Reserve Bank of India Announces Monetary Easing Measures to Lower Interest Rates (April 1, 2000)

On a review of liquidity and market conditions, the Reserve Bank of India today announced the following measures:

1. A reduction in Bank Rate by 1.0 percentage point from its present level of 8.0 per cent to 7.0 per cent as at the close of business of April 1, 2000;
2. A reduction in Cash Reserve Ratio (CRR) by 1.0 percentage point from its present level of 9.0 per cent to 8.0 per cent in two stages by 0.5 percentage point each effective from fortnights beginning April 8, and April 22, 2000, respectively;
3. A reduction in Repo Rate by 1.0 percentage point from its present level of 6.0 per cent to 5.0 per cent, effective from April 3, 2000; and
4. A reduction in Savings deposit rate of scheduled commercial banks from its present level of 4.5 per cent to 4.0 per cent, effective from April 1, 2000.

2. As a consequence of the reduction in the Bank Rate, the interest rates on advances from the Reserve Bank of India by way of several facilities, including the export credit refinance, to scheduled commercial banks and primary (urban) co-operative banks would be reduced by 1.0 percentage point (i.e., 100 basis points). Other facilities where such a reduction would be affected are: Collateralised Lending Facility (CLF), Additional Collateralised Lending Facility (ACLF), Liquidity Support to Primary Dealers, advances to State Financial Corporations and Ways and Means Advances and Overdraft to Government of India and State Governments.

3. The reduction in CRR by 1.0 percentage point will augment lendable resources of the banking system as a whole by about Rs. 7, 200 crore.

RBI Extends RRA Term by One Year (April 7, 2000)

The Reserve Bank of India has extended the term of the Regulations Review Authority (RRA) for a further period of one year from April 1, 2000. The extension has been extended to RRA with a view to providing some more time to general public, market participants, users of services of the Reserve Bank to avail of the facility extended to them through this scheme and to completing the assigned tasks to the RRA. It may be recalled that the RRA was set up in the Reserve Bank of India in 1999, with Dr. Y.V. Reddy, Deputy Governor as RRA, for reviewing the Reserve Bank's rules, regulations, reporting systems, etc., in the light of suggestions received from general public, market participants and users of services of the Reserve Bank. The RRA completed one year of its existence on March 31, 2000. Members of public, market participants and users of services of the Reserve Bank may send their suggestions to the Reserve Bank of India, Regulations Review Authority, P.O. Box No. 10007, Central Office Building, 16th Floor, Shahid Bhagat Singh Road, Mumbai-400 001. (Fax: (91)(22)2662 105). The details of the RRA scheme are available on RBI website at www.rbi.org.in.

Performance Review

During the year, the scheme received 200 applications which contained more than 350 suggestions. The suggestions pertained to the entire gamut of operations of the Reserve Bank. Implementation of the accepted suggestions has paved way for streamlining several existing procedures in the Reserve Bank, particularly in its public dealing departments and improving its customer service. The suggestions have also compelled a review of the Reserve Bank's reporting systems and have resulted in reducing a number of redundant returns to the benefit of the users of services of the Reserve Bank. More importantly, the RRA has created an awareness in the Reserve Bank to be more responsive to the needs of its customers.

One of the important achievements of the RRA was initiating the work relating to compilation of subject-wise master circulars in a manual form by merging quite a large number of circulars issued over the years on a particular subject into one circular. When ready, this would help the users of services of the Reserve Bank to get all current instructions on a particular subject at one place instead of referring to quite a large number of circulars. Some master circulars on subjects, such as, loans and advances, statutory audit of banks, prudential norms and provisioning, bank frauds, export finance, priority sector lending, etc. are currently being finalised.

Another noteworthy achievement was decentralisation of the work of fixing service charges which was so far being attended to by Indian Banks Association (IBA) and the Foreign Exchange Dealers Association of India (FEDAI) for commercial banks and authorised dealers in foreign exchange, respectively. Individual banks now themselves work out and levy service charges based on the cost of providing services.

Other suggestions that are implemented are:

The Reserve Bank has:

1. done away with sample test checking of newly printed MICR Instruments at MICR cheque processing centres before putting them into use;
2. passed on regulations over Money Market Mutual Funds to Securities Exchange Board of India;
3. granted general permission to mutual funds for issuing units to foreign institutional investors;
4. withdrawn the requirement of obtaining succession certificate from the legal heirs irrespective of the amount involved in the account of a deceased customer;
5. decided that the banks should pay interest at the rate as applicable for appropriate tenor of fixed deposit for the period of delay beyond 10/14 days in collection of outstation instruments. Further, banks should also pay penal interest at the rate of 2 per cent above the fixed deposit rate applicable for abnormal delay caused by the branch in collection of outstation instruments;
6. worked out a procedure for disssemination of timely information of Foreign Institutional Investors (FII) investments in Indian companies through the RBI website to facilitate free trading in shares on stock exchanges by FIIs;
7. begun a review of its regulations and reporting systems relating to current account transactions;
8. begun making available information to general public through e-mail on demand.

New Capital Adequacy Framework (April 27, 2000)

The Basle Committee on Banking Supervision, which sets global standards for regulation and supervision, had released in June 1999 a Consultative Paper on 'A New Capital Adequacy Framework' for comments by central bankers, market players and other interested parties. The new Framework is designed to rectify shortcomings of the 1988 Accord and also in addressing the in-built deficiencies in the current risk weighting model. The new Framework calls for better alignment of regulatory capital with underlying risks, by replacing the current broadbrush approach with preferential risk weighting. The new Framework also extended its scope to provide for explicit capital charge for other risks viz., operational risk and interest rate risk in the banking book for the banks where interest rate risks are significantly above average (outliers).

The new Framework is built on a three-pillar approach - minimum capital requirement,

supervisory review and market discipline to strengthen the international financial architecture.

The adoption of the new Framework in the present form will have important implications for emerging markets and will call for structural changes in the current regulatory and supervisory standards. Recognising the implications of the new Framework on emerging market economies, an internal Working Group was constituted in the RBI to examine the impact and applicability, scope for and problems in implementation and the time span within which the Framework could be adapted to Indian conditions. Based on the recommendations of the Group, the RBI has finalised and forwarded its comments on the new Framework to the Basle Committee, and can soon be accessed at RBI's website www.rbi.org.in.

The views of the RBI, in brief, are:

While appreciating the Basle Committee's initiative in addressing the rigidities of 1988 Accord and the three-pillar approach, the RBI is of the view that some of the recommendations require modifications / flexibilities to fully reflect the macro economic environment, structural rigidities and concerns of emerging markets. Regarding the scope of application, RBI feels that where banks are of simple structure and have subsidiaries, the Accord could be adopted on stand-alone basis with the full deduction of equity contribution made to subsidiaries from the total capital. There is also a need for discretion to national supervisors to prescribe a material limit upto which cross-holdings could be permitted.

The Reserve Bank considered in depth the issue of relying on external credit rating agencies as the basis for assigning preferential risk weights on country exposure, bank exposure and exposure to other sectors. Considering the track record and differences in the attribution of ratings, lack of uniformity in selection of parameters, the RBI is of the view that assigning greater role to external rating agencies in the regulatory process would not be desirable. Instead, the RBI prefers that the assessment made by domestic rating agencies that have up-to-date and ongoing access to information on domestic macro economic conditions, legal and regulatory framework etc. could be a better alternative source for assigning preferential risk weights for banking book assets (excluding claims on sovereign), subject to adequate safeguard. This alternative would provide national supervisors greater access to quality of assessment sources and methodologies used by various rating agencies. The Reserve Bank also favours that greater reliance needs to be placed on internal rating-based approaches of banks which can be structured under an acceptable framework. Such an approach would encourage banks to refine their risk assessments and monitoring process.

The Reserve Bank welcomes the Basle Committee's approach to dispense with the grouping of countries into OECD / non-OECD for assigning risk weights. The Reserve Bank also endorses the Committee's proposal to provide discretion to national supervisors to give modified treatment for bank's exposure to their own sovereign, denominated in domestic currencies and funded in same currencies.

While appreciating the Basle Committee's proposal to distinguish financial institutions on the basis of their credit quality, RBI is of the view that risk weighting of banks should be de-linked from that of the sovereign in which they are incorporated. Instead, preferential risk weights in the range of 20-50 per cent, on a graded scale, could be assigned on the basis of risk assessments by domestic rating agencies. As regards the proposal to assign favourable risk weight to short-term claims, the RBI is of the view that this proposal will seriously jeopardise the stability of international financial architecture, since from the macro economic point of view, short- term claims could not be a perfect option as this will lead to regulatory arbitrage through roll-overs, concentration of short-term liabilities and serious asset - liability mismatches, which could trigger systemic crises. The proposal to link the banking supervisor implementing / endorsing the Core Principles for Effective Supervision for lower risk weights, is also not desirable.

As regards the Basle Committee's proposal to assign risk weights to claims on corporates on the basis of ratings, it is observed that the population of rated entities is very few in many countries, especially in emerging markets. The Reserve Bank is of the view that preferential risk weights could be assigned to corporates, above a material limit, on the basis of risk assessments by domestic rating agencies. Further, risk weight should solely be dependent upon the credit ratings and the proposal to link it with the risk weight of the sovereign of the Corporate's country of incorporation needs reconsideration. While agreeing with the Committee's proposal that credit risk modelling could have the potential to be used in the supervisory process, the adoption of such models as an alternative for setting capital charge in emerging markets is severely constrained by data limitations and model validation. The modifications and the parameters for identifying outliers for mandating explicit capital charge for interest rate in the banking book needs further discussion. The Reserve Bank fully endorses the Committee's proposal that each financial institution should critically assess its capital adequacy requirements and that supervisors should have methods for such assessments by financial institutions. While agreeing with the Committee's views on increased disclosures and enhanced transparency, national supervisors should consider the ability of the market to logically interpret the information.

In view of the less developed institutional and accounting infrastructure, many emerging market economies may not be able to implement all the proposed measures, as and when they take final shape and the new Framework finally replaces the 1988 Accord. Specifically, emerging markets would need certain transition period to implement the proposals in respect of consolidation of accounts and assigning capital on a consolidated basis, setting benchmarks and approving the rating methodologies of domestic rating agencies, improving the technical capabilities of supervisors and financial institutions, mapping of individual ratings of banks with the regulatory risk weight baskets, assigning of explicit capital charge for interest rate risk in the banking book and other risks e.g. operational risk, estimating economic capital and introducing more disclosures on risk-based capital ratios, etc. Basle Committee may consider these constraints and explicitly provide for sufficient transition time for emerging markets in the final Framework.

Public Can Exchange Soiled Notes with any Branch of any Public Sector Bank (April 28, 2000)

The Reserve Bank of India has advised that members of public can exchange soiled and mutilated notes with any branch of any public sector banks.

The Reserve Bank of India has stated that it has authorised all the branches of public sector banks, as also certain private sector banks maintaining currency chests to accept and exchange all types of soiled/mutilated notes which are payable under the Reserve Bank of India (Note Refund) Rules. The bank branches will pay the exchange value on the notes payable under the rules on the same day. They will retain the notes which are not payable. The Banks have been asked to extend this facility not only to their customers but also to non-customers.

The existing facilities for exchange of defective notes at the Reserve Bank of India offices would continue.

Conference of State Finance Secretaries (April 29, 2000)

Constitution of a working group of State Finance Secretaries to explore the scope for reducing the interest burden of states, including measures such as, debt prepayment and recourse to floating rate debt instruments was an important decision taken at the conference of the State Finance Secretaries held in the Reserve Bank of India today.

Yet another significant decision was constitution of a task force on similar lines to analyse and report on the extent of manouverability available in budget making at the State level as also, scope for increasing budget flexibility. The Reserve Bank of India providing technical and secretarial support to both the groups.

Other important matters on which consensus was arrived at were:

1. The Reserve Bank of India to further pursue with more State Governments tapping of the market through auction method for the State- level borrowing programme within the present option of 5 to 35 per cent and also the possibility of enhancing the limit for such access from the existing level of 35 per cent, to say, 50 per cent.
2. The Reserve Bank of India to make technical analysis of multi-dimensional aspects of fiscal deficit in relation to the State Domestic Product and the debt burden of the States.
3. Constitution of core respondents among the State Finance Secretaries to help the Advisory Group on Fiscal Transparency (Dr. Ahluwalia Group) finalise its views on the level of the existing and the desirable fiscal transparency at the states level.
4. State Finance Secretaries to study the Reserve Bank's technical approach paper on legislation relating to fiscal responsibility in the light of ongoing exercises on the subject in the Union Government and respond with suggestions.
5. As requested by the State Finance Secretaries, the Reserve Bank will make a study on the changing nature of contingent liabilities, weights to be attached, manner of administration of Guarantee Fund and circulate the report among State Governments for their guidance.
6. State Finance Secretaries also requested that the Reserve Bank to convene a meeting of State Finance Secretaries and the credit rating agencies in which the rating agencies would make a presentation of the methodology of rating State Government guaranteed bonds. The State Finance Secretaries suggested that the meeting should be held soon, in view of the proposed use of such ratings for prudential purposes. The Reserve Bank agreed to hold the meeting.

The Reserve Bank has been holding a conference of State Finance Secretaries from time to time to facilitate exchange of views. Officials of the Central Government and Planning Commission are also invited to the conference.

Actions taken in the past few years by several States including better management of their treasuries, legislative initiatives in imposing a ceiling on State Government guarantees, budget transparency, etc. are reflective of the usefulness of the interactions in these conferences.

Today's conference also discussed aspects and issues relating to the auction system for market borrowings by State Governments and State Government guarantees. The State Finance Secretaries were apprised of the status on enactment of the proposed Government Securities Act, progress of the work of the Committee on Voluntary Disclosure Norms and about constitution of Consolidated Sinking Fund.

Today's conference had also the benefit of interacting with Dr. Montek Singh Ahluwalia, Member, Planning Commission and Chairman of the Advisory Group on Fiscal Transparency set up by the Standing Committee on International Standards and Codes (Chairman: Dr. Y.V. Reddy).