NOTESOctober 27, 2007 Economic & Political Weekly66India’s Capital Adequacy Regime Mandira Sarma, Yuko NikaidoThis note presents an analytical review of the Basel I capital adequacy regime and the current level of the capital to risk-weighted asset ratio (CRAR) ofIndia’s banking sector. Under Basel I, the banking system is performing reasonably well, with an averageCRAR of about 12 per cent, that is higher than the internationally accepted 8 per cent. A discussion from the Indian perspective of several issues relating to the Basel II norms thatare to be introduced in March 2008.In its report submitted to the govern-ment of India (GoI) in December 1991, the Narasimhan Committee on Finan-cial System suggested among several measures the adoption of prudential regu-lations relating to capital adequacy, in-come recognition, asset classification and provisioning standards. In this note we focus on one particular prudential regulation, i e, the capital ade-quacy requirement in the banking sector. Capital adequacy is an indicator of the financial health of the banking system. It is measured by the capital to risk-weighted asset ratio (CRAR),1 defined as the ratio of a bank’s capital to its total risk-weighted assets. Financial regulators generally impose a capital adequacy norm on their banking and financial systems in order to provide for a buffer to absorb unforeseen losses due to risky investments. A well adhered to capital adequacy regime plays an important role in minimising the cascading effects of banking and financial sector crises.The Narasimhan Committee endorsed the internationally accepted norms for capital adequacy standards, developed by the Basel Committee on Banking Supervi-sion (BCBS).2 TheBCBS initiated BaselI norms in 1988, considered to be the first move towards risk-weighted capital ade-quacy norms. It recommended that a bank’s regulatory capital be at least 8 per cent of its risk-weighted assets, where assets were risk-weighted according to their credit risk. In order to calculate the CRAR, the bank’s assets would be weighted by five categories of credit risk – 0, 10, 20, 50 and 100 per cent, depending on the risk of the asset. In 1996, through an amendment to Basel I, market risk was introduced in the weighing scheme in addition to credit risk [BCBS 1996]. In July 1999, the BCBS initiated the process of replacing the current framework with a revised version, the Basel II. After several rounds of discussions, consultations and deliberations within global financial and banking institutions, Basel II has evolved as a revised and comprehensive framework for prudential regulation.Three PillarsBasel II stands on three pillars: pillar I deals with the minimum regulatory capital requirement; pillar II provides key principles for supervisory review; and pil-larIII encourages market discipline by de-veloping a set of disclosure norms. Under pillar I, the CRAR is calculated by taking into account three types of risks: credit risk, market risk and operational risk. Asfar as credit risk is concerned, Basel II guidelines emphasise linking the risk-weight of an asset to its credit rating. The treatment of market risk is kept un-changed inthe calculation of risk-weighted asset from the 1996 amendment. Further, a new kind of risk, viz, “operational risk” has been introduced and three ap-proaches have been suggested to account for operational risk while calculating risk-weighted assets.3In 2007, more than 100 countries are fol-lowing Basel I norms.4 Further, a survey by the Financial Stability Institute of Bank for International Settlement (BIS) in 2006 revealed that 95 countries intended to adopt Basel II by 2015 in some form or the other. Out of these countries, 13 BCBS member countries have initiated the Basel II imple-mentation process in 2007. In this note we present an analytical re-view of the current capital adequacy norms in India’s banking system vis-à-vis the Basel framework. We also attempt to examine issues and challenges with re-gard to the implementation of the CRAR norms under the Basel II regime in India. We try to identify limitations, gaps and in-adequacies in the Indian banking system, which may hamper the realisation of the potential benefits of the new regime. In India, at present, there is a “three track” approach for Basel compliance – commercial banks are Basel I compliant with respect to credit and market risks; urban cooperative banks maintain capital for credit risk as per Basel I and market risk through surrogate charges; and rural banks have capital adequacy norms that are not on par with the Basel norms. The

NOTESEconomic & Political Weekly October27, 200767Table 1: Distribution of Indian Banks by CRAR (1996-2006) (In numbers) Level < 4 % 4 % MRR MRR 10 % >10 % < 4 % 4 % MRR MRR 10 % >10 %Year NationalisedBanks$ SBIgroup1996-97 2 -6 11 --3 51997-98 1 -6 12 --1 71998-99 1 -4 14 ---81999-2000 1 -4 14 ---82000-01 1* 1 2 15 ---82001-02 1 1 2 15 ---82002-03 --1 18 ---82003-04 --1 18 ---82004-05 --2 18 ---82005-06 ---20 ---8Year Indian Private Banks (old and new) Foreign Banks1996-97 3 1 8 22 --14 241997-98 2 2 8 22 --12 301998-99 2 2 5 25 1 -14291999-2000 2 2 3 25 --5 372000-01 2* 1 5 23 --4 382001-02 1* 1 3 25 1* -2 372002-03 2 -3 25 ---362003-04 1 1 -28 ---332004-05 1 1 5 22 --1 302005-06 2 -2 23 --2 27(1) MRR is Minimum Regulatory Requirement (8 % till 1998-99, 9 %thereafter). (2)$ Nationalised banks include IDBI bank from 2004-05. (3) -indicates nil, * indicates negative. (4) Source: RBI, Reports on Trend and Progress of Banking in India, various issues.three track approach is justified by the necessity to maintain a varying degree of stringency across different types of banks in India reflecting different levels of oper-ational complexity and risk appetite. The approach is also justified in order to ensure greater financial inclusion and for an efficient credit delivery mechanism [Leeladhar 2006, Reddy 2006]. India adopted Basel I norms for scheduled commercial banks in April 1992, and its implementation was spread over the next three years. It was stipulated that foreign banks operating in India should achieve a CRAR of 8 per cent by March 1993 while Indian banks with branches abroad should achieve the norm by March 1995. All other banks were to achieve a CRAR of 4 per cent by March 1993 and 8 per cent by March 1996.5 In its mid-term review of monetary and credit policy in October 1998, the Reserve Bank of India(RBI) raised the minimum regulatory CRAR requirement to 9 per cent, and banks were advised to achieve this 9 per cent level by March 31, 2000.6 Thus, the capital adequacy norm for India’s com-mercial banks is higher than the inter-nationally accepted level of 8 per cent.7 India responded to the market risk amendment of Basel I in 1996 by initially prescribing various surrogate capital charges such as investment fluctuation re-serves of 5 per cent of the bank’s portfolio and 2.5 per cent risk-weight on the entire portfolio for these risks between 2000 and 2002. These were later replaced with value-at-risk(VaR) based capital chargesas required by the market risk amendments, which became effective from March 2005. India has gone a step aheadof Basel I in that banks are required to maintain capi-tal charges for market risk on their “avail-able for sale” portfolios as well as on their “held for trading portfolios” from March 2006 while Basel I requires market risk charges for trading portfolios only. TheRBI has announced the implement-ation of Basel II norms for internationally active banks from March 2008 and for do-mestic commercial banks from March 2009. Before we go into details of several issues facing the Indian banking industry in the wake of Basel II, we briefly describe the current state of affairs with respect to capital adequacy. Present State of Capital Standards: Scheduled commercial banks in India are broadly categorised into the following groups: nationalised banks, State Bank of India (SBI) group, Indian private banks (further categorised as old and new pri-vate banks) and foreign banks. At the end of March 2006, there were altogether 84 banks operating in India, consisting of 20 nationalised banks (including IDBI, also referred to as “the other public sector bank”), eight in the SBI group, 19 old pri-vate banks, eight new private banks and 29 foreign banks. The share of public sec-tor banks in the total banking assets in March 2006 stood at 72.3 per cent.8 Old and new private banks together accounted for about 20 per cent, while foreign banks accounted for 7.2 per cent of the total banking assets.Table 1 provides the yearly frequency distribution of different bank groups by theirCRAR levels for the period 1996-2006. As shown in the table, by the end of March 1997, all but two nationalised banks and four private banks were short of meet-ing the capital adequacy norm. The SBI group and foreign banks had achieved the minimum regulatory norm by March 1997. Although a few banks had a negative CRAR during 2000-02, all banks achieved the minimum regulatory level by 2006. Further, a majority of the banks in all groups had achieved a CRAR level of more than 10 per cent by March 2006,indicating good financial health of the banking industry, in terms of capital adequacy norms.The average CRAR level for banking groups over the period 1999-2006 is pre-sented in Table 2. As shown by this table, the average CRAR level for the overall banking industry has consistently stood between 11 and 12 per cent during the pe-riod, which is much higher than the cur-rent minimum regulatory requirement of 9 per cent in India and the international minimumrequirement of 8 per cent. As seen from Table 2, the overall CRAR for the industry has marginally declined since 2005. Between 2004 and 2005, the overall CRAR declined by 0.1 percentage point and between 2005 and 2006, this decline was by 0.5 percentage points. All bank groups ex-cept for the new private banks recorded a decline in their average CRAR levels during this period. The RBI attributed the decline in 2005 to the increase in total risk-weighted assets relative to the capital, for the first time since 2000 [RBI 2005b]. This, according to the RBI, was due to a higher growth in banks’ loan portfolios and higher risk-weights made applicable for housing loans, the most rapidly increasing compo-nent of retail loans for banks. The overall decline in theCRAR level in 2006 was at-tributed to three factors: (i) higher growth in loan portfolio of banks as compared to in-vestment in government securities; (ii) in-crease in risk-weights for personal loans, real estate and capital market exposure; and

NOTESOctober 27, 2007 Economic & Political Weekly68Table 2: Average CRAR Level of Indian Banking Groups (in %)Year (end Nationalised SBI Other Public Old Pvt New Pvt Foreign All March) BanksGroupSectorBanksBanksBanksBanksBanks1999 10.6 12.3 na 12.1 11.8 10.8 11.3 2000 10.1 11.6 na 12.4 13.4 11.9 11.1 2001 10.2 12.7 na 11.9 11.5 12.6 11.4 2002 10.9 13.3 na 12.5 12.3 12.9 12.0 2003 12.2 13.4 na 12.8 11.3 15.2 12.7 2004 13.1 13.4 na 13.7 10.2 15.0 12.9 2005 13.2 12.4 15.5 12.5 12.1 14.0 12.8 2006 12.4 11.9 14.8 11.7 12.6 13.0 12.3na implies not available. Source: RBI,Report on Trend and Progress of Banking in India, 2005-06.Table 3: CRAR Level in Select Countries (in %)Country 2005 2006Bangladesh 7.3 Brazil 18.1 China < 8 Hong Kong 14.9 15.2 India 12.8 12.3 Indonesia 19.5 Japan 8.9 Korea 13 13.1 Malaysia 13.6 12.8 Singapore 15.8 15.4 South Africa 13.3 Sri Lanka 10.8 11.5 Taiwan 10.3 10.3 Thailand 14.2 14.7 US 10.3Source: Central bank web sites of the above listed countries.(iii) application of VaR-based capital charg-es for market risk for investment held under “held for trade” and “available for sale” portfolios [RBI 2006].9 Notwithstanding the overall decline in theCRAR level recorded successively over the last two years, it remains at a satisfactory 12.3 per cent at the end of March 2006. Table 3 provides a comparative picture of the capital adequacy ratios of different coun-tries. As shown by this table, the CRAR of the Indian banking system compares well with many emerging countries such as Korea, Malaysia and South Africa. Countries such as Brazil, Indonesia,Hong Kong, Singapore and Thailand have higherCRAR levels than India in 2005 while Japan, Taiwan, the US, Bangladesh and Sri Lanka have lower CRAR levels than India. In 2005, China had a CRAR level of less than 8 per cent. According to the Chinese government, 74 per cent of China’s total banking assets could meet the 8 per cent level in 2006, compared with 0.56 per cent in 2003 when only eight banks com-plied.10 Thus, when compared with China, India has a much better position with respect to capital adequacy. Implementation of Basel IITheRBI announced in May 2004 that banks should examine the options available under Basel II for the revised capital adequacy framework. In February 2005, the RBI issued the first draft guidelines on Basel II imple-mentations in which an initial target date for II compliance was set for March 2007 for scheduled commercial banks, exclud-ing local area banks and regional rural banks. This deadline was, however, post-poned to March 2008 for internationally active banks and March 2009 for domestic commercial banks inRBI’s mid-year policy announcement of October 30, 2006. Al-though theRBI and commercial banks have been preparing for the revised capital adequacy framework since the RBI’s first intimidation on BaselII compliance, the complexity and intense data requirement of Basel II have brought about several challenges in its implementation. Given the limited preparation of the banking system for Basel II implementation, this postponement is not surprising. The finalRBI guidelines on Basel II imple-mentation were released on April 27, 2007.11 According to these guidelines, banks will initially adopt the standardised approach (SA) for credit risk and basic indicator ap-proach(BIA) for operational risk. The RBI has provided the specifics of these approach-es in its guidelines. After adequate skills are developed, both by banks and the RBI, some banks may be allowed to migrate towards more sophisticated internal ratings based approaches. Under the revised regime of Basel II, Indian banks will be required to maintain a minimumCRAR of 9 per cent on an ongoing basis. Further, banks are encour-aged to achieve a tier I CRAR of at least 6 per cent by March 2010. Tables A1 and A2 in the Appendix present the RBI’s scheme of risk-weights for different categories of assets to be consi-dered for credit risk under the SA of Basel II. For claims in Indian rupees, theRBI’s guidelines provide risk-weights for direct and guarantee exposures of the central and state governments, exposures to apex bodies such as the RBI, Deposit Insurance and Credit Guarantee Corporation, Credit Guarantee Fund Trust for Small Industries, and Export Credit Guarantee Corporation, exposures to scheduled commercial and other banks, and exposures to corporate bodies with various credit ratings. Apart from these,RBI guidelines also deal with claims in retail portfolios, claims secured by residential property and claims secured by commercial real estate. TheRBI has also set extensive guidelines on how to deal with non-performing assets (NPAs) in cal-culating risk-weighted assets. As far as claims on foreign currency are concerned, theRBI has retained the indicative guide-lines of the Basel Committee, and provided risk-weights in accordance with the credit ratings of external credit rating agencies (see Table A2 in the Appendix).Some Issues, Some Challenges: Scholars have drawn attention to certain short-comings of the Basel II guidelines. In particular, many have pointed out that linking credit ratings to regulatory capital standards may have severemacroeconomic implications. As the sovereign ratings of developing and emerging countries are not as high as the high income countries, this could have an unfavourable effect on the credit flows to these economies. Griffith-Jones et al (2002) has pointed out that Basel II may significantly overestimate the risk of international lending to developing economies. Further, credit ratings are found to be pro-cyclical [Ferri et al 1999, Monfort and Mulder 2000]. Credit rating agencies upgrade sovereigns in times of sound market conditions and downgrade in turbulent times. In times of crisis, when the need for credit may be imperative, credit flow may diminish due to down-grading of the sovereign (and therefore the bank and corporate) ratings by exter-nal rating agencies, leading to a banking crisis in addition to the currency/balance of payments crisis, what Kaminsky and Reinhart (1999) call “twin crises”. Thus, incorporation of external credit ratings into regulatory capital requirementmay lead to serious macroeconomic instability.RBI Risk-Weighting Scheme: A look at theRBI’s scheme of risk-weighting reveals certain shortcomings. First, the RBI’s

NOTESEconomic & Political Weekly October27, 200769scheme provides much less risk weights to exposures to scheduled commercial banks than exposures to other banks/financial institutions. To be more precise, exposure to scheduled commercial banks with at least the regulatory level of CRAR will attract a risk-weight of 20 per cent while exposure to non-scheduled banks/financial institutions with same level of CRAR will attract 100 per cent risk-weight. This appears discriminatory not only against non-scheduled banks of sound financial health but also against cooperative banks andmicrofinance institutions that cater to a large number of urban and rural poor in India. Second, theRBI’s scheme encourages borrowers to remain unrated rather than rated below a certain level (see Tables A1 and A2 in Appendix). A rating of B-and below will have a higher risk-weight of 150 per cent, while an unrated entity will have a risk-weight of 100 per cent. If borrowers consequently choose to remain unrated, then theywould receive a risk-weight of 100 per cent under BaselII which is same as under Basel I, leading to no significant improvement in the risk-weighted asset calculation. Issues on Credit Rating Industry: As the SA methodology of credit risk is depend-ent on linking risk weights to the credit ratings of an external rating agency, credit ratings are being institutionalised into the regulatory framework of banking supervi-sion. This raises four important issues, viz, the quality of credit rating, level of pene-tration of credit rating, lack of issuer rat-ings and last but not the least, effect of the credit rating scheme on small-medium en-terprise(SME) lending. In this section we elaborate each of them.The credit rating industry in India pres-ently consists of four agencies:CRISIL, ICRA, CARE and Fitch India.12 These agencies provide credit ratings for different types of debt instruments of various cor-porations. Very recently, they have also commenced credit rating for small and medium enterprises (SMEs). Apart from that, ICRA andCARE also provide credit ratings for issuers of debt instruments,in-cluding private companies, municipal bodies and state governments.Basel guidelines entrust national bank-ing supervisors with the responsibility to identify credit rating agencies for assessing borrowers.RBI has recognised all four credit rating agencies as eligible for the purposes of risk-weighting banks’ claims in Indian rupees. Fitch, Moody’s and Standard & Poor’s are recognised for risk-weighting claims on foreign entities [RBI 2007]. Further, the RBI has recom-mended the use of only “solicited” ratings. While the literature on India’s credit rating industry is scanty, the few studies available point to the low and unsatisfac-tory quality of credit rating. For example, analysingICRA ratings for the period 1995-2002, Gill (2005) found that many of the debt issues that defaulted during the period were placed inICRA’s “investment grade” until just before being suddenly dropped to the “default grade”. Further some defaulting issues were continuously reaffirmed as investment grade. In earlier studies, Raghunathan and Varma (1992; 1993) evaluated the ratings published by CRISIL and found that not only do CRISIL ratings not adequately reflect the financial ratios of the rated entity but also are inter-nally inconsistent. The literature on credit rating identifies a lack of “unsolicited” ratings as an impor-tant factor leading to poor quality of credit rating [Hill 2004]. In India all ratings are “solicited”, i e, all ratings are paid for by the rated entity. This creates a conflict of interest on the part of the rating agency since it is dependent on the fees of the rated entity for its business. Under the present system, issuers of bond/debt in-struments may go to any number of agen-cies for a rating of their instruments and have the right to accept or reject the rating. Further, the rating cannot be published unless accepted by the issuer. Credit Rating AgenciesThus, while the RBI has recognised all four credit rating agencies as eligible for the purpose of capital adequacy norms, one is faced with the lack of objective assessment of the quality of these agencies. The few available studies indicate a poor track record of credit rating quality. In addition to this, theRBI’s recommendation for the use of only solicited ratings causes some con-cern, owing to the problem of moral hazard.The second important issue in India’s credit rating industry is the low penetration of credit rating. A study in 1999 revealed that out of 9,640 borrowers enjoying fund based working capital facilities from banks, only 300 were rated by major agencies [Leeladhar 2006]. As far as individual in-vestors are concerned, the level of con-fidence on credit rating is very low. In an all-India survey of investor preference in 1997, it was found that about 41.29 per cent of the respondents (out of a total number of 2,819 respondents) of all in-come classes were not aware of any credit rating agency; of those who were aware, about 66 per cent had no or low confidence in the ratings given by credit rating agen-cies [Gupta et al 2001]. The legitimacy brought about by Basel II for credit ratings of borrowers will definitely increase the penetration of the industry. However, until such time, most loans will be given 100 per cent risk-weight (since an unrated claim gets 100 per cent weightage), thus leading to no significant improvement of Basel II over Basel I. Presently credit rating in India is res-tricted to “issues” (the instruments) rather than to “issuers”. Ratings to issuers be-come important as the loans by corporate bodies and SMEs are to be weighted asper their ratings. Of late, agencies likeICRA andCARE have launched issuer ratings for corporations, municipal and state govern-ment bodies. Further, all agencies, with direct support from the GoI, have launched SME rating. Until such efforts pick up rap-idly, issuers will be assigneda 100 per cent weight, leading to no improvement in the risk-sensitive calculation of loans. Thus, on this account too, the implementation of Basel II would not lead to significant im-provement over Basel I. Besides agriculture and other socialsec-tors, the RBI treats the small-scale industry (SSI) as a priority sector for lending.13The SSI accounts for nearly 95 per cent of industrial units, 40 per cent of the total in-dustrial production, 35 per cent of the to-tal export and 7 per cent of GDP of India. In spite of its importance in the Indian economy, the SSI receives only about 10 per cent of net bank credit (Table A3 in Appendix). TheSSI sector is, so far, out of the reach of the credit rating industry. Under the proposed Basel II norms, banks will be discouraged to lend to anySSI that is not rated because a loan to an unrated

NOTESEconomic & Political Weekly October27, 200771about positive spill-over effects to the credit rating, IT, BPO industries.[We thank Jesim Pais, Amitendu Palit and Abhijit Sen Gupta for their critical comments and valuable suggestions. All errors are ours.]Email: mandira@icrier.res.in Notes 1 The CRAR is also called the capital adequacy ratio (CAR). 2 The BCBS was established in 1974 by the central bank governors of the 10 countries. In 2007, BCBS has the 13 member countries – Belgium, Canada, France, Ger-many, Italy, Japan, Luxembourg, Netherlands, Spain, Sweden, Switzerland, United Kingdom and United States. The committee provides a forum for coopera-tion between its member countries on issues relating to banking supervision. However, its recommenda-tions do not have legal force. 3 For details on these approaches and other pillars of Basel II, see BCBS (2006). 4 The Basel norms are voluntary and legally non-bind-ing on all countries, including the member countries of the BCBS. However, studies have identified that the simplicity of the Basel I norms and IMF’s financial sector assessment programme that emphasise compli-ance of BaselI norms could be two important factors that have led to more than 100 countries adopting the norms [Bailey 2005, Reddy 2006]. 5 In the first stage of the application of capital adequacy norms, the GoI contributed Rs 5,700 crore as equity to recapitalise nationalised banks during 1993-94 in order to enable all nationalised banks to meet the initial CRAR requirement of 4 per cent by the stipu-lated time. 6 This was done following the recommendation of the Narasimhan Committee on Banking Sector Reforms, also known as Narasimhan II, which submitted its report in April 1998. 7 Many other countries have also prescribed a higher capital adequacy norm. For example, the capital adequacy norm is 9 per cent in Bangladesh, 10 per cent in South Africa and Sri Lanka, 11 per cent in Bra-zil, 12 per cent in Singapore. In China the minimum requirement is 8 per cent. 8 This share was at 75.3 per cent at end-March 2005. 9 Although the overall CRAR declined, the core capital of the banks during the period increased from 8.1 per cent in 2004 to 9.3 per cent in2006 due to increased access by banks to primary capital market and also due to transfer ofIFR from tier II to tier I capital [RBI 2005b; 2006]. 10 The Chinese government’s official website: http://www.gov.cn/english/2006-11/24/content_45314.htm.11 Note that the final guidelines from theRBI were issued in April 2007, beyond the initial target date of March 2007, giving some indication of the amount of extra preparation that was required, even for the RBI.12 CRISIL, a subsidiary of S&P, was incorporated in 1987 and accounted for about 60 per cent of the total market share in 2006. ICRA, an associate of Moody’s, was established in 1991 and CARE was established in 1993. Fitch Ratings India Private Limited, former-ly known as Duff & Phelps Credit Rating India Private Ltd prior to 2001, is a wholly owned subsidiary of the Fitch group that started operating in India since 1996. 13 The directed credit for scheduled commercial banks was introduced in 1974 and currently banks are asked to allocate 40 per cent of their credit to the prior-ity sector including SSI. Industrial classifications of India are formally divided into large/medium indus-try and small industry. Due to this structure, the term “SMEs” is not formally defined in India. For more details regarding SSI, see Nikaido (2004).14 See http://www.smallindustryindia.com/ssiindia/census/ch8.htm. Note that the ministry of small-scale industries was renamed ministry of micro, small and medium enterprises as per the micro, small and medium enterprises (MSME) development Act, 2006. 15 Business Lines, April 19, 2007.16 Basel II Framework and India: Compliance vs Opportu-nity, IBS-IBA Special Report 2004.ReferencesBailey, R (2005): ‘Basel II and Development Countries: Understanding the Implications’, London School of Economics Working Paper No 05-71.BCBS (1988):International Convergence of Capital Meas-urement and Capital Standards, BIS.– (1996): Amendment to the Capital Accord to Incorporate Market Risks, BIS.– (2006):International Convergence of Capital Measure-ment and Capital Standards: A Revised Framework, BIS.Ferri, G, L Liu and J E Stiglitz (1999): ‘The Procyclical Role of Rating Agencies: Evidence from the East Asian Countries’,Economic Notes, 28 (3), 335-55.Financial Stability Institute (2006): ‘Implementation of the New Capital Adequacy Framework in Non-Basel Com-mittee Member Countries: Summary of Responses to the 2006 Follow-up Questionnaire on Basel II Imple-mentation’,Occasional Paper6.Gill, S (2005): ‘An Analysis of Defaults of Long-term Rated Debts’,Vikalpa, 30 (1): 35-50.Griffith-Jones, S, M Sefoviano and S Spratt (2002): ‘Basel II and Developing Countries: Diversification and Port-folio Effects’, Working Paper of Institute of Develop-ment Studies, University of Sussex. Gupta, L C, C P Gupta and N Jain (2001): Indian House-holds’ Investment Preferences: The Third All-India Survey, Society for Capital Market Research and Development, New Delhi.Hill, C (2004): ‘Regulating the Rating Agencies’,Washing-ton University Law Quarterly,82 (43): 43-95.Kaminsky, G L and C M Reinhart (1999): ‘The Twin Crises: The Causes of Banking and Balance-of-Payments Pro-blems’,American Economic Review, 89 (3): 473-500.Leeladhar, V (2006): ‘Demystifying Basel II’,Reserve Bank of India Bulletin, October 2006: 1153-57.Monfort, B and C Mulder (2000): ‘The Impact of Using Sovereign Ratings by Credit Rating Agencies on the Capital Requirements for Banks: A Study of Emerging Market Economies’, IMF Working Paper, WP/00/69.Nikaido, Y (2004): ‘Technical Efficiency of Small-Scale In-dustry-Application of Stochastic Production Frontier Model’,Economic and Political Weekly, 39 (6): 592-97.Raghunathan, V and J R Varma (1992): ‘CRISIL Rating: When Does AAA Means B?’,Vikalpa 17 (2): 35-42– (1993): ‘When AAA Means B: The State of Credit Rating in India’, IIM Ahmedabad Working Paper.Reddy, Y V (2006): ‘Challenges and Implications of Basel II for Asia’,BIS Review,37/2006. RBI (2005b):Annual Report 2004-05, RBI, Mumbai. – (2006):Annual Report 2005-06, RBI, Mumbai.– (2007): ‘Guidelines for Implementation of the New Capi-tal Adequacy Framework’, RBI CircularDBOD No BP BC 90/20.06.001/ 2006-07.Table A3: Priority Sector Lending by Scheduled Commercial Banks(% of net bank credit)SCB Target199519961997199819992000200120022003200420052006*Public Sector Banks Priority Sector 36.6 37.8 41.7 41.8 39.2 40.2 43.7 43.1 41.2 43.6 42.8 40.3 SSI 15.3 16.0 16.6 17.5 16.1 14.6 14.2 12.5 10.8 10.4 9.5 8.1Private Sector Banks Priority Sector na 34.0 41.2 40.9 38.0 38.2 40.9 40.9 44.4 47.3 43.6 42.8 SSI na 18.8 22.2 20.6 16.5 14.4 13.7 13.7 8.2 7.3 5.4 4.2* Provisional. Source: RBI,Report onTrend and Progress of Banking in India, various issues.Table A2: RBI’SRisk Weights for Standardised Approach of Basel II: Claims on Foreign Entities (in %) Credit Rate Risk WeightS&P/Fitch Moody’s Sovereign Corporatesand PSESBanksAAA toAA-AAA toAA 0 20 20A+ toA_ A 205050BBB+ toBBB-BAA 5010050BB+ toB-BB toB 100 100BelowB-Below B 150 150 150Unrated Unrated100 100 100Claims onBIS, IMF, World Bank, IMF, ADB, etc 20Source:RBI (2007).Appendix Table A1:RBI’s Risk Weights for the Standardised Approachof Basel II: Claims on Indian Entities (in %)Category RiskWeightsSovereigns Central govt (direct and guarantee) 0 State govt (direct exposure) 0 State govt (guarantee exposure) 20 Reserve Bank of India 0 Deposit Insurance and Credit Guarantee Corporation 0 Credit Guarantee Fund Trust for Small Industries 0 Export Credit Guarantee Corporation 20Scheduled Commercial Banks with CRAR (per cent) level >= 9 20 6 to < 9 50 3 to <6 100 0 to < 3 150 Negative 625Other Banks withCRAR (per cent) level >= 9 100 6 to < 9 150 3 to <6 250 0 to < 3 350 Negative 625Corporates: Long term (LT) and short term (ST) LT rated:AAA andST rated: PR1+, P1+, F1+, A1+ 20 LT rated:AA andST rated: PR1, P1, F1, A1 30 LT rated A and ST rated PR2, P2, F2, A2 50 LT BBB and ST rated PR3, P3, F3, A3 100 LT rated BB and below and ST rated PR4, PR5, P4, P5, B, C, D, A4, A5 150 Unrated 100Regulatory retail portfolio 75Category RiskWeightsSource: RBI (2007). Loans secured by residential property Up to Rs 20 lakh 50 Rs 20 lakh and above 75Commercial real estate exposure 150NPASwith specific provision of < 20 per cent of outstanding amount 150 >= 20 per cent of outstanding amount 100 >= 50 per cent of outstanding amount 50Banks’ own staff Covered by superannuation benefit/ mortgage of house 20 Otherwise 75Personal loans and credit card receivables 125Capital market exposure 125All other assets 100Category RiskWeights