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Unit 9: Commercial Banking Services

The RBI accepted for implementation, the standard of measuring capital as a ratio of risk weighed Notes
assets. The Committee on the Financial System (1991) suggested the adoption of capital adequacy
norms, prudential norms for income recognition and provisions for bad debts. The risk weighed
assets ratio approach to capital adequacy is considered to be more equitable as an institution
with a higher risk assets profile so as to maintain a higher level of capital. Further, the integration
of on-balance sheet and off-balance sheet exposures into the capital ratio would provide risk
sensitivity and skills to manage risk and structure balance sheet in a prudent manner.

9.12 Classification of Capital of Banks

Capital funds of scheduled commercial banks in India include Tier I or Core capital and Tier II
or Supplemental capital. Tier I capital includes paid-up capital, statutory reserves and other
disclosed free reserves and capital reserves representing the surplus arising out of the sale
proceeds of assets. In computing Tier I capital, equity investment in subsidiaries, intangible
assets and losses are deducted. Tier I capital consists of permanent and readily available support
to a bank against expected losses. Tier I capital should not be less than 50 per cent of total capital.
In the US capital, reserves are excluded from equity since loan loss reserves reflect anticipated
actual losses.

Tier II capital comprises of less permanent and less readily available elements such as undisclosed
reserves and cumulative perpetual preference shares, revaluation reserves, general provisions
and loss reserve, hybrid debt, capital instruments and subordinated debt. The total of Tier II
elements should be limited to a maximum of 100 per cent of total Tier I elements.

Capital to Risk Assets Ratio (CRAR)

In April, 1992, the RBI introduced a risk assets ratio system for banks (including foreign banks)
in India, as a capital adequacy measure. Under the system, the balance sheet assets, non-funded
items and other off-balance sheet exposures were assigned risk weights, according to the
prescribed percentages.

Risk Adjusted Assets

They are the weighted aggregate of the degree of credit risk expressed as percentage of the
funded and non-funded items. The aggregate is used to determine the minimum capital ratio.

Funded Risk Assets

The percentage weights allotted to the funded risk assets are:
1. Cash, balances with RBI, balances with other banks, money at call and short notice,
investment in government and other approved securities 0%
2. Claims on commercial banks such as certificate of deposit 0%
3. Other investments 100%

4. Loans and advances:
(a) Loans guaranteed by Government of India 0%
(b) Loans guaranteed by the State Governments 0%
(c) Loans granted to public sector undertakings of Government of India
and the State Governments 100%

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