Complying with the Large Exposures Framework: Banks disbursing loans at reckless speed may face teething problem

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New Delhi | Published: March 14, 2019 3:25:59 AM

The Large Exposures Framework revolves around a limit of 25% of Tier 1 capital, identifying a group of connected counterparties and specific treatments to credit risk, trading book position, and qualified central counterparties.

bank , bank loansIt is a relief to banks, as the norms are not applicable to banks’ advancing to governments (central and state), state-owned firms and those carrying state guarantees.

In exposure norms, the loss or failure of a single counterparty is not captured by the risk-based capital standard issued by the Basel Committee on Banking Supervision (BCBS). In 2014, the BCBS replaced the large exposure guidelines released in January 1991, with a measure on risk-based capital requirements and limit large exposure in relation to banks’ Tier 1 capital. To align with the BCBS guidelines, RBI issued the Large Exposures Framework in December 2016, to come into effect on April 1, 2019.

The Large Exposures Framework revolves around a limit of 25% of Tier 1 capital, identifying a group of connected counterparties and specific treatments to credit risk, trading book position, and qualified central counterparties.

It is a relief to banks, as the norms are not applicable to banks’ advancing to governments (central and state), state-owned firms and those carrying state guarantees. Further, intraday interbank exposures, too, are excluded. Any bank having a strong capital base with a high capital ratio may fail, if it faces significant loss on account of a largely exposed counterparty or a group of connected counterparties. The concept of “too big to fail” will not hold well in the given scenario.

The Large Exposures Framework will change the current limit of 15% of capital fund for Single Borrower Limit (SBL) and 40% for Group Borrower Limit (GBL). It will change SBL to 20% of banks’ available eligible capital base at all times with an exception of board approval to an additional 5%. To GBL, it is narrowed to 25%. Lending to NBFC group companies is going to be impacted negatively, as the overall limit will reduce to 25% from 40%.

The new framework requires a bank to report largest 20 borrowers irrespective of their SMA rating and credit risk. This will help the regulator to closely perform off-site monitoring. The handling and implementation of large exposures could provide strength to the Indian financial system in a number of ways (by close monitoring). Further, implementation of the Legal Entity Identifier (LEI) for large corporate borrowers will help tag large corporates and improve the quality and integrity of financial data processing for better risk management.

Currently, a bank can extend credit facilities against guarantees issued by another bank without any limit; this is deemed an exposure on the guaranteeing banks and attracts appropriate risk weight. With the introduction of Large Exposures Framework, exposure assumed by a bank against the guarantee of another bank is deemed as exposure on the guaranteeing bank and falls within the definition of interbank exposures with the large exposure limit of 25% of bank’s tier I capital.

To comply with the BCBS guidelines, RBI has given two-years’ time to the banks to reduce the exposure to large clients, and banks that have disbursed loans and guarantees at reckless speed may face a teething problem in slowing down and must work on remedial measures to comply with the Large Exposures Framework before March-end.

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