Ancestral homes tell a story. Of families and fortunes as they swell and ebb. That room was added when the elder son got married. That backyard was converted into two rooms for the nephew who moved in with his wife. That portion, beyond the wall, was the one that was sold off when the land ceiling Act took away the family land. While families can feel warm and sentimental about messy old homes, similar feelings are hard to generate when the financial regulatory system of a transforming economy shows signs of patchwork and years of political placating.
The four financial sector regulators, the Reserve Bank of India (RBI), the Securities and Exchange Board of India (Sebi), the Insurance Regulatory and Development Authority (Irda) and the Pension Fund Regulatory and Development Authority (PFRDA) have their mandates messily intertwined. This confusion is preventing the fat household saving (S) number from getting converted into long-term investment (I). The first level of confusion arises from products that aim to do the same thing for the investor, but come under different regulators. Pension products are offered by three parts of the industry—mutual funds, insurance companies and pension funds, regulated by Sebi, Irda and PFRDA. Short- to medium-term market-linked investment products are offered by mutual funds, life insurance companies and now pension funds through so-called tier II accounts, from which you can withdraw savings whenever you want. At another level the confusion comes from similar-sounding firms. XYZ Life Insurance is also XYZ Asset Management Co. and now XYZ Pension Fund. A third level of confusion comes from the unregulated sales process; anybody can vend financial advice and sell products without being responsible for what they sell. The most worrisome confusion comes from the banking channel becoming the pipeline of fraud as banks fight to earn more fee income by hitting long-time customers with high commission-bearing products and churning mutual fund portfolios.
Also Read Monika Halan’s earlier columns
So, we’re at the threshold of India the superpower. But this transformation needs household savings to fuel long-term infrastructure funding. These currently sit in short-term deposits and gold, since the market is seen as a place for fraud. Combined regulatory action could solve the mess, but has got caught in turf issues. The cynical view would be to club all regulatory institutions as defunct and bought-out, but that would be incorrect. Institutions, especially government ones, find it very difficult to change, bound as they are by procedures and rules and regulations. I remember a deputy governor of RBI saying some years back that the institution is yet to fully come to grips with its role as protector of retail customers; the institution was more used to seeing its role as preventing a big blow-out in bank failures. Speak to individual regulators and most come across as wanting to do something, but getting caught in legacy and turf issues.
Which is why a change in the current mess in the financial sector would need outside intervention. The coming budget would be a good time and place to rebuild the creaking, leaking house. Three things can be done at once. One, the sales arbitrage between products that aim to do the same thing for the investor should be removed. This means that the current investor confusion between unit-linked insurance products and mutual funds needs to be resolved. A quick way would be to equalize commissions and cost structures across different regulators. And then use financial incentives to get the sales chain to do the right thing. This would mean all financial products going zero-load and moving to a fee-only model. Fees would increase as the value-added service goes up. In doing this, India will be the first in the world to fix a problem that has long dogged regulators and retail investors.
Two, the financial world must be seen from the point of view of the consumer who is unconcerned about regulatory arbitrage and turf issues. The description of a product should decide the regulator rather than the regulator being a function of history or of defunct Acts. Asset management should move to one set of entities and all others should move their assets to the experts to be managed. Insurance should offer general insurance, pure life cover and focus on the growing space of annuity provision. Pension products should move under one regulator—this would mean moving the Employees Provident Fund Organisation too.
Three, move the insurance regulator to either Delhi or Mumbai as this regulator remains the outlier in all change proceedings in the financial sector. The political reason for its birth in Hyderabad sowed the seeds of a far-from-reality institution that is away from the market buzz and is fed by only those which (read insurance companies) take the time to go to the city to engage with it. The result is regulatory action that makes a regulator look like an industry association rather than a watchdog.
I think there is government-level concern about India’s fat aggregate household savings figure not converting into investment. Figures such as Rs1 trillion lost in lapsed policies just add to the view that there is something seriously wrong with the way retail financial products are sold. The chief cause has been identified as the regulatory confusion and cracks. If we manage to move towards fixing it, retail investors will get respite from fraud and cheating during the sales process. And India can move its S to I.
Monika Halan works in the area of financial literacy and financial intermediation policy. She is consulting editor with Mint and can be reached at firstname.lastname@example.org