The Capital Adequacy Ratio (CAR), also referred to as Capital to Risk (Weighted) Assets Ratio (CRAR), serves as a metric for a bank's available capital in relation to its risk-weighted credit exposures, expressed as a percentage.
This ratio is crucial in safeguarding depositors and fostering the stability and efficiency of financial systems globally. Stability and solvency are essential for banks to withstand financial shocks and maintain their financial health. Effective risk management is encouraged to help banks better handle their risk exposure. Regulatory compliance aids banks in meeting regulatory standards, thereby contributing to the stability of the banking sector. A higher CAR signifies a well-capitalized bank, which boosts investor and depositor confidence. Tier 1 Capital (Core Capital) comprises common equity, disclosed reserves, retained earnings, and other forms of capital fully available to absorb losses. Tier 2 Capital (Supplementary Capital) includes items like revaluation reserves, hybrid instruments, subordinated term debt, and other less secure forms of capital.
The calculation of CAR is determined by the following formula:
Risk-Weighted Assets (RWA) are assets that are adjusted based on credit risk, where assets with higher risk necessitate a greater amount of capital. Various nations and banking regulators have established minimum Capital Adequacy Ratio (CAR) standards. For instance, in accordance with Basel III guidelines, banks must uphold a CAR of no less than 8%, along with specific extra buffers for banks deemed systemically important.
The primary objective of Capital Adequacy Ratio (CAR) is to ensure that banks have sufficient capital to absorb a certain level of losses before facing insolvency. It serves as a protective buffer against potential losses, safeguarding depositors and upholding trust in the financial system.
CAR is established by central banks and regulatory bodies to guarantee that banks can withstand a reasonable amount of loss and adhere to regulatory capital standards. In accordance with the guidelines set by the Reserve Bank of India (RBI), Indian banks must maintain a consistent minimum Capital to Risk-weighted Assets Ratio (CRAR) of 9%, excluding additional buffers, to ensure financial stability. RBI assesses the risk factors involved and reviews each bank's internal capital adequacy assessments to ensure that the capital held by the bank is in line with its overall risk exposure. Furthermore, banks are required to maintain a capital level well above the minimum requirement as per the Pillar 2 guidelines.
Let us analyze the Capital Adequacy Ratio of the top six banks in India. Among these leading banks, HDFC Bank boasts the highest CAR ratio at 18.8% in FY2024. This bank has consistently maintained such a high CAR ratio over the past five years. On the other hand, Axis Bank, ICICI Bank, Bank of Baroda, and Punjab National Bank have CAR ratios ranging between 16 to 17% in FY2024. ICICI Bank's CAR ratio has decreased from 19.16% in FY2022 to 16.33% in FY2024, while Axis Bank's CAR has decreased from 19.12% in FY2021 to 16.63% in FY2024. Bank of Baroda and Punjab National Bank, however, have increased their respective Capital Adequacy Ratios over the last five years. Bank of Baroda has seen an increase from 13.3% in FY2022 to 16.31% in FY2024, and Punjab National Bank has gradually increased its CAR from 14.14% to 16% during the same period. The Capital Adequacy Ratio of State Bank of India stood at 14.28% in FY2024, slightly lower than its FY2023 CAR of 14.68%. The bank has managed to increase its CAR from 13.13% in FY2020 to 14.28% in FY2024. Consequently, it can be concluded that all the major banks in India have maintained their CAR well above the required rate set by the RBI over the past five financial years.
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Data Source
- Bank’s website
- Moneycontrol.com
- RBI website
Disclaimer
The content or analysis presented in the Blog is exclusively intended for educational purposes. It is important to note that this should not be considered as a suggestion for investing in stocks or as legal or medical advice. It is highly recommended to seek guidance from an expert before making any decision.