The time seems to be ripe for inducing banks, including public sector banks, to approach the capital market — for both equity and debt — in a competitive environment, according to the Reserve Bank of India.

According to certain rough estimates, Indian banks’ additional capital requirements will be to the tune of ₹4.95 lakh crore over the period of phasing in of the Basel III capital requirements.

In its 9th Financial Stability Report, the RBI said the Indian banking system needs to pay urgent and greater attention to the Basel regulations, especially those relating to subjecting banks to market discipline.

Swifter progress towards a more robust emphasis on market discipline will result in better pay-offs not only for the Indian banking sector but also for the overall financial system, it added.

Valuations The report said with the notion of an implicit government guarantee behind public sector banks (PSBs), their valuations should be intuitively converging with industry averages, even after allowing for some differences in operational flexibility and efficiency vis-à-vis new private sector banks.

The ratio of market price to book value (P-B ratio) of shares for public sector banks (quarterly average value as at March-end 2014 was 0.8) was much lower than those of their private sector counterparts (2.8).

“The reasons for this dichotomy need a detailed examination,” the report said.

Even ignoring the component of supervisory capital requirements, the RBI assessed that PSBs are expected to require additional capital of ₹4.15 lakh crore — equity capital of ₹1.43-lakh crore and non-equity capital of ₹2.72-lakh crore — over the phasing-in period of Basel III.

Govt contribution The Government’s contribution to PSBs’ equity capital will be around ₹90,000 crore at the existing level of its shareholding.

According to the central bank, the present situation can be used as an opportunity where demand for long-term funding driven by regulatory requirements may provide necessary impetus for letting the corporate bond market evolve to the next level.

In this context, the practice of subscribing to equity and debt capital issuances of public sector entities — both financial and non-financial — by other public sector entities should be kept within prudential limits.

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