means current or prospective risk to earnings and capital arising from changes in the business environment and from adverse business decisions.