RBI relaxes leverage ratio for banks commencing from October 1, 2019

The Reserve Bank Friday (June 28, 2019) relaxed the leverage ratio (LR) for banks from the quarter commencing October 1, 2019. The RBI communiqué said that the decision to relax the leverage ratio for banks is to help them boost their lending capacity. As per RBI notification the leverage ratio stands reduced to 4 per cent for Domestic Systemically Important Banks (SBI, ICICI Bank and HDFC Bank) and 3.5 per cent for other banks effective from the quarter commencing October 1, 2019.

The term ‘Leverage’ denotes to the amount of debt a bank/ organization uses to finance assets and the ‘leverage ratio’ is the proportion of debts that a bank has compared to its equity/capital. There are different leverage ratios such as Debt to Equity, Debt to Capital and Debt to Assets. In Indian context, a bank’s total exposure is defined as the sum of the following exposures: on-balance sheet exposures, derivative exposures, securities financing transaction exposures and off-balance sheet items.

The leverage ratio, as defined under Basel-III norms, is Tier-I capital as a percentage of the bank’s exposures. The Tier 1 leverage ratio is calculated by dividing Tier 1 capital by a bank’s average total consolidated assets and certain off-balance sheet exposures. A higher leverage ratio denotes that the bank has to accumulate more capital to finance its assets. The framework is designed to capture leverage associated with both on- and off-balance sheet exposures.

In terms of RBI notification both the capital measure and the exposure measure along with Leverage Ratio are to be disclosed on a quarter-end basis. RBI stipulates that banks must meet the minimum Leverage Ratio requirement at all times. Thus, Banks have been disclosing their Basel-III leverage ratio on a consolidated basis from 1 April 2015. As per BCBS recommendation both the capital measure and the exposure measure is to be calculated on a quarter-end basis. However, banks may, subject to supervisory approval, use more frequent calculations like daily or monthly average as long as they do so consistently.

Earlier in its June statement, RBI had said it has decided to harmonize Leverage Ratio in line with Basel III standards keeping in mind financial stability of financial firms in order to mitigate risk of excessive leverage. RBI in its Developmental and Regulatory Policies said that “In order to mitigate risks of excessive leverage, the Basel Committee on Banking Supervision (BCBS) designed the Basel III Leverage Ratio as a simple, transparent, and non-risk-based measure to supplement existing risk-based capital adequacy requirements”.

BCBS has since finalised that banks must meet a minimum 3 per cent LR requirement at all times (Basel III: Finalising post-crisis reforms, December 2017).  However, in terms of the framework on LR put in place by the Reserve Bank, banks have been hitherto monitored against an indicative LR of 4.5 per cent.  According to RBI communication these guidelines have served the purpose of disclosures and also as the basis for parallel run by banks. The final minimum LR requirement was to be stipulated taking into consideration the final rules prescribed by the Basel Committee by end 2017,  the communication  said.

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