Risk management by indian banks

jeopardize management by indian banksCase analysis Risk management by Indian banks The banking and financial crises in recent years in emerging economies cast demonstrated that, when things go wrong with the financial system, they net result in a severe economic downturn. From this perspective, financial sector reforms are essential in order to avoid such costs. These reforms have become the tools for banks to manage risk. Some of the tools are1) Interest roll ScenarioThe first important issue that I would like to highlight relates to interest rates. Interest rates meditate strongly to inflation rates, there has been a distinct downward drift in the inflation rate during the second half of the 1990s, which is now at more(prenominal) or less half the level as compared with the first half of the 1990s. Both the popular measures of inflation the Wholesale Price Index (WPI) and the Consumer Price Index (CPI) have shown a definite fall in the recent period. This is clearly refle cted in the downward trend in nominal interest rates.The banks have also reduced their stick to rates. But the lending rates of banks have not come down as much. While banks have reduced their prime lending rates (PLRs) to somewhat extent and are also extending sub-PLR loans and effective lending rates continue to remain high (Table 1 and Chart 1). 2) Lending to Small and Medium EnterprisesBanks have now understood the problems with lending large organizations. The large organization not only reduces the interest rates by bargaining but also makes disregard payments by which banks are under tremendous risk, and hence banks are now making a move to provide more loans to small and medium enterprises.3) revivification of Long-Term FinancingThe development finance institutions (DFIs) were set up in the 1950s to provide medium and long-term finance to the private sector. Many of these institutions were sponsored by the Government. DFIs were expected to resolve long-term credit shorta ges and to acquire and disseminate skills necessary to assess projects and banks credi iirthiness. The current trend is of DFIs converting themselves into banks. In this context, the future of long-term lending acquires striking importance.4) Non-Performing Assets As of March 31, 2002, the gross NPAs of scheduled commercial banks stood at Rs.71,000 crore, of which the NPAs of public sector banks constituted Rs.57,000 crore. The absolute amount of NPAs continues to be a major dog on the performance of banks. Banks uses the process of securitisation of assets to remove NPAs from the balance sheets. 5) Investing in government securitiesIn the current interest rate environment, banks are finding it more profitable to invest in government securities. In 2001-02, trading profits of public sector banks more than doubled to Rs.5,999 crore from Rs.2,250 crore in 2000-01. The net profits of these banks during these two years were Rs.4,317 crore and Rs.8,301 crore respectively and this inclu des an additional Rs.1,365 crore and Rs.1,547 crore from forex operations. The Reserve Bank has been encouraging banks to be proactive in risk management and banks have been directed to maintain a certain level of Investment Fluctuation Reserve (IFR). TABLE 1 REAL INTEREST RATESYearWeightedWeighted cleanAverageInflation RateReal Interest RateEndedAverageAverageCost ofCost ofWPIManufact-CPI-IWBorrowersCentralDepositorsMarchLendingInterest RateAggregateTimeuring PriceGovernmentRate ofof CentralDepositsDepositsSCBsGovernmentof SCBsof SCBsSecurities123456789=(2-7)10=(3-6)11=(5-8)1990-9115.011.48.110.610.38.44.66.61.16.01991-9216.511.87.19.113.711.313.55.2-1.9-4.41992-9316.812.57.79.610.110.99.65.92.40.01993-9416.512.66.98.78.47.87.58.74.21.21994-9516.111.96.47.012.512.210.13.9-0.6-3.11995-9617.113.86.98.58.18.610.28.55.7-1.71996-9716.913.77.69.44.62.19.414.89.10.01997-9816.312.07.38.84.42.96.813.47.62.01998-9915.511.97.48.95.94.413.111.16.0-4.21999-0015.011.87.18.63.32.73.412.38.55.220 00-0114.311.06.88.17.23.33.811.03.84.32001-0213.99.47.0*8.3*3.61.84.312.15.84.0Average1990-91to 1995-9616.312.37.28.910.59.910.46.51.8-0.31996-97to 2001-0215.311.67.28.74.82.96.812.56.81.9Table 2 Comparative Position of International Real Interest RatesCountry /Money long-termPrime RateInflation RateGDP GrowthPeriod AverageMarket RateG-sec YieldUnited States1991 to 19961.503.714.403.092.581997 to 20012.733.205.732.463.37United Kingdom1991 to 19964.055.304.253.251.921997 to 20013.402.773.462.572.76Germany1991 to 19963.634.099.042.853.201997 to 20011.993.177.751.571.75 lacquer1991 to 19962.002.783.571.161.741997 to 20010.091.402.070.130.69Korea1991 to 19967.507.213.165.997.351997 to 20014.795.856.743.824.31Thailand1991 to 19963.715.787.744.978.171997 to 20013.224.656.983.44-0.20China1991 to 1996N.A.N.A.-2.0912.3211.611997 to 2001N.A.N.A.6.280.237.93India1991 to 19963.43N.A.6.5710.525.411997 to 20013.405.877.625.086.14Hungary1991 to 1996N.A.N.A.5.1125.04-1.631997 to 2001N.A.N.A.4.1312 .294.52