India is known for excellent policies and their poor implementation. Indian plan documents, known for excellent analysis of economic problems and their remedies, are the finest examples of gaps between intention and execution. In banking, too, we have a plethora of well-intentioned guidelines, policy documents, committee reports and circulars, but the ground realty is a testimony to the gaps. By Ashok K Nag, senior vice president of risk management firm, Riskraft Consulting Ltd.

The Basel II guidelines on risk management framework that the Reserve Bank has rightly asked Indian banks to implement is likely to meet a similar fate, given the state of confusion that prevails within the Indian banking industry with regard to its implementation roadmap.

Indian banks appear to be uncertain about the actual intent of Basel II guidelines. Is it a technology that can be bought off the shelf or does it involve business process re-engineering or is it merely a new way of calculating a bank''s risk profile?

In recent times a number of Indian public sector banks have come up with tender documents requesting vendor responses to either Basel II consulting services or risk management software solutions. Some banks have even asked for an enterprise-wide risk management solution, while other have asked for solutions in a specific area like credit risk.

A careful study of these tender documents shows that the banks are completely in the dark about the true import of Basel II norms. For example, one public sector bank has identified data gap as the foremost problem with regard to Basel II implementation.

Per se, the bank is absolutely right on this point. But it appears to be interested in identifying data gaps only for risk calculation. Apparently its main objective is to work out regulatory capital under Basel II norms and nothing more.

Does it mean that as long as the bank is able to calculate its probability of default it can legitimately migrate to an advanced internal rating-based approach? Like the proverbial four blind men the bank has been able to appreciate only a part, albeit a very important part of the Basel II elephant.

Another public sector bank first floated a tender for an enterprise-wide risk management software solution followed, after a gap of two months, with another tender for pre-qualification of risk management consultants.

Presumably, the consultants will have to advice within the framework of the software already selected.

The bank would have been better served with the domain advice of the software solution provider. If the consultant to be appointed is not required to advice on the optimal solution with regard to bank''s specific requirement, what services would the bank like to get from the person?

Yet another bank wants its consultant for an integrated risk management system to advise it on almost all possible activities that can be thought of in banking in general – like product pricing of deposit and advances, transfer pricing policy, future business strategy, economic and political impact on the bank''s balance sheet!

Apart from the mandatory menu of probability of default calculation, etc, all the advice has to be delivered within six months — a tall order indeed.

In this era of the internet and with Microsoft''s largesse in providing ctrl+C and ctrl+V functionalities, preparation of such tender documents is all a matter of a day''s work. It is obvious that these banks have not done their required homework in training their personnel to understand the issues involved in Basel II to articulate their bank''s specific requirements. Evidently, regulatory pressure is the only thing driving these last minute rush activities.

The main point that all Indian banks and particularly those in the public sector are missing is that Basel II is more about the risk governance structure of a bank and risk calculation is only an intermediate step towards building that structure.

No doubt data gap is extremely important and without bridging that gap nothing concrete can be achieved.

But data gap must be analysed and mapped with regard to certain objectives, which should be establishing a risk governance structure, and within it all necessary calculations should be incorporated. This governance structure must be built on the foundation of each bank''s overall risk management strategy and appetite. The strategy must be spelt out and adopted as a mission goal by the top management.

There is no evidence that many of these banks have made any effort in this respect. More importantly there is no evidence of any appreciation of the Pillar 2 and Pillar 3 norms of Basel II guidelines.

It is these two pillars that completely differentiate this new international guideline from its predecessors. Banks are falling over each other to buy some piece of software that would throw the risk numbers.

But what guarantee is ther that these numbers will meet supervisory approval and whether these numbers are accurate.

Since the banks have totally ignored the need for building the internal expertise to decipher the intricate methodology that goes behind these numbers, how are they going to convince the supervisors about the soundness of their methodology? In fact, there are cases of banks having purchased risk management software without really evaluating the methodology or even, more preposterously, without being even provided with the underlying methodological documents.

In one case that this author knows of, the vendor has refused to provide the methodological document unless the bank issues the user acceptance certificate!

One private sector bank is keen to implement the advanced measurement approach for operation risk without establishing a workflow within the organisation for identifying potential risk events and a proper operational risk assessment process across its various business lines.

This particular bank feels that what it requires is merely a calculation engine and nothing else to derive substantial regulatory capital advantage.

No doubt shrewd marketing teams of software vendors have done a marvelous job for their companies but let us hope that the Basel II euphoria does not turn out to be a grand marketing opportunities for software vendors only.