P J Nayak committee – Disinvestment and Capital adequacy

As the RBI exam knocking on doors this article will help you understand the basic need of disinvestment and will strengthen your Financial arsenal.
The idea of
disinvestment is going rounds these days in Indian banking industry. What is Disinvestment?
Disinvestment is the act of bringing the government share down the pre owned value or selling
the shares held in the government owned organisation to liquidate the subsidiary (raise money) is called
as disinvestment.

The most important
question today is how do we make the Indian banking system stronger and more
disciplined, better able to provide more loans to deserving borrowers? The easy
answer is to reduce government ownership. The perceived wisdom is that a
state-owned bank does not fear for its survival and so is less efficient and
less disciplined. The key to that is better regulation. Better regulation is
often a code for more capital. According to the latest P.J.Nayak committee the
government holdings in the banks should come down below 50% so as to have a
better working environment and better regulations.
why this is
suggested by Mr. Nayak lets understand,
Our Lena
Bank is govt. owned entity and the bank is certain that it will be safe against
any of the economic crisis in future because govt will help in its revival so
they will act sluggishly and will not try to take that risk, There is a certain
case of mismanagement in the bank and will lead to its continuous  downturn of their fortunes and slowly Lena
bank will start to become a burden on the govt rather than an asset. So to save
from this blushes Mr. Nayak suggested govt. to disinvest from the public sector
banks for a better management.
The step
will also increase the required amount of Tier –I capital as decided by the
Basel committee as there will be inflow of capital to the bank’s reserves
because of the privatisation and will help the state owned banks to come at par
of their private counterparts and also the to international standards.
Capital
ratios are calculated against risky assets (lending to risky borrowers). The
idea being that banks don’t need to hold capital against safe assets and that
this encourages them to lend more safely.
Lets understand Capital adequacy concept more briefly.
CAR (CAPITAL
ADEQUACY RATIO) –
This ratio
is used to protect depositors and promote the stability and efficiency of financial
systems around the world.
CAR is the
ratio of the sum of TIER-I and TIER-II capital to that of Risk weighted asset(Assets
that are not reliable)

Two types of
capital are :
Tier one
capital –
Which can
absorb losses without a bank being required to cease trading in general terms
we can say that Tier- I capital is the core capital of the bank, it consists of
the stocks and easily redeemable shares. Banks need to have a sound chunk of
Tier-I capital because it shows their financial strength and makes them a
reliable option to go with.
According to
the new BASEL –III guidelines the Tier –I capital must be 6% of the total
capital.

Tier two
capital –
Which can
absorb losses in the event of a winding-up and so provides a lesser degree of
protection to depositors. This capital works as same as a shocker works for
your vehicle , it strengthen the reliable image of a bank against the bumps of
financial slow down.

The problem
is that financial crises do not happen because banks don’t have enough capital
against their risky assets, but because what they considered safe becomes
risky. We need to risk manage the financial system and encourage risks to go
where they can be absorbed if we prove to have underestimated them.