A few banks assume systemic importance due to their size, cross-jurisdictional activities, complexity, lack of substitutability and interconnectedness. These banks are ‘Too Big To Fail (TBTF)’. Too Big To Fail means that if the banks fail due to any reason, there failure will cause significant disruption to the essential services provided by the banking system and in turn will have a significant impact on the economy of the country too. These banks are known as Systemically Important Banks (SIBs) as there continued functioning is very important to provide uninterrupted services of banking system to the economy.
There are two types of SIBs:
- Global Systemically Important Banks (G-SIBs): which are decided by Basel Committee on Banking Supervision (BCBS).
- Domestically Systemically Important Banks (D-SIBs): which are decided by country’s central bank. In India, RBI will determine a cut-off score beyond which banks will be considered as D-SIBs. Any bank (public, private, foreign, etc.) can be given this tag.
Emergence of the idea of SIBs:
In 2010, the Financial Stability Board (FSB) asked the Basel Committee on Banking Supervision (BCBS) to develop an assessment methodology comprising both quantitative and qualitative indicators to assess the systemic importance of Global Systemically Important Financial Institutions (SIFIs) among the member countries.
Then in November 2011, BCBS came out with the framework to identify Global Systemically Important Banks (G-SIBs).
The G20 leaders then asked the BCBS and FSB in November 2011 to extend the G-SIBs framework to Domestic Systemically Important Banks (D-SIBs).
Though each central bank is free to decide the parameters to identify their D-SIBs, the methodology to be adopted by RBI to identify D-SIBs is been derived from the methodology used by BCBS to identify G-SIBs.
To identify the D-SIBs by RBI, a two-step process is followed:
- Sample of banks: In this step the banks are asked to compute their systemic importance (not all banks are required to submit this data – the banks will be selected based on their size as a percentage of GDP). The banks having size as a percentage of GDP beyond, 2% will be selected in the sample of banks.
- Assessment methodology: Once the sample of banks is selected, to compute their systemic importance a detailed study will be initiated. The indicators to be used to assess domestic systemic importance of the banks are as follows:
i) Size: there is a greater chance that failure of a large bank can cause greater damage to the financial system of the economy.
ii) Interconnectedness: if the bank is interconnected (contractual obligations) with many other banks, then its failure can cause many other banks to fail.
iii) Lack of readily available substitutes or financial institution infrastructure: if the bank’s certain services (like payment systems) are such that these cannot be provided by other banks readily, then also the bank’s failure will cause a greater effect on economy.
iv) Complexity: The more complex a bank is, the greater are the costs and time needed to resolve it.
Next step is Allocation of banks into buckets:
Based on the data received from banks in the sample on the above indicators, systemic importance score will be calculated. Banks will be allocated to different buckets based on their systemic importance score.
Banks classified as D-SIBs will be subjected to additional Common Equity Tier 1 (CET1) capital requirement as under:
|Bucket||Additional CET 1 requirement (as a percentage of risk weighted assets)|
The names of the banks classified as D-SIBs will be disclosed in the month of August every year starting from 2015.
In August 2015, the D-SIBs computed were:
|Bucket||Banks||Additional Common Equity Tier 1 requirement as a percentage of Risk Weighted Assets (RWAs)|
|3||State Bank of India||0.6%|