How Banks are Rated in India?
The first step towards rating of banks in India was taken up in 1995, when the Reserve Bank of India established the S Padmanabhan Committee to take a fresh look at the banking Supervision.
S Padmanabhan Committee recommended that Banking supervision should focus on the parameters of the Financial Soundness, Managerial and Operational Efficiency and firmness. The Padmanabhan Committee recommended 5 points rating, which was based upon the CAMELS Model.
What is CAMELS Rating ?
CAMELS ratings is a Banks rating used in United States. The 6 alphabets in CAMELS denote the following:
- C : Capital Adequacy Ratio
- A: Asset Quality
- M: Management Effectiveness
- E: Earning (profitability)
- L : Liquidity (using the ALM Asset Liability Mismatch Considerations)
- S: Sensitivity to market risk
What is Padmanabhan Committee Rating?
The Padmanabhan Committee recommended the following ratings:
Fundamentally sound in every aspect
Fundamentally sound but with moderate weakness
Financial, Operational and / or compliance weakness and raises supervisory concerns.
Serious or moderate Financial , operational and / or managerial weaknesses that could impair the future viability.
Critical Financial Weakness that has the possibility of failure
Internal rating: Latest Developments:
In May 2010, the RBI has told the banks that they should be ready with a new methodology of internal rating of Capital Requirement. This is called Advanced Internal Rating Based (AIRB) approach. As of now the banks had been following the standardized approach, wherein banks assign risk to the asset based on the rating given by external rating agencies. This makes the banks a step closer to becoming Basel II compliant institution.
- Since the minimum CAR required is 9%, it is low for the borrowers with best rating and higher for lower rating. RBI now wants banks to develop their own methodology to rate borrowers rather than rely on external agencies.