Mumbai: The Reserve Bank of India (RBI) on Monday revised its guidelines on banks’ exposure to large borrowers which had taken effect on 1 April this year.
RBI had introduced the large borrower framework three years ago to reduce concentration risk in a banking industry laden with bad loans. The guidelines had capped every bank’s exposure to a group of connected firms at 25% of its core capital, and to an individual company at 20%.
In a notification on Monday, the central bank said that it has excluded all entities connected with the sovereign from the definition of group of connected companies. For instance, exposures where the principal and interest are fully guaranteed by the government or exposures to central and state governments will be excluded from counter-party exposure.
RBI also introduced the concept of “economic interdependence" criteria in definition of connected counterparties. According to the regulator, if one of the firms were to experience financial difficulties, then related parties are also likely to encounter funding or repayment difficulties.
Hence, it has asked banks to ensure that the sum of all exposures to one counterparty does not exceed 5% of the Tier 1 capital. “Banks are expected to identify possible connected counterparties on the basis of economic interdependence in all cases where the sum of all exposures to one individual counterparty exceeds 5% of the eligible capital base, and not in other cases," RBI said.
The central bank also said that banks need to take into account their direct and indirect exposure to an underlying asset while calculating total exposure. For instance, if banks have invested in structures such as funds, securitizations and other structures, which have exposure to an underlying asset, then banks need to include this exposure along with the direct exposure while calculating total exposure (termed as look-through approach), provided it is above 0.25% of the Tier 1 capital.
These structures can include mutual funds, venture capital funds, alternative investment funds, investment in security receipts, real estate investment trusts or infrastructure investment trusts. “A bank must look through the structure to identify those underlying assets for which the underlying exposure value is equal to or above 0.25% of its eligible capital base. In this case, the counterparty corresponding to each of the underlying assets must be identified so that these underlying exposures can be added to any other direct or indirect exposure to the same counterparty," it said.
Mint had reported in April that the Indian Banks’ Association had sought an extension of the deadline by another 1-2 years. However, the revised guidelines have made no revision in the earlier deadlines, except in the case of the revision on look-through approach which will be effective from 1 April 2020.
