The RBI has announced two leading banks – the SBI and ICICI as domestic systemically important banks. Implication of the RBI is that these banks have to procure additional capital and has to follow higher standards in their operations.
Similarly, there will be stricter regulation and supervision for these two banks.
The practice of identifying big banks as systemically important and putting more regulatory standards on them was an outcome of the global financial crisis of 2007.
Financial institutions are identified as systemically important if they are powerful so that their demise may bring systemic risk and uncertainty in the economy. These institutions are characterized by too big to fail syndrome.
The G 20 has established an international body called Financial Stability Board (FSB) to suggest measures to avoid the crash of big banks so that the any financial crisis of the 2007 type can be averted.
The Financial Stability Board has advocated the member countries to identify Global Systemically Important Financial Institutions and Domestic Systemically Important Financial Institutions and impose stricter regulation and standards on them.
In the same way, after the financial crisis many committees in the West (Volcker Vickers and Liikanen- US, UK and EU respectively) have recommended that financial institutions should be strictly controlled. Especially the big financial entities should be more strictly regulated.
The FSB then in association with the BIS has advocated high capital requirements and other measures. It is because of these suggestions and their implementation in the US and UK that many banks were abandoned by share holders.
The FSB has identified 29 big banks as globally systemically important (G- SIFIs). Similarly, individual central banks have to identity domestically systemically important. In India, there is no globally systemically important financial institution.
The systemic importance is measured in terms of five indicators. The selected indicators are size, global (cross-jurisdictional) activity, interconnectedness, lack of substitutability or financial institution infrastructure, and complexity of the G-SIBs.
Similarly, central banks have to identify domestic systemically important banks (DSIBs)
As a part of the global attempt to better control banks, the RBI now has selected domestic systemically important bank. But the total number of such banks is only two in the world’s third largest economy.
For these banks, they have to follow stricter banking standards including higher capital allowance, provisioning, asset quality, resolution regime etc. This means that running banks will become quite difficult for the boards of the banks.