12.26         ndian      onom
           The first Basel Accord, known as Basel                   disclosed reserves of the bank—equity capital
     I focuses on the capital adequacy of financial                 can’t be redeemed at the option of the holder and
     institutions. The capital adequacy risk (the risk a            disclosed reserves are the liquid assets available
     financial institution faces due to an unexpected               with the bank itself.
     loss), categorises the assets of financial institution         Tier 2 Capital: A term used to describe the
     into five risk categories (0 per cent, 10 per cent,            capital adequacy of a bank—it can absorb losses
     20 per cent, 50 per cent, 100 per cent). Banks that            in the event of a winding-up and so provides a
     operate internationally are required to have a risk            lesser degree of protection to depositors. Tier II
     weight of 8 per cent or less.                                  capital is secondary bank capital (the second most
           The second Basel Accord, known as Basel                  reliable forms of capital). This is related to Tier
     II, is to be fully implemented by 2015. It focuses             1 Capital. This capital is a measure of a bank’s
     on three main areas, including minimum capital                 financial strength from a regulator’s point of
     requirements, supervisory review and market                    view. It consists of accumulated after-tax surplus
     discipline, which are known as the three pillars. The          of retained earnings, revaluation reserves of fixed
     focus of this accord is to strengthen international            assets and long-term holdings of equity securities,
     banking requirements as well as to supervise and               general loan-loss reserves, hybrid (debt/equity)
     enforce these requirements.                                    capital instruments, and subordinated debt and
           The third Basel Accord, known as Basel III               undisclosed reserves.
     is a comprehensive set of reform measures aimed                Tier 3 Capital: A term used to describe the
     to strengthen the regulation, supervision and                  capital adequacy of a bank—considered the
     risk management of the banking sector. These                   tertiary capital of the banks which are used to
     measures aim to46:                                             meet/support market risk, commodities risk and
           (i) improve the banking sector’s ability to              foreign currency risk. It includes a variety of
                absorb shocks arising from financial and            debt other than Tier 1 and Tier 2 capitals. Tier
                economic stress, whatever the source be;            3 capital debts may include a greater number of
          (ii) improve         risk      management           and   subordinated issues, undisclosed reserves and
                governance; and                                     general loss reserves compared to Tier 2 capital.
         (iii) strengthen banks’ transparency and                   To qualify as Tier 3 capital, assets must be limited
                                                                    to 250 per cent of a bank’s Tier 1 capital, be
                                                                    unsecured, subordinated47 and have a minimum
           The capital of the banks has been classified
                                                                    maturity of two years.
     into three tiers as given below:
                                                                         Disclosed Reserves are the total liquid cash
     Tier 1 Capital: A term used to describe the capital            and the SLR assets of the banks that may be used
     adequacy of a bank—it can absorb losses without                any time. This way they are part of its core capital
     a bank being required to cease trading. This is                (Tier 1). Undisclosed Reserves are the unpublished
     the core measure of a bank’s financial strength                or hidden reserves of a financial institution that
     from a regulator’s point of view (this is the most             may not appear on publicly available documents
     reliable form of capital). It consists of the types
     of financial capital considered the most reliable                47.  Subordinated debt ranks below other debts with regard
                                                                           to claims on assets or earnings (also known as a ‘junior
     and liquid, primarily stockholders’ equity and                        debt’). In the case of default, such creditors get paid out
                                                                           until after the senior debtholders were paid in full. Thus,
       46.    Bank of International Settlemets, Basel, Switzerland,        such capitals of banks are more risky than unsubordinated
              15 May, 2012.                                                debt.