SLIDE 19B

CAPITAL ADEQUACY
FRAMEWORK FOR
BANKS
&
BASEL I & II CAPITAL
ACCORD

OUTLINES/LEARNING
OBJECTIVES
WHY BANKS ARE HIGHLY REGULATED ?
WHY BANKS SHOULD BE ADEQUATELY
CAPITALISED ?
IMPORTANCE OF CAPITAL ADEQUACY OF BANKS
CAPITAL ADEQUACY NORMS/FRAMEWORK FOR
BANKS BASEL I ACCORD
BASEL II ACCORD THREE PILLARS
SPECIAL FEATURES OF BASEL II ACCORD
DIFFERENT TYPES OF RISKS IN BANKING AND
ITS MEASURES UNDER BASEL II

KEY WORDS/TERMINOLOGIES/GLOSSARY - 1

BIS
(Bank
for
International
Settlements), BCBS (Basel Committee
on
Banking
Supervision),
Basel-I
Accord, Capital Adequacy Ratio (CAR)
or Capital to Risk-Weighted or Adjusted
Asset Ratio (CRAR), Capital Fund (CF),
Tier-I
Capital
or
Core/Permanent/Readily
available
Capital, Tier-II Capital or Non-Core/NonPermanent/ Not so readily available
Capital,
Risk
Weight
(RW),
Risk
Weighted Assets (RWA).

KEY WORDS/TERMINOLOGIES/GLOSSARY - 2

Credit Conversion Factors (CCF),

Counter Party Risk Weight, BaselII Capital Accord, Three Pillars,
Minimum Capital Requirement,
Supervisory
Review
Process,
Market Discipline, Credit, Market
& Operational Risk. Bank Loan
Rating, Regulatory Capital or Risk
Based Capital, Economic Capital.

BANKING RISKS
BANKS EARN THEIR INCOME IN 2 WAYS
ONE, BY GIVING CUSTOMER SERVICE
SECOND, BY MANAGING RISKS
SO
RISK
TAKING
AND
RISK
MANAGEMENT IS THE NAME OF THE
GAME FOR THE BANKS
BANKING RISKS LIES ON WHICH SIDE
OF THE BALANCE SHEET ?

BANKING RISKS
GOVERNMENT
Monetary/
Fiscal/industrial
Trade policies

OTHER FIs/BANKS
Lending/
investment
Policies/dealing/
trading

CORPORATES
Business/trade/
market

CREDIT RISK
EXCHANGE RISK
B
A
N
K
S

INTEREST RISK
LIQUIDITY RISK
COUNTRY RISK

OTHER NONFINANCIAL RISKS

LOAN AND OTHER

LOSSES
Two types of losses are possible in
respect of a borrower or class of
borrowers:
Expected Losses [EL]
Un-expected Losses [UL]

Capital Charge on Credit Risk

Expected Losses (EL) indicates the
average loss that the Bank might
incur on a portfolio.
EL = PD x LGD x EAD

Unexpected losses (UL) is the

uncertainty around EL. It is the SD of
EL .
08/26/15

D2K Technologies

Applications - Provisioning

Ex

ted
c
pe

ss
o
L

Probability Density

Expected Loss
can be used for
Anticipatory
Provisioning

Amount of Loss
08/26/15

D2K Technologies

Economic Capital

Probability Density

Ex

ted
c
pe

ss
o
L
th
9
9

ile
t
en
c
r
Pe

Can be used
for allocation
of Economic
Capital

Unexpected Loss

Amount of Loss
08/26/15

10

D2K Technologies

Risk Measures
Standard Deviation Measures the
absolute deviation from the average
value

Percentile Level 99th percentile Loss gives the

Maximum Loss that will occur 99 times out of 100

08/26/15

11

D2K Technologies

EXPECTED LOSSES [EL]

These are part of the normal business
risks banks carry and can be provided
for
EL is a function of three parameters:
Probability of Default [PD]
Exposure at default [EAD]
Loss Given Default [LGD]
12

EXPECTED LOSSES AND

CREDIT RISK
EL can be modelled
EL = PD X EAD X LGD
EL can be aggregated at level of
individual loans or at portfolio level
Does EL constitute credit risk?

13

EXPECTED LOSSES AND

UNEXPECTED LOSSES
EL can be managed/covered by Provisions
like Loan Loss or NPA Provisions, Provision
for Depreciation of Investments etc.
Whereas Unexpected Losses are taken
care of by having adequate capital
So Capital acts as a cushion or shock
absorber for a bank to meet unforeseen
losses and Contingencies
14

THE IMPORTANCE OF BANK

CAPITAL
Why is capital so important for banks?
What does bank capital constitute?
When values of other assets and
liabilities of a bank changes, what
happens to the capital?
What should capital be ideally related
to, in order to determine safety of a
bank?
15

ECONOMIC CAPITAL
Risk associated with banking depends on
types of services rendered
Risk is defined as the adverse deviation
of actual results from expected results
Capital
estimated
to
cover
the
probabilistic assessment of potential
future losses is called Economic capital
can be defined as the amount of capital
considered necessary to absorb potential
losses arising from banking risks
16

REGULATORY CAPITAL
Regulatory capital depends on confidence
level set by regulator
Both regulatory and economic capital are
concerned with banks financial staying
power
Different from
balance sheet

accounting

capital

on

In the long run, stability of banks depends

on capital to support economic/banking risks
17

REGULATORY CAPITALRISK BASED CAPITAL

STANDARDS

In 1980s,
increased

concerns

about

bank

safety

Bank for International Settlements [BIS], the

worlds
oldest
international
financial
organization,
established
the
Basle
Committee for Banking Supervision [BCBS]
In 1988, BCBS introduced bank capital
measurement system popularly known as
Basle Capital Accord
18

BASLE CAPITAL ACCORD

I
1988 internationally active banks in
G10 countries agreed that bank capital
should be at least 8% of assets
measured according to risk profile
Portfolio approach to risk assets can
have 0, 10, 20, 50, 100% risk weight
Accord adopted world standard
1990s more than 100 countries

in

19

Basel Capital Accord I

(1988)
1988 Basel Capital Accord I
Capital Funds (CF)
CAR =---------------------------------------------Total Risk Weighted Assets (TRWA)
Capital funds = Tier I Capital + Tier II Capital
Risk Weighted/Adjusted Assets consist of both On-Balance Sheet and
Off- Balance Sheet Items.
Basel Capital Accord I initially in 1988 prescribed Regulatory Capital
to take care of Credit Risk only. By virtue of an amendment to the
Accord in 1996, Capital was prescribed for Market Risk also.
Capital Adequacy Ratio (CAR) aka Capital to Risk-weighted/adjusted
Asset Ratio (CRAR)

Meaning of Capital
Adequacy
Capital adequacy means a bank must have a
minimum level of capital proportionate to its total risk
adjusted value of assets as prescribed by the Central
Bank of the country.
Minimum requirements of Capital Funds/Prescribed
Level of Capital Adequacy : For India Minimum
CAR/CRAR is 9% of total risk-weighted assets
(TRWAs) w.e.f. March 31, 2000 both under Basel I
and II as against the International norm of 8%
For computing the CAR/CRAR, one has to find out the
(a) Total Risk-Weighted Assets (TRWA) for both onBalance Sheet and Off-Balance Sheet items and (b)
Total Capital Fund (Tier I and Tier II Capital) by strictly
following the guidelines prescribed by RBI

Tier I and Tier II Capital

Tier I
1. Paid up Capital
2. Statutory Reserves
3. Other Disclosed Free Reserves
4. Capital Reserves
5. Investment Fluctuation Reserve
6.
Innovative
Perpetual
Debt
Instruments (IPDI)
7.
Perpetual
Non-cumulative
Preference Shares (PNCPS)
Less : Deductions for Intangible
Assets like Accumulated Losses,
Deficit in NPA Provision and Equity
Investments in Subsidiaries

Tier II
1.Undisclosed Reserves and perpetual

cumulative preference shares (PCPS)

2. Fixed Asset Revaluation Reserves
at
a
discount
of
55%
while
determining the value of Tier II
Capital
3.General Provisions and loss reserves
up to a max of 1.25% of Total Risk
Weighted Assets
4.Hybrid Debt Capital
5. Subordinated Debt/Tier II Bonds

BROAD DEFINITION OF
CAPITAL
Accounting definition of capital as seen
in banks financial statements different
from regulatory definition
Regulatory capital set in two tiers
Tier I shareholders
retained earnings

equity

and

Tier II additional internal and external

sources available to the bank
23

MINIMUM CAPITAL
REQUIREMENTS
Capital required to compensate for credit risk,
market risk [and operational risk in Basel II]
Capital ratio regulatory capital to risk weighted
assets [credit risk+ market risk+ operational risk]
Capital ratio not to be less than 9% in India
currently as ag. international norm of 8%.
Tier 2 capital should be limited to 100% of tier 1
capital, i.e., Not more than 50% of total capital
fund
Tier 3 capital will be limited to 250% of a bank's
tier 1 capital that is required to support market
risks. Tier 3 Capital not implemented in India so
far.
24

CAPITAL ADEQUACY
REQUIREMENTS - INDIA
The Basle framework was adopted by the
RBI, prescribing a higher norm of 9% on risk
weighted assets [as against 8% by the Basle
Accord] for all banks operating in India.
The aggregate of Tier 1 and Tier 2 capital
forms the total capital funds for banks for
the
purpose
of
computing
Capital
Adequacy
Tier 1 Capital @ minimum = 50% of Total
Capital Fund; Tier 2 Capital @ maximum =
50% of Total Capital Fund; i.e., Tier 2 Capital
Not to exceed Tier 1 Capital
25

COMPONENTS OF TIER 1
CAPITAL IN INDIA [RBI. July
2009]
Equity capital & free reserves
Innovative Perpetual Debt Instruments
[IPDI - limited to 15% of tier 1 capital]
Perpetual Non Cumulative Preference
Shares [IPDI + this component limited to
40% of tier 1 capital]
All the above subject to regulations in
force
26

DEDUCTIONS FROM TIER

1 CAPITAL
Equity investment in subsidiaries
Intangible assets and losses
Deferred Tax Assets
Gain on sale on securitization
standard assets, where profit
recognized

of
is

Others as specified by RBI

27

KEY COMPONENTS OF TIER 1

CAPITAL OF FOREIGN BANKS IN
INDIA
Interest free funds from head office for
meeting capital requirements in India
Statutory reserves in India
Non
repatriable
operations

surplus

from

Indian

Capital reserves from sale of assets in India

Foreign currency borrowings from ho for
meeting capital adequacy
28

COMPONENTS OF TIER 2
CAPITAL IN INDIA - 1
Revaluation reserves discount of 55%. Such
reserves arise from revaluation of Fixed Assets
which have book values much less compared to
their current market price.
General
provisions
and
loss
reserves/GPLR
(including provision on standard loan assets) up to
maximum of 1.25% of total risk weighted assets
Hybrid debt capital instruments
IPDI > 15% of tier 1 capital
IPDI +PNCPS > 40% of tier 1 capital
29

COMPONENTS OF TIER 2
CAPITAL IN INDIA - 2
Subordinated debt/Tier-2 bonds (Unsecured, fully
paid and subordinate to the claim of all other
creditors) initial/original maturity of more than 5
years - at a discount for bonds with
remaining/residual maturity of < 5 years as it
approaches maturity. Subordinated Debt with
initial maturity of less than 5 years and unexpired
maturity of less than 1 year cannot be included in
Tier II Capital.
The total amount of Subordinated debt
should not exceed 50% of Tier I Capital.
30

COMPONENTS OF TIER 2
CAPITAL IN INDIA - 2
Remaining Term to maturity for Tier 2 bond
Rate

Discount

(n = in years) (%)
n > 5 years

4 < n < or = 5

20

3 < n < or = 4

40

2 < n < or = 3
1 < n < or = 2

60
80

n < or = 1 100

31

Assignment of Risk
Weights
to Different Assets

Cash & Balance with RBI

Balances with Other Banks

Government / Approved Securities (market risk)

Loans to Staff fully secured by superannuation

benefits/mortgage of house

0%
20%

2.5%

20%

Residential Housing Loan to Individuals (up to 30 L)

Loan to PSUs

100%

Other Loans

100%

Exposure to Capital Markets/Consumer Loans

Commercial Real Estates

50%

125%
150%

Calculation of Risk
Adjusted or
Risk Weighted Value of
Assets
1
Calculation of Risk Weighted Value of On-

Balance Sheet Assets (RWA for On-Balance

Sheet Assets) : RWAs for On-Balance Sheet
Items are calculated by multiplying the value of
the assets (Ai) as appearing on the balance
sheet with the risk-weight (rwi) assigned to it.
For example, if the Bank has an investment of
Rs.100 Cr. In Govt. Bonds carrying a risk-weight
of 2.5%, the RWA will be Rs.2.5 Cr.

The Total Risk-Weighted Assets for all OnBalance Sheet Items will be; TRWA = A1 * rw1 +
A2 * rw2 + + An * rwn = Ai * rwi
33

Calculation of Risk
Adjusted or
Risk Weighted Value of
Assets
2
Notional
Conversion
of
Off-Balance

Sheet Items to Fund Based Facility and

Calculation of their Risk Weighted Value
(RWA for Off-Balance Sheet Items) : All
Off-Balance Sheet (OBS) items like LC, LG or
BG etc. are to be first converted notionally
into
fund-based
facility
or
Credit
Equivalent or Equivalent On-Balance
Sheet Item by multiplying them with the
prescribed credit conversion factor (CCF).
The CCF may be 20% (Documentary LC), 50%
(Performance LG), 100% (Financial LG) etc.
depending on the type of OBS item.
34

Calculation of Risk
Adjusted or
Risk Weighted Value of
Assets - 3 values of this
The risk weighted/adjusted

notional fund based amount is then

calculated by multiplying the same with the
risk-weight assigned to the counter-party on
whose behalf the bank has taken the
exposure (i.e., the applicant of the LC/LG etc.)

Risk-Weighted Value of an Off-Balance

Sheet Item = Value of the OBS Exposure
* CCF * Counter-Party Risk-Weight
Where Govt. is the Counter-Party, rw is 0%,
where Bank is the Counter-Party, rw is 20%,
and for any other Counter-Party, rw is 100%.
35

Calculation of Risk
Adjusted or
Risk Weighted Value of
Assets
3
The
Total
Risk-Weighted
Assets

(TRWAs) for both On-Balance Sheet and

Off-Balance Sheet Items will be; TRWA =
TRWA (for On-BS Items + Off-BS Items)

36

BASLE ACCORD I DRAWBACKS

One shoe /size fits all approach
The regulatory measures were seen to be in
conflict
with
increasingly
sophisticated
internal measures of economic capital
The simple bucket approach with a flat 8%
charge for claims on the private sector has
resulted in banks moving high quality assets
off their balance sheets, thus reducing the
average asset quality
The Accord did not sufficiently recognize
credit risk mitigation techniques
37

BASLE II ACCORD
Revised framework - a spectrum of
approaches ranging from simple to
advanced for measurement of credit
risks, market risks and operational risks,
all of which could lead to asset quality
and value deterioration.
The framework also builds in incentives
for better and more accurate risk
management by individual banks.
38

BASLE II THE THREE

PILLARS
Three mutually reinforcing pillars, which
together are expected to contribute to the
safety and soundness of the international
financial system
First Pillar: Minimum Capital requirement
Second Pillar: Supervisory Review Process
Third
Pillar:
Market
enhanced disclosures

discipline

and

39

Basel II
(Three-pillar structure)

Pillar 1: sets out minimum

capital requirement for a
banks credit, market and
operational risks
Pillar 2: deals with other
risks not covered under
Pillar 1; requires banks to
hold capital to cover these
risks; and requires supervisors
to review banks capital planning
40

Pillar 3: requires a bank

to enhance its public
disclosures on its risk
profile, capital adequacy
and key financial
information

reevaluation of capital
framework across the
world

"Basel
"Basel II
II will
will provide
provide one
one of
of the
the biggest
biggest structural
structural shocks
shocks to
to the
the banking
banking industry
industry for
for decades.
decades. Is
Is the
the industry
industry
ready?"
ready?"
Mercer
Mercer Oliver
Oliver Wyman,
Wyman, Dec
Dec 2003
2003

Basel I
Static risk weights based on asset

type, i.e., sovereign, banks, corp,

etc.
No distinction within risk weighting

bands for asset quality

"One size fits all"
Amendment ('97) allows for use of

VaR to estimate market risk

However, measurement of credit

risk remains rudimentary

Does not distinguish between

market, credit or operational risk

per se

Rudimentary

Basel II

Economic capital

More closely aligns regulatory

BIS II doesn't address

capital with economic risks

Standardized
Distinguishes capital charge by

asset quality based on rating

agency scoring
External ratings correspond to PD

Internal Ratings Based

Foundation: Allows banks to

estimate PD while LGD and EAD

are provided

concentration risk explicitly

Single name, industry, country
Economic capital framework

based on internal models

PD, LGD, EAD
Maturity, correlation
Spread migration
Does not rely on calibration

established by regulator, i.e., not

average risk

Advanced: Allows banks to

estimate PD, LGD and EAD

Capital framework

Advanced

The Three Pillars of

Basel
II
Pillar 1
Pillar 2
Pillar 3
Requirements for
calculation of regulatory
capital
Use of rating, loss

exposure and risk

mitigation
Explicit requirement for

operational risk capital

Quantitative aspects critical

for capital calculations

Fresh look at control

practices

Supervisors Role

Banks to assess solvency

relative to risk
Supervisory review of risk

management and capital

practices

Solvency assessment

covers ALL risks

Application of supervisor

judgement critical

Disclosure requirements

Greater disclosure of risk

profile, capital structure

and risk management
practices

Improved transparency
Expectations
Consistency with

accounting and local

regulatory requirements

Basel I to Basel II
Basel I

Basel II

Focus on single risk measure

More emphasis on banks own internal risk

management
methodologies,
supervision
review and market discipline.

One size fits all

Flexibility, menu of approaches, capital incentives

for better risk management. Granularity in
valuation of assets and type of business and
in the risk profiles of their system and
operations.

Broad brush approach

More risk sensitivity by structuring business class

and asset class. Multidimensional, focus on all
operational components of a bank

08/26/15

43

BASLE II- PILLAR I MINIMUM

CAPITAL REQUIREMENTS
Capital for Credit risk:
A] Standardized approach
B] Internal Ratings Based [IRB] Foundation
C] Internal Ratings Based [IRB] Advanced
Capital for Market Risk:
A] Standardized approach [ maturity method]
B] Standardized approach [duration method]
C] Internal models method
Capital for operational risk
A] Basic indicator approach (BIA)
B] The Standardized approach (TSA)
C] Advanced Measurement Approach [AMA]

44

DEFINITIONS OF RISKS
Credit risk is the probability that a borrower or
a counterparty will fail to meet obligations in
accordance with agreed terms
Operational risk is the risk of loss from
inadequate or failed internal processes,
people, systems or external events.
Market risk is the possibility of loss over a
given period of time related to uncertain
movements in market risk factors, such as
interest rates, currencies, equities, and
commodities. Also includes specific risk due to
composition of banks investment portfolio
45

PROCESS FOR CALCULATING

CREDIT RISK

Classify assets/on-balance sheet items into

appropriate risk categories and assign risk weights

Convert off balance sheet commitments/contingent

liabilities and guarantees like LC, BG and Forward
Exchange Contracts etc. to a notional on balance
sheet credit equivalent by multiplying the
appropriate Credit Conversion Factors (CCF) and
classify these in the appropriate risk categories
depending on the Counter Party

Multiply the rupee amount of assets in each risk

category by the appropriate risk weight. The result
equals risk weighted assets
46

TOTAL RISK WEIGHTED

ASSETS
Arrived at by
Multiplying market risk and operational
risk by 12.5 [reciprocal of minimum
capital ratio of 8%]. For India Minimum
CAR/CRAR is 9% wef March 31, 2000.
And adding the resulting figure to credit
risk

47

Credit risk- standardized

approach
Salient features
The Standardized approach for credit risk
retains some part of the 1988 Accord, such as
the definition of capital.
Its novelty lies in the replacing the existing
risk weighting scheme by a system where risk
weights are determined by the borrowers
credit rating by External Credit Rating
Agencies like CRSIL, ICRA, CARE & FITCH.
48

Credit risk IRB

approach
Salient features
Banks can use their internal estimates of borrower
creditworthiness to assess credit risk
These banks may rely on their own internal
estimates of PD, LGD, EAD and effective maturity
[M] in determining the capital requirement for a
given exposure.
Banks may be required to use values prescribed by
supervisors in lieu of internal estimates for some of
the risk components.
49

CREDIT RISK- IRB

APPROACH
Two broad approaches for many asset classesfoundation and advanced
Under the foundation approach banks generally
provide their own estimates of PD and rely on
supervisory estimates for other risk components.

Under the advanced approach, banks provide

more of their own estimates of PD, LGD and
EAD, and their own calculation of M, subject to
meeting minimum standards.

50

MARKET RISK
Capital required for both general market risk
as well as specific market risk.
General market risk - the impact of broad
market movements on the market value of on
balance sheet assets and off balance sheet
items, including risks common to all securities,
such as changes in the general level of interest
rates, exchange rates, commodity prices or
stock prices.
Specific market risk- inherent risks of a
particular security, such as the credit risk of
the institution, which issued the security.
51

OPERATIONAL RISK
BASIC INDICATOR APPROACH
KBIA = [(GI1n x )]/n
Where
KBIA = the capital charge under the Basic Indicator
Approach
GI = annual gross income, where positive, over
the previous three years, GI = Net Int. Income +
Net Non-Int. Income
n = number of the previous three years for which
gross income is positive
= 15%, which is set by the Committee, relating
the industry wide level of required capital to the
industry wide level of the indicator.
52

OPERATIONAL RISKSTANDARDIZED APPROACH

Banks activities divided into eight business lines:
corporate finance, trading & sales, retail banking,
commercial banking, payment & settlement, agency
services, asset management, and retail brokerage.
Within each business line, gross income is a broad
indicator that serves as a proxy for the scale of
business operations and thus the likely scale of
operational risk exposure within each of these
business lines.
The capital charge for each business line is
calculated by multiplying gross income by a factor
(denoted beta) assigned to that business line.

53

OPERATIONAL RISK- AMA

Under the AMA, the regulatory capital
requirement will equal the risk
measure generated by the banks
internal operational risk measurement
system using the quantitative and
qualitative criteria for the AMA.

Use of the AMA

supervisory approval.

is

subject

to

54

BANKS IN INDIA- MIGRATION

TO ADVANCED APPROACHES
Up to 2009, banks in India followed
standardized approach for credit risk,
standardized
approach
[modified
duration] for market risk and basic
indicator approach for operational risk
From 2010 onwards, banks are expected
to migrate to more advanced approaches
in a phased manner, so that process is
completed by 2014
55

KEY WORDS/TERMINOLOGIES/GLOSSARY - 1

BIS
(Bank
for
International
Settlements), BCBS (Basel Committee
on
Banking
Supervision),
Basel-I
Accord, Capital Adequacy Ratio (CAR)
or Capital to Risk-Weighted or Adjusted
Asset Ratio (CRAR), Capital Fund (CF),
Tier-I
Capital
or
Core/Permanent/Readily
available
Capital, Tier-II Capital or Non-Core/NonPermanent/ Not so readily available
Capital,
Risk
Weight
(RW),
Risk
Weighted Assets (RWA).

KEY WORDS/TERMINOLOGIES/GLOSSARY - 2

Credit Conversion Factors (CCF),

Counter Party Risk Weight, BaselII Capital Accord, Three Pillars,
Minimum Capital Requirement,
Supervisory
Review
Process,
Market Discipline, Credit, Market
& Operational Risk. Bank Loan
Rating, Regulatory Capital or Risk
Based Capital, Economic Capital.

Numerical on CAR
Calculation

Q 1. What should be the Minimum

unimpaired Capital Requirement and breakup of Tier-I and Tier-II Capital, to be
maintained by a bank in India, if the Total
Risk Weighted Assets (TRWAs) is Rs.10,000
Crore.
Suggested Solution: Minimum unimpaired
Capital Requirement @9% of TRWAs=Rs.900
Cr. With Tier I Capital (Minimum) 50% of CF
@ Rs.450 Cr. And Tier II Capital (Maximum)
50% of CF @ Rs.450 Cr.

Numerical on CAR
Calculation

Q 2. The RWAs of a bank is Rs.12,450/Crore as ag. the total assets of

Rs.16,600/Crore.
The
Capital
Structure of the Bank is given below :
(Rs. in Crores)
Equity

280

Free Reserves

465

Subordinated Debt/Tier-2 bonds

325

(remaining maturity 3.5 years)

Revaluation Reserves

428

Numerical on CAR
Calculation

Q 2. (contd)

N.B. : Tier-2 bonds to be reckoned @ 40%

discount
(a) Verify whether the bank has achieved
the Capital adequacy level of 9%.
(b) If the Bank expects to increase the total
fund during the year by 15% and propose to
deploy funds at an average RW of 64%,
compute the requirement of additional
capital to maintain CAR of 9%.

Suggested Solution - 1

Verify whether the bank has achieved the capital adequacy

level of
Elements
of 9%
Capital/Amount
Reckoning Rate for Contribution to
Capital Fund

Equity Capital/Tier 1/280

Capital Fund
Calculation
100%

Free Reserves/Tier 1/465

100%

465

Subordinated Debt/Tier 2
bonds
(Remaining maturity 3.5 years)
@ 40% discount/325
FA Revaluation Reserves/428
@ 55% discount (Tier 2)
Total Capital Fund Available
(CF)/(Tier 1 + Tier 2) Capital

60%

195

45%

192.60

280

1,132.60

Suggested Solution - 2

Verify whether the bank has achieved the capital adequacy level of
9%

Total Risk-Weighted Assets (TRWA) = 12,450 Cr.

CAR or CRAR = CF/TRWA = 1,132.60/12,450 =
9.10%
If the bank expects to increase the total funds
during the year by 15% and proposes to deploy
the funds at an average risk weight of 64%,
compute the requirement of capital to maintain
CAR of 9%.
Solution: Total Funds now = 16,600, Increase in
funds @ 15% = 16,600*0.15 = 2,490

Suggested Solution - 3
Addition to risk Weighted Assets= 2,490 *
0.64 = 1,593.60
Total Risk-weighted assets = 12,450 +
1,593.60 = 14,043.60
Capital Fund required @ 9% CAR =
14,043.60 * 0.09 = 1,263.92
Capital Fund available now = 1,132.60
Additional Capital Fund Required = 1,263.92
1,132.60 = Rs.131.32 Cr.

Topics for Next Class All of you Should get

prepared before coming to the class

Management
of
Investment Portfolio

Banks

Risk
Management
in
Banks,
Credit Risk Management, Interest
Rate Risk Management & AssetLiability Management (ALM)