RBI puts entry of big businesses in banking on hold

Context:

The Reserve Bank of India (RBI) has kept in limbo the proposal of its Internal Working Group (IWG) for granting banking licence to big corporate houses amid fears over connected lending and self-dealing if they are allowed in the banking space.

Relevance:

GS-III: Indian Economy

Dimensions of the Article:

1. RBI on entry of big businesses in banking
2. Advantages of allowing Corporations to own bank
3. Disadvantages of allowing Corporation to own bank
4. Way Forward

RBI on entry of big businesses in banking

• Corporate Houses (CH) were active in the banking sector till five decades ago when the banks promoted by them were nationalised in the late sixties amid allegations of connected lending and misuse of depositors’ money.
• The Banking sector was opened up again for the CHs Post Liberalisation (1991) with the first round of licensing of private banks that was done in 1993.
• Since then, there were two more rounds of licensing of banks in the private sector – in 2003-04 and 2013-14 – culminating with the on-tap licensing regime of universal banks in 2016. However, even some prominent business houses were not considered in 2013-14.

Advantages of allowing Corporations to own bank

• Currently, the government keeps picking money from the taxpayers pocket and funding the public sector banks. Hence, by allowing the big corporates into the banking sector the capital requirement can be fulfilled.
• Even today a significant population do not have access to banking in the country, the corporates’ entry would mean the opening of more branches and subsequently bringing more people into the banking net.
• Privatization of banks has been a long-proposed reform in the Indian banking industry. Allowing corporations into the banking sector will further pressurize Public sector banks to become competitive.

Disadvantages of allowing Corporation to own bank

• There are apprehensions that it would not be easy for supervisors to prevent or detect self-dealing or connected lending as banks could hide connected party or related party lending behind complex company structures and subsidiaries or through lending to suppliers of promoters and their group companies. Connected lending involves the controlling owner of a bank giving loans to himself or his related parties and group companies at favourable terms and conditions.
• Big business groups already account for a major chunk of Non-Performing Assets (NPAs) in the banking system even without becoming promoters of a bank. In ethical terms, this will erode the bank’s role as an effective financial and create a moral hazard or conflict of interest situation.
• Under circular lending, corporate bank X funding projects of an industry group, which owns corporate bank Y, and corporate bank Y funding projects of an industry group owning bank Z, and finally, corporate bank Z funding projects of industry group owning bank X. With available legal structures and the proliferation of shell companies, makes it hard to track such lending on a real-time basis.
• Corporations owning banks will add more muscle to big industry groups, which already dominate many important sectors of the economy, including telecom, organised retail, aviation, software and e-commerce. This will further accelerate the concentration of wealth and increase inequalities.
• The banking sector in India has been in trouble for the last few years, keeping that in mind the RBI in 2016 had created new guidelines on the limit of lending to a single company. The rationale behind this ruling was that if a bank lends too much to one company only then it risks losing that money if the company sinks. Therefore, the recommendation of allowing the entry of industry groups in the banking sector is in contradiction with the above-said ruling in 2016.

Way Forward

• Before granting much economic power in the hands of corporations, it is imperative to carry out the long-pending banking reforms and strengthen the functional autonomy of RBI.
• The recent failures on internal and external controls like in the case of PNB leading to an alarming fraud, where all stakeholders lost money and credibility have given rise to the need of new regulations with a very high degree of supervisory mechanism and corporate governance which has strong Information Technology (IT) and Artificial Intelligence (AI) enabled platform.
• Where a corporate house is a promoter, strict regulations on the use of funds held with the bank and monitoring of related party transactions will be essential.
• Fit and proper criterion needs to be foolproof and the common citizens should become the beneficiaries in the process.

-Source: The Hindu