Risk Management in Indian Banking Sector andRole of RBI

Risk is the fundamental element that drives financial behaviour. Without risk, the financial system would be vastly simplified. However, risk is omnipresent in the real world. Financial Institutions, therefore, should manage the risk efficiently to survive in this highly uncertain world. The future of banking will undoubtedly rest on risk management dynamics. Only those banks that have efficient risk management system will survive in the market in the long run. The effective management of credit risk is a critical component of comprehensive risk management essential for long-term success of a banking institution. Credit risk is the oldest and biggest risk that bank, by virtue of its very nature of business, inherits. This has however, acquired a greater significance in the recent past for various reasons. Foremost among them is the wind of economic liberalization that is blowing across the globe. India is no exception to this swing towards market driven economy. Better credit portfolio diversification enhances the prospects of the reduced concentration credit risk as empirically evidenced by direct relationship between concentration credit risk profile and NPAs of public sector banks. In the process of financial intermediation, banks face risks of different kinds which are financial and non –financial viz., credit, interest rate, foreign exchange rate, liquidity, equity price, legal, regulatory, reputational, operational etc. These risks are highly interdependent and events that affect one area of risk can have ramifications for a range of other risk categories. Thus, top management of the banks should attach considerable importance to improve the ability to identify measure, monitor and control the overall level of risks undertaken. For the purpose of risk management, banks also create suitable organizational structure and process which directly reports to top management in the bank. Following the internationally best practices, Reserve Bank of India (RBI) has directed the banks in the economy to adopt such procedures which includes capital adequacy, provisioning, and other steps vital to maintain and protect the banks in the event of crises. This research paper begins with explaining the need for risk management in the banks on account of various types of risks. The second part presents case studies of two leading commercial banks in India with their risk management structure and recent experience of non-performing assets (NPA) during 2011-14. Third part discusses RBI‘s efforts on risk management at the macro level and key macroeconomic factors regulatory and industry issues. The paper further attempts to develop early warning system (EWS) with a unique rating of stress and risky outcomes for a bank. Emerging horizons for the banks in the economy would form the Conclusion.