CAMELS

In 1994, the RBI established the Board of Financial Supervision (BFS), which operates as
a unit of the RBI. The entire supervisory mechanism was realigned to suit the changing
needs of a strong and stable financial system. The supervisory jurisdiction of the BFS
was slowly extended to the entire financial system barring the capital market institutions
and the insurance sector. Its mandate is to strengthen supervision of the financial system
by integrating oversight of the activities of financial services firms. The BFS has also
established a sub-committee to routinely examine auditing practices, quality, and
coverage.

In addition to the normal on-site inspections, Reserve Bank of India also conducts off-site
surveillance which particularly focuses on the risk profile of the supervised entity. The
Off-site Monitoring and Surveillance System (OSMOS) was introduced in 1995 as an
additional tool for supervision of commercial banks. It was introduced with the aim to
supplement the on-site inspections. Under off-site system, 12 returns (called DSB
returns) are called from the financial institutions, wich focus on supervisory concerns
such as capital adequacy, asset quality, large credits and concentrations, connected
lending, earnings and risk exposures (viz. currency, liquidity and interest rate risks).

In 1995, RBI had set up a working group under the chairmanship of Shri S. Padmanabhan
to review the banking supervision system. The Committee certain recommendations and
based on such suggetions a rating system for domestic and foreign banks based on the
international CAMELS model combining financial management and systems and control
elements was introduced for the inspection cycle commencing from July 1998. It
recommended that the banks should be rated on a five point scale (A to E) based on th
elines of international CAMELS rating model. CAMELS evaluates banks on the
following six parameters :-

(a) Capital Adequacy :Capital adequacy is measured by the ratio of capital to risk-
weighted assets (CRAR). A sound capital base strengthens confidence of depositors

(b) Asset Quality : One of the indicators for asset quality is the ratio of non-performing
loans to total loans (GNPA). The gross non-performing loans to gross advances ratio is
more indicative of the quality of credit decisions made by bankers. Higher GNPA is
indicative of poor credit decision-making.

(c) Management : The ratio of non-interest expenditures to total assets (MGNT) can be
one of the measures to assess the working of the management. . This variable, which
includes a variety of expenses, such as payroll, workers compensation and training
investment, reflects the management policy stance.

(d) Earnings : It can be measured as the the return on asset ratio.

(e) Liquidity : Cash maintained by the banks and balances with central bank, to total asset
ratio (LQD) is an indicator of bank's liquidity. In general, banks with a larger volume of
liquid assets are perceived safe, since these assets would allow banks to meet unexpected
withdrawals.

(f) Systems and Control

Each of the above six parameters are weighted on a scale of 1 to 100 and contains
number of sub-parameters with individual weightages.

Rating
Rating symbol indicates
Symbol
A Bank is sound in every respect
B Bank is fundamentally sound but with moderate weaknesses
financial, operational or compliance weaknesses that give cause for
C
supervisory concern.
serious or immoderate finance, operational and managerial weaknesses
D
that could impair future viability
critical financial weaknesses and there is high possibililty of failure in the
E
near future.

Bank ratings could soon be made public

Sunny Verma, Arun S
Posted: 2008-02-19 19:01:55+05:30 IST
Updated: Feb 19, 2008 at 1920 hrs IST

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New Delhi, Feb 18: To increase transparency in the banking system, the government and
the regulator are considering bringing the risk-based assessment of banks in the public
domain.

At present, a risk-based rating of banks done by the Reserve Bank of India is kept
confidential due to the sensitive nature of the information. According to people familiar
with the development, the issue is being discussed in light of reports that some banks may
have exposure to sub-prime and similar risky loans, which is likely to impact the stability
of the financial system.

By making the ratings public, the central bank would also be able to enforce better
discipline and bring about greater transparency in banking. The move would also help in
expediting consolidation in the sector through better pricing of bank securities, these
sources said.

The RBI bases ratings on CAMELS (capital adequacy, asset quality, management
quality, earnings, liquidity and sensitivity to market risk) , which is an internationally
recognised system. The RBI conducts its periodical on-site inspections backed by a
supplementary off-site monitoring and surveillance system.

Although most of the CAMELS parameters are in the public domain, the weighting given
to individual components and the final rating of a bank is not disclosed. “Weightage is
critical to the final score of a bank, which indicates its soundness,” a senior banker said.

The government is also mulling whether to facilitate such risk-based disclosures once a
certain length of time has passed following ratings. This delayed disclosure is expected to
prevent immediate reaction among depositors and investors if a bank’s portfolio turns
adverse.

According to former secretary, economic affairs in the finance ministry, CM Vasudev,

“The trend we are seeing in the financial sector is generally in the direction of greater
disclosure. But, it has to be done in a calibrated manner as there is also a risk element
involved.” Officials also feel that the regulator will benefit from such public monitoring
of banks.

“Making the ratings public will add to the ‘hygiene’ of the entire banking system,” a
banker said, requesting anonymity. The government has already held some discussions
on disclosure norms of banks with the Indian Banks’ Association. But banking experts
point out that disclosing the risk-based ratings can be a tricky issue as the RBI ratings are
unlike those given by other independent agencies.

“At present, the CAMELS rating is for the consumptions of a bank’s senior management
and the regulator. Making this rating public...

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