Applicability of CAMELS Rating for Supervisory Regulation of the Indian Banking System

How should the strength of banks be best assessed? Answering this question is at the core of the business of two very different economic agents: policymakers and credit rating agencies. While the policymakers' main objective is to minimize the cost associated with existing financial markets safety nets, the objective of rating agency is to provide investors with an adequate measurement of risk involved in instruments issued by the finandal institutions they rare. For rating banks, rating agendes use a relatively compact set of financial indicators derived from banks' balance sheet and income statements. CAMELS ratings are commonly viewed as summary measures of the private supervisory information gathered by examiners regarding banks' overall finanaal conditions. This rating system is used by three federal banking supervisors (the Federal Reserve, the FDIC and the OCCC) and other financial supervisory agencies to provide a convenient summary of bank conditions and bank ratings.To review, CAMELS is an acronym for the key financial and operational aspects of the bank, which examiners evaluate during the safety and soundness examination. The components are: capital adequacy; asset quality; management and board of directors' supervision; earnings performance; liquidity; and sensitivity to market risk. Ratings are assigned for each component in addition to the overall rating of a bank's financial condition. The ratings are assigned on a scale from 1 to 5. Banks with ratings of 1 or 2 are considered to present few, if any, supervisory concems, while banks with ratings of 3, 4, or 5 present moderate to extreme degrees of supervisory concern.