The overarching goal of the second Basel accord is aligning the capital requirements of banks with risk sensitivity. The accord emphasises the quantification of capital requirements on the basis of internal rating models. The internal credit rating models of banks are expected to produce the probability of default and loss given default to estimate the capital requirements of credit risk. This paper presents an analysis of the current status of internal credit rating practices of Indian banks. The survey reveals that the components of internal rating systems, their architecture, and operation differ substantially across banks. The range of grades and risks associated with each grade vary across banks analysed. This implies that lending decisions may vary across banks. There are differences among the rating systems of various banks. This paper presents a set of actions to improve the quality of internal rating models of Indian banks.
