Earlier RBI forwarded draft Guidelines for putting in place Asset-Liability Management (ALM) System in banks under cover of their circular DBOD No. BP. BC. 94/ 21. 04. 098/ 98 dated September 10, 1998. The draft Guidelines have been reviewed by us in the light of the issues raised/suggestions made by banks in the seminars held at Bankers Training College and also at the Review Meeting of the Chairmen/Chief Executive Officers of banks held by the Governor RBI. The final Guidelines revised on the basis of the feedback received from banks are approved by RBI, for implementation by banks, effective April 1, 1999.

In this context RBI gave the following instructions with reference to implementation of the guidelines.

1. Banks should give adequate attention to putting in place an effective ALM System. Banks should set up an internal Asset-Liability Committee (ALCO), headed by the CEO/CMD or the ED. The Management Committee or any specific Committee of the Board should oversee the implementation of the system and review its functioning periodically.

2. Keeping in view the level of computerisation and the current MIS in banks, adoption of a uniform ALM System for all banks may not be feasible. The final guidelines have been formulated to serve as a benchmark for those banks which lack a formal ALM System. Banks which have already adopted more sophisticated systems may continue their existing systems but they should ensure to fine-tune their current information and reporting system so as to be in line with the ALM System suggested in the Guidelines. Other banks should examine their existing MIS and arrange to have an information system to meet the prescriptions of the new ALM System. To begin with, banks should ensure coverage of at least 60% of their liabilities and assets. As for the remaining 40% of their assets and liabilities, banks may include the position based on their estimates. It is necessary that banks set targets in the interim, for covering 100 per cent of their business by April 1, 2000. The MIS would need to ensure that such minimum information/data consistent in quality and coverage is captured and once the ALM System stabilises and banks gain experience, they must be in a position to switch over to more sophisticated techniques like Duration Gap Analysis, Simulation and Value at Risk for interest rate risk management.

3. In order to capture the maturity structure of the cash inflows and outflows, the Statement of Structural Liquidity Annexure-I should be prepared, to start with, as on the last reporting Friday of March/June/ September/December and put up to ALCO/Top Management within a month from the close of the last reporting Friday. It is the intention to make the reporting system on a fortnightly basis by April 1, 2000. The Statement of Structural Liquidity should be placed before the bank's Board in the next meeting. It would also be necessary to take into account the rupee inflows and outflows on account of previously contracted forex transactions (swaps, forwards, etc). Tolerance levels for various maturities may be fixed by the bank's Top Management depending on the bank's asset - liability profile, extent of stable deposit base, the nature of cash flows, etc. In respect of mismatches in cash flows for the 1-14 days bucket and 15-28 days bucket, it should be the endeavour of the bank's management to keep the cash flow mismatches at the minimum levels. To start with, the mismatches (negative gap) during 1-14 days and 15-28 days in normal course may not exceed 20% each of the cash outflows during these time buckets. If a bank in view of its structural mismatches needs higher limit, it could operate with higher limit with the approval of its Board/Management Committee, giving specific reasons on the need for such higher limit. The objective of RBI is to enforce the tolerance levels strictly by April 1, 2000.

4. In order to enable the banks to monitor their liquidity on a dynamic basis over a time horizon spanning from 1-90 days, an indicative format Annexure III is enclosed. The statement of Short-term Dynamic Liquidity should be prepared as on each reporting Friday and put up to the ALCO/Top Management within 2/3 days from the close of the reporting Friday.

5. We advise that in the Statement of Interest Rate Sensitivity Annexure - II only rupee assets, liabilities and off-balance sheet positions should be reported. The statement should be prepared as on the last reporting Friday of March/June/September/December and submitted to the ALCO / Top Management within a month from the last reporting Friday. It should also be placed before the bank's Board in the next meeting. The banks are expected to move over to monthly reporting system by April 1, 2000. The information collected in the statement would provide useful feedback on the interest rate risk faced by the bank and the Top Management/Board would have to formulate corrective measures and devise suitable strategies wherever needed.

6. The guidelines for ALM cover the banks' operations in domestic currency. In regard to foreign currency risk, banks should follow the instructions contained in Circular AD (MA Series) No.52 dated December 27, 1997 issued by the Exchange Control Department."

Explaining the importance of implementation of the guidelines, the RBI circular further states as under

1. "In the normal course, banks are exposed to credit and market risks in view of the asset-liability transformation. With liberalisation in Indian financial markets over the last few years and growing integration of domestic markets and with external markets, the risks associated with banks' operations have become complex and large, requiring strategic management. Banks are now operating in a fairly deregulated environment and are required to determine on their own, interest rates on deposits and advance in both domestic and foreign currencies on a dynamic basis. The interest rates on banks' investments in government and other securities are also now market related. Intense competition for business involving both the assets and liabilities, together with increasing volatility in the domestic interest rates as well as foreign exchange rates, has brought pressure on the management of banks to maintain a good balance among spreads, profitability and long-term viability. Imprudent liquidity management can put banks' earnings and reputation at great risk. These pressures call for structured and comprehensive measures and not just ad hoc action. The Management of banks has to base their business decisions on a dynamic and integrated risk management system and process, driven by corporate strategy. Banks are exposed to several major risks in the course of their business - credit risk, interest rate risk, foreign exchange risk, equity / commodity price risk , liquidity risk and operational risk. It is, therefore, important that banks introduce effective risk management systems that address the issues related to interest rate, currency and liquidity risks.

2. "Banks need to address these risks in a structured manner by upgrading their risk management and adopting more comprehensive Asset-Liability Management (ALM) practices than has been done hitherto. ALM, among other functions, is also concerned with risk management and provides a comprehensive and dynamic framework for measuring, monitoring and managing liquidity, interest rate, foreign exchange and equity and commodity price risks of a bank that needs to be closely integrated with the banks' business strategy. It involves assessment of various types of risks and altering the asset-liability portfolio in a dynamic way in order to manage risks."

3. The ALM process rests on three pillars:

   1. ALM Information Systems

      • Management Information Systems

      • Information availability, accuracy, adequacy and expediency

   2. ALM Organisation

      • Structure and responsibilities

      • Level of top management involvement

   3. ALM Process

      • Risk parameters

      • Risk identification

      • Risk measurement

      • Risk management

      • Risk policies and tolerance levels.

These are covered under the first three web-pages given in the Table of contents above.

The RBI Guidelines additionally include two appendices & three Annexure, as listed above in the Table of contents