RBI includes HDFC Bank in the ‘too big to fail’ list

• Private sector lender HDFC Bank Ltd has been declared a domestic-systemically important bank (D-SIB). 
• With this, the bank has joined State Bank of India (SBI) and ICICI Bank Ltd, which have been tagged as D-SIBs or “too-big-to-fail for the third consecutive year.
• Such classification means the collapse of these lenders could have a cascading impact on the entire financial system and the economy. Considering their status, D-SIBs are mandated to maintain a progressively higher share of risk-weighted assets as tier-I equity, which is a measure of the bank’s core capital.
• In case of HDFC Bank, the additional capital surcharge will be applicable from 1 April 2018.

Systematically Important Banks (D- SIBs):

• SIBs are perceived as certain big banks in country. Since country’s economy is dependent upon these banks, they are perceived as ‘Too Big To Fail'.
• There are two types of SIBs: Global SIBs, identified by BASEL committee on banking supervision and Domestic SIBs; identified by central Bank of country.
• RBI had started listing D-SIBs from August 2015 after it had issued Framework for dealing with D-SIBs in July 2014. D-SIB Framework requires RBI to disclose names of banks designated as D-SIBs every year in August starting from August 2015.
• The framework also requires that D-SIBs may be placed in four buckets depending upon their Systemic Importance Scores (SISs). Based on bucket in which D-SIB is placed, an additional common equity requirement has to be applied to these listed banks, as mentioned in Framework.
• In case foreign bank having branch presence in India is Global-SIB, it has to maintain additional CET1 capital surcharge in India as applicable to it as a G-SIB, proportionate to its Risk Weighted Assets (RWAs) in India under the D-SIB Framework.

Analysis:

• Following the global financial crisis of 2008, it was observed that problems faced by certain large and highly interconnected financial institutions hampered orderly functioning of financial system, which in turn, negatively impacted real economy.
• As some of the banks are perceived as TBTF, they can lead to reckless practices on their part like increased risk-taking, reduction in its market discipline, creation of competitive distortions etc. because of expectation of government support them at time of distress.
• All this can increase probability of distress in future. Therefore, it is required recognition of these banks as SIBs and subjected to additional policy measures to deal with systemic risks and moral hazard issues posed by them. They are forced to have additional capital against financial emergency, so that taxpayer money not wasted in rescuing them during crisis.
   

By: Vishal