Banks Have To Take A Call On Liquidity Allocation

Updated: Sep 29 2003, 05:30am hrs
Malcolm D Knight, chief executive of the Bank for International Settlements (BIS), was in Mumbai last week to address a banking seminar organised by the Federation of Indian Chambers of Commerce and Industry. He thinks Indian banks are doing well in adopting risk management strategies. India has been a leading role model among the developing countries, he commented. Mr Knight joined BIS on April 1 2003. Born in Canada in 1944, Mr Knight was earlier with Bank of Canada as its senior deputy governor (1999-2003). From 1975 to 1999, he was with the International Monetary Fund, where he held a number of senior positions in both research and operations. In between the inaugural session and cocktails, Mr Knight spoke to Atmadip Ray of The Financial Express on the roadmap ahead for the BIS and the evolution of Basel II Accord. Excerpts:

The immediate goal ahead of BIS is, one presumes, a completion of the new Accord by the fourth quarter of 2003. What are issues ahead of you now towards this goal
Well, the status is the Basel Committee issued the third consultative paper in April, and the committee received quite a large number of comments. Actually, I would like to emphasize that the system is a most open process. So, the Basel committee is continuously inviting the banking communitys comments on its proposals. Most of the proposals which the Committee has received are very supportive. Of course, as all that is occurring this time... when it comes down to short strokes, the Basel Committee has to consider all the comments. The Basel Committee is reviewing all of those comments. And I think, they will hold a meeting on October 9 to firm up the roadmap on how to go forward.

The third quantitative impact study says that minimum capital requirement for banks, which are internationally active, would be broadly unchanged. But there is a prevalent view that after implementation of the Accord, the capital requirement would go up for the adoption of operational risks. How do you reconcile this
I think, the basic objective of the Accord is to make banks more sensitive to risk. I encourage them to manage their risk better. That will have major implications in the way banks operate. For strategies and those activities which are very risky and require a lot of capital, banks would need to hold more capital.

So, I think, no one should think of it as something static. Banks will look at it, they will determine how to evolve the business plan, which business is more profitable at a given level of risk and adjust the capital ratios accordingly. So, the fact of the matter is that a bank with risky businesses does not show their risk under the old capital standards. In other words, banks that were operating risky businesses maintain a lower level of capital (under the old Accord). The intention is that, overall, there should be benefit from a better risk management in terms of a lower capital.

In respect of the New Capital Accord, how do you see the preparedness in different countries Where do you place Indian banks in terms of preparedness
Different countries are in very different states for Basel II. Banks, different types of banks, even in a single country are in different states in terms of preparedness. I think, this is a matter of the degree to which banks have developed good techniques of risk control, credit management, credit origination and the management of weak or non-performing loans. This varies tremendously across countries.

India has accepted the general principal that the more risk-based management of bank assets and capital is essential. I think, this is a very important general principle to assume. There is also a need for convergence in banks risk control techniques. That is also a very important element that has been adopted in India. The final area which is a challenge worldwide has been achieving acceptance of uniform accounting standards... everybody is looking at the numbers with the same criteria.

What do you think of the Indian banking system
I am not an expert on Indian banks. My sense is that a great deal has been done to restructure the Indian banking system and to reduce the non-performing assets (NPA) on the banks balance sheets. And that has been done well by maintaining a stable system.

Problems of NPA exist in all banking systems, and that is being addressed, and that is contributing actively to the growth in the economy and growth of credit. I think it is very important to manage credit growth going forward. Banks are relatively liquid at this point and have to take decisions as to how to allocate liquidity to their credit operations.

You mentioned that Indias sovereign risk weight may be reduced to 50 per cent from 100 per cent under the new Accord. What made you think on those lines
This is because of the fine economic management in India, the fact that there is virtually no foreign currency debt, the strong foreign reserves position of the country.

Nothing has been decided yet. But my understanding after the discussions with the Basel Committee is that under the new Basel Accord, the risk weight will improve. One of the major faults in the present Accord is its outdated approach to sovereign risk. Of course, this can change over time, But I am confident that Indias sovereign rating will not deteriorate.

What are the other issues engaging BIS
I think, the main function is really to foster strong cooperation and dialogue among central bankers in industrial and emerging market countries. Most senior central bankers come to Basel, and they talk about what is going on in the world economy.

They talk about the implications on their monetary policy. The discussions are very good ones. This is a wonderful form of co-operation. I think this is very productive in achieving substantial monetary stability. We want to continue with this. We do this not only with the member countries, but all countries that are interested in monetary challenges to confine.