The Reserve Bank of India (RBI) has recently announced that the State Bank of India, ICICI Bank, and HDFC Bank will retain their status as Domestic Systemically Important Banks (D-SIBs), also known as banks “too big to fail”. These banks are deemed critical due to their size, cross-jurisdictional activities, complexity, lack of substitutability, and interconnectedness.
Systemically Important Banks (SIBs): An Overview
Systemically Important Banks or SIBs have garnered considerable attention due to their large scale and significant role in the global financial system. The perception of SIBs being ‘Too Big To Fail (TBTF)’ fuels an expectation of government support in distressing times. As a result, these banks face extra policy measures to address the systemic risks and moral hazard issues they pose. Moreover, their potential failure could significantly disrupt essential banking and economic activities.
Systemic risk refers to the risk associated with the collapse of a company, industry, financial institution, or the entire economy. On the other hand, moral hazard occurs when one party indulges in a risky event, knowing they are insulated against the risk while the other party bears the cost.
Global and Domestic Systemically Important Banks
The Financial Stability Board (FSB), in consultation with the Basel Committee on Banking Supervision (BCBS) and national authorities, has been identifying Global Systemically Important Banks (G-SIBs) since 2011. FSB is an international body that monitors and makes recommendations about the global financial system. The BCBS methodology for assessing and identifying G-SIBs sets the primary global standard for the prudential regulation of banks.
On the domestic front, the BCBS finalized its framework for dealing D-SIBs in 2012. D-SIBs, unlike G-SIBs, are assessed by national authorities based on the impact of their potential failure on the local financial system and the local economy. The marking of banks as D-SIBs began in India in 2015, with the RBI placing them in appropriate buckets according to their Systemic Importance Scores (SISs).
Assessment Indicators for D-SIBs
The D-SIB framework uses four key indicators for assessment: size, interconnectedness, substitutability, and complexity. Banks are sorted into four different buckets based on their SISs, with the requirement of additional Common Equity Tier 1 Capital (CET1) ranging from 0.20% to 0.80% of risk-weighted assets (RWA). CET1, considered the highest quality of regulatory capital, absorbs losses immediately upon occurrence, while RWAs link the bank’s required minimum capital to its lending and other asset-related risk profile.
Foreign G-SIBs Operating in India
In situations where a foreign bank with a branch presence in India classifies as a Global Systemically Important Bank (G-SIB), they must maintain additional CET1 capital surcharge in India. This requirement is proportionate to the foreign bank’s Risk Weighted Assets (RWAs) present in India.
Identification of Domestic Systemically Important Insurers
The Insurance Regulatory and Development Authority of India (IRDAI) has identified the Life Insurance Corporation of India (LIC), General Insurance Corporation of India, and The New India Assurance Co as Domestic Systemically Important Insurers (D-SIIs) for 2020-21. By definition, D-SIIs are insurers whose distress or failure would trigger a significant disruption within the domestic financial system.
The IRDAI, similar to RBI for banking, undertook an initiative in March 2019 to identify crucial companies in the insurance sector following the collapse of IL&FS. This instance sparked a massive liquidity crisis in the financial markets. The International Association of Insurance Supervisors (IAIS) has also urged all member countries to establish a regulatory framework for dealing with Domestic-SIIs.
Last Modified: February 10, 2024