RBI, the report noted, has already put in place a system to mitigate
liquidity risks at the very short-end, risks at the systemic level
and at the institution level. Liquidity risk management in India
has been made more granular and prudential norms for off-balance
sheet exposure of banks have been prescribed. In order to further
strengthen capital requirements, the credit conversion factors,
risk weights and provisioning requirements for specific off balance
sheet items, including derivatives, have been reviewed. Furthermore,
in India, complex structured products such as synthetic securitization
have not been permitted so far, the report said adding that introduction
of such products, when found appropriate, would be guided by the
risk management capabilities of the system.
The report indicates that the challenge for banks is to develop
adequate skills for managing emerging risks resulting from innovations
in financial products as well as technological advancements. RBI
has been encouraging banks to develop an integrated approach to
managing risk and also undertake stress testing exercises, both
for liquidity and credit risk management. In this context, the
availability of reliable information is crucial for both banks
and regulators/supervisors of the banking system. RBI took the
first step in the direction of a more efficient financial data
reporting system by implementing the online returns filing system.
Another important step was the adoption of XBRL-based data reporting
for Basel II reports from banks.
The report notes that a major challenge is how to meet the credit
demand without impairing credit quality. Banks have to monitor
their credit portfolios closely in the context of persisting high
growth in bank credit at the system level and take corrective
action as appropriate in order to prevent undue asset-liability
mismatches or deterioration in the quality of credit, recognizing
the reality of business cycles and counter-cyclical monetary policy
measures. Banks, on their part, would need to ensure that their
business strategies and decisions are guided by the longer-term
perspective of systemic and macroeconomic developments and are
not unduly influenced by the current stream of exceptional events.
The report observes that foreign banks operating in India and
Indian banks with presence abroad migrated to the Basel II framework
with effect from March 31, 2008. All other scheduled commercial
banks (except regional rural banks and local area banks) are expected
to migrate to the Revised Framework not later than by March 31,
2009. As noted in the report, the full implementation of the Basel
II framework, even under the basic/standardized approaches, would
remain a major challenge for some time to come, for both the banks
and RBI. At the banks’ level, the implementation would require,
inter alia, upgradation of the bank-wide information
system through better branch-connectivity, which would entail
cost and may also raise some IT-security issues. The implementation
of Basel II also raises several issues relating to development
of human resource skills and database management. Banks would
require higher amount of capital under the Basel II framework.
They would, therefore, need to explore various capital raising
The Indian central bank has urged banks to ensure that even as
they give due emphasis to maintaining the credit quality, the
flow of credit to productive sectors of the economy does not get
affected. To enhance credit flow important initiatives were taken
during the year including further fine-tuning of priority sector
lending norms and implementation of the Agriculture Debt Waiver
and Debt Relief Scheme, 2008, announced by the Government of India.
According to the RBI report, deposit growth continued to be strong,
though it was marginally lower than the previous year mainly on
account of deceleration in term deposits. Growth in bank credit
of scheduled commercial banks exhibited some moderation during
the year in line with the policy initiatives undertaken by the
Reserve Bank. The moderation in credit was observed across all
the sectors, barring services.
Lending rates of State Cooperative Banks (SCBs) across various
bank groups showed a generally upward movement during the year.
Net profit of SCBs increased significantly during 2007-08. Return
on assets also increased.
For the first time since 2001-02 the gross non-performing assets
(NPAs) of scheduled commercial banks increased in absolute terms
during fiscal 2007-08. However, as percentage of gross advances
the gross NPAs continued to decline.
The overall CRAR of all SCBs at end-March 2008 improved further
from the level a year ago, reflecting a relatively higher growth
rate in capital funds maintained by banks than risk-weighted assets.
At the individual bank level, the CRAR of all SCBs was above the
prescribed requirement of 9 per cent at end-March 2008. Aggregate
income of RRBs increased during 2007-08 on account of higher interest
as well as non-interest income.
RBI Mid-Term Policy review for 2008-09
stable & healthy financial sector*
financial sector is stable and healthy. Indian banks do not have
direct financial exposure to the US sub-prime assets. Foreign
subsidiaries and foreign branches of Indian banks have suffered
some mark-to-market losses on financial instruments due to the
general widening of credit spreads. These losses are modest relative
to the size of their business. Adequate provisioning has been
made for these. The overall capital adequacy ratio of commercial
banks in India is 12.7 per cent, well above the regulatory minimum
of 9 per cent and the Basel Accord requirement of 8 per cent.
Furthermore, the regulatory mandate of 25 per cent as SLR and
6.5 per cent as CRR provides an inherent strength to the Indian
banks. The most prominent symptom of the problem in the financial
sectors of advanced countries has been the freezing up of inter-bank
markets. On the contrary, the inter-bank market in India has been
functioning in an orderly manner.
Nevertheless, the global developments have had indirect, knock-on
effects on domestic financial markets. Money markets have experienced
unusual tightening of liquidity in recent weeks as a result of
global developments which were amplified by transient local factors
such as advance tax payments. The foreign exchange market has
experienced pressure on account of FII portfolio outflows and
the enhanced foreign exchange requirements of oil and fertiliser
companies. Constraints in access to external financing as also
repricing of risks and higher spreads resulted in additional demand
from corporates for domestic bank credit with attendant hardening
of interest rates across the spectrum.
In the wake of the stress on our financial markets as a result
of the global financial crisis, the Reserve Bank announced a series
of measures starting mid-September 2008 to ease both domestic
and foreign exchange liquidity. The following are the more important
CRR was reduced by a cumulative 250 basis points effective from
the fortnight beginning October 11. As an ad hoc and temporary
measure, banks have been allowed to avail of additional liquidity
support under the LAF up to one per cent of their net demand and
time liabilities (NDTL). A special 14-day repo facility for an
amount of Rs.20,000 crore has been instituted to alleviate liquidity
stress faced by mutual funds, and banks have been allowed access
to a special LAF window up to an additional 0.5 per cent of NDTL
exclusively for this purpose. Reserve Bank provided an advance
of Rs.25,000 crore to financial institutions under the Agricultural
Debt Waiver and Debt Relief Scheme pending release of money by
the Government. The interest rate ceilings on FCNR (B) and NR(E)RA
term deposits were increased by 100 basis points each.
The Reserve Bank also announced that it would institute special
market operations to meet the foreign exchange requirements of
public sector oil market companies against oil bonds when they
In order to alleviate the pressures on domestic credit markets
brought on by the indirect impact of the global liquidity constraints
and, in particular, to maintain financial stability, it was decided
on October 20, 2008 to reduce the repo rate under the Liquidity
Adjustment Facility (LAF) by 100 basis points to 8.0 per cent
with immediate effect.
The measures indicated above have substantially eased the liquidity
stress in domestic financial markets. The total liquidity support
provided through reductions in the CRR, the temporary accommodation
under the SLR and the advance under the agricultural debt relief
scheme is of the order of Rs.1,85,000 crore. In the inter-bank
call money market, rates have softened from well above the repo
rate to a level just above the reverse repo rate. The LAF window
saw a mode reversal from a net injection of over Rs.90,000 crore
on October 1, 2008 to a net absorption through reverse repos of
over Rs.35,000 crore on October 23, 2008. Yields in the benchmark
10 year G-Secs dropped from 8.3 per cent on October 3, 2008 to
7.58 per cent on October 23, 2008. It is expected that the cut
in the repo rate effected on October 20, 2008 will further ease
the constraints in money and credit markets.
The task of monetary policy has always centred around managing
a judicious balance between price stability, sustaining the growth
momentum and maintaining financial stability. The relative emphasis
across these objectives has varied from time to time depending
on the underlying macroeconomic conditions. Prudent regulatory
surveillance and effective supervision have ensured that our financial
sector has been and continues to be robust. The global financial
turmoil has, however, reinforced the importance of putting special
emphasis on preserving financial stability. At the same time,
inflation, which is still in double digits and moderation in growth
continue to be critical policy concerns. Consequently, the central
task for the conduct of monetary policy has become more complex
than before, with increasing priority being given to financial
stability. The current challenge, accordingly, is to strike an
optimal balance between preserving financial stability, maintaining
price stability, anchoring inflation expectations, and sustaining
the growth momentum.
The global downturn may be deeper, and the recovery longer, than
expected earlier. Consequently, the adverse implications through
trade and financial channels for emerging economies, including
India, have amplified. These adverse developments are overlaid
on the moderation of growth in industry and services sectors in
the first half of 2008-09. Taking these developments and prospects
into account, the Reserve Bank has revised the projection of overall
real GDP growth for 2008-09 to a range of 7.5-8.0 per cent.
Globally, pressures from commodity prices, including crude, appear
to be abating, though they continue to rule at elevated levels.
Domestically, prices of food articles are moderating and the beneficial
effects of the south-west monsoon should enable a further easing
in the coming months. There are also incipient signs of some softening
in prices of manufactured goods. Keeping in view the supply management
measures taken by the Government and the lagged demand response
to the monetary policy measures taken by the Reserve Bank over
the last one year, RBI maintains its earlier projection of inflation
of 7.0 per cent by end-March 2009.
Non-food credit has posted a growth of 29 per cent on a year-on-year
basis as of October 10, 2008 which is well beyond the projected
level of 20 per cent for 2008-09. Banks should continue to lend
for productive purposes and, in particular, permit drawals of
sanctioned limits, guided as always by their commercial judgment.
It will be in order for banks to consider restructuring the dues
of small and medium enterprises on merits. At the same time, they
should pay attention to maintaining credit quality. In pursuit
of this objective, banks should focus on stricter credit appraisals
on a sectoral basis, monitor loan to value ratios and calibrate
their credit portfolio in tune with their asset-liability projections.
The Reserve Bank will monitor the rate of credit growth and credit
quality closely and will, as necessary, engage with select banks
which are outliers on the norms.
India's balance of payments continues to reflect strength and
resilience in a highly unsettled international environment. In
the capital account, sustained FDI inflows and higher NRI flows
have partly off-set the impact of the FII outflows. Overall, during
2008-09, the current account deficit may be higher and net capital
flows lower than during last year, but it is expected that net
capital flows would meet the external financing requirements.
Given the uncertain global financial situation, monitoring and
maintenance of domestic financial stability warrants continuous
attention. The Reserve Bank will maintain a close vigil on the
entire financial system to prevent pressures building up in the
financial markets. This will include enhancing liquidity if pressures
persist. This could also mean curtailing liquidity if the recent
liquidity easing measures are seen to have injected excess liquidity,
thereby stoking inflationary pressures.
The global financial situation, described as the worst since the
Great Depression, continues to be uncertain and unsettled. No
country can remain unscathed in a crisis of this proportion. This
is uncharted territory and experience to date has evidenced the
need to go beyond standard or conventional solutions. The Reserve
Bank has endeavoured to be proactive, and has taken measures to
manage the rapid developments and ease pressures stemming from
the global crisis. The Reserve Bank reiterates that it is confident
of managing the situation and of minimising the adverse impact
of the global crisis on the Indian economy. Our financial system
is healthy and resilient, and our economic fundamentals are strong.
Once the global situation is stabilised, and calm and confidence
are restored, we will return to our higher growth trajectory.
Based on the above overall assessment of the macroeconomic situation,
the stance of monetary policy for the rest of 2008-09 will be
Ensure a monetary and interest rate environment that optimally
balances the objectives of financial stability, price stability
and well-anchored inflation expectations, and growth; Continue
with the policy of active demand management of liquidity through
appropriate use of all instruments including the CRR, open market
operations (OMO), the MSS and the LAF to maintain orderly conditions
in financial markets;
In the context of the uncertain and unsettled global situation
and its indirect impact on the domestic economy in general and
the financial markets in particular, closely and continuously
monitor the situation and respond swiftly and effectively to developments,
employing both conventional and unconventional measures; Emphasise
credit quality and credit delivery, in particular, for employment-intensive
sectors, while pursuing financial inclusion.
Against the backdrop of recent global and domestic developments
and in the light of measures taken by the Reserve Bank over the
last month, we have kept the Bank Rate, the repo rate and the
reverse repo rate under the LAF and the cash reserve ratio (CRR)
unchanged for the present. The Reserve Bank is closely and continuously
monitoring the evolving macroeconomic and financial conditions,
globally and domestically, and will respond to evolving circumstances
proactively and swiftly."
* Reserve Bank of India Governor, Dr. D. Subbarao’s
Press Statement on Stance of Monetary Policy for the Remaining
Period of 2008-09. This Mid-Term Monetary Policy Review of the
Reserve Bank of India is set in the context of several complex
and compelling policy challenges. The global financial system
is in a crisis of unprecedented dimensions. Across the world,
there have been severe disruptions in money markets, sharp declines
in stock markets and extreme risk aversion in financial markets.
Governments, central banks and financial regulators around the
world are responding to the crisis with aggressive, radical and
unconventional measures to restore confidence and stabilize the