Capital ratio move hits banks

Capital adequacy ratio is the proportion between a bank’s total equity over its risk-weighted assets. Vietnamese law stipulates that a bank must have a capital adequacy ratio no less than 8 per cent to ensure sound financial health.
While the minimum requirement of 8 per cent will remain unchanged, two major factors of the ratio, the equity and the risk-weighted assets, will see important amendments.
The total equity of a bank operating in Vietnam will now include both capital tier 1 — equity capital plus retained earnings and reserve — and capital tier 2 — loan-loss reserves plus subordinated debt — instead of being defined solely by capital tier 1, as the case previously had been.
Kieu Huu Dung, State Bank director of the banks and non-bank credit institutions department, said that as the country’s financial and monetary market developed over recent years, the role of subordinated debts and loan-loss reserves had not been relevant. Furthermore, the proportion of these assets was small compared to the total equity.
“However, the current development of the local financial market means that it is time for Vietnamese banks to count in capital tier 2,” said Dung. “It not only helps the country’s banking system better integrate with international standards, but also brings about a number of benefits for the local banks themselves.”
Subordinated debt is a long-term debt that, in case of insolvency, is paid off only after depositors and other creditors have been paid. Thus it can be used like equity to provide those creditors some protection against insolvency.
Moreover, some kinds of subordinated debts, like preferred shares or convertible bonds, will help banks to raise stock equity without affecting the structure of the board of management.
Nguyen Thu Ha, deputy director of the state-owned Bank for Foreign Trade of Vietnam, praised the news, saying that the changes would pave the way for her bank to issue preferred shares in preparation for listing on the local stock market.
Apart from the addition of capital tier 2 into the total equity, the State Bank will also adjust the risk weight assigned to each type of asset to bring more flexibility to commercial banks.
The most striking adjustment will relate to loans secured by property collateral. These loans are currently classified in the highest-risk category and are subject to a risk ratio of 100 per cent. The State Bank will soon decrease this ratio to just 50 per cent, as applied in most other countries, to ease the burden on banks and to be more in line with international standards.
Dung from the State Bank said that the changes in equity and risk-weighted assets will certainly help to increase the capital adequacy ratio of local banks, which currently hovers around just 3 to 4 per cent in the state-owned commercial banks sector.
“However, the increase will be very small,” Dung said.
“As I said, the current proportion of subordinated debts and loan-loss reserve in local banks is small compared to the total equity of a bank. As such, it will not affect much the ratio as a whole.”