Home / Industry / Banking /  RBI faces conflict of interest questions after NPA ordinance cleared

Mumbai: The Union cabinet’s decision to amend the Banking Regulation Act empowering the Reserve Bank of India (RBI) to directly intervene in settling bad loan cases has raised questions over whether it will lead to a conflict of interest for the regulator.

According to people aware of the matter, if banks are unable to meet a deadline set by RBI to resolve big bad loan accounts, the regulator can effectively give directions to banks on how to deal with these cases and even take punitive action. While Section 35 of the Banking Regulation Act gives RBI the powers to inspect a banks’s books, the new framework that has been envisaged will need its amendment.

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Any new scheme to resolve the Rs9.64 trillion stressed loans in the system is welcome, but giving more powers to the central bank to take what can be seen as commercial decisions is also a case of micromanagement, said experts. Typically, regulators are at an arm’s length from the commercial decisions of the entities they regulate in order to preserve systemic stability.

“The central bank’s role is to lay down procedures and mechanism for NPAs (non-performing assets) resolution. If banks cannot take a decision on valuation and haircut, then how can RBI take a decision?" asked H.R. Khan, a former deputy governor of RBI.

One key reason why the system is choked with bad loans is because banks are unwilling to take a sacrifice for part of the money they are owed and sell these assets to turnaround specialists or private equity funds. They fear such a haircut could be misconstrued by vigilance agencies.

“Trying to find a one-time solution for stressed loans is not the right thing to do," Khan added. RBI should ensure banks function in a sustainable manner, give clear incentives, encourage capacity building and looking into issues of board governance to ensure the NPA problem does not recur.

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“Resolution of the NPA problems is proposed to be under the oversight of RBI. This is a business decision and by their nature such decisions may turn out to be wrong. The regulator should put in place policy for banks who should implement the resolution decision," said Errol D’ Souza, a professor of economics at the Indian Institute of Management in Ahmedabad.

Other experts, however, feel the conflict of interest between the regulator and the regulated entity (banks in this case) is not something new. “RBI has a representative on boards of public sector banks. The presence of an RBI board member essentially meant the regulator was a party to the decision to give loans to (the likes of) Vijay Mallya. This is something which has been traditionally questioned," said Indira Rajaraman, an economist and a former member of RBI’s central board. However Rajaraman believes there is a need for deep surgery to repair the sector and giving more power to RBI may be the least harmful way to do it.

In the past five years, RBI has come out with several schemes for resolving bad loans, but none of those took off as they were seen as too rigid. As a result, the toxic debt pile climbed, putting pressure on bank balance sheets and squeezing loan growth.

Legal experts such as corporate lawyer H.P. Ranina, too, agree the conflict of interest issue is overstated in this case.

“RBI has the powers to go into each NPA account. I don’t think it’s a commercial decision where the regulator goes through the application and grants loans," he said.

Gopika Gopakumar
Gopika Gopakumar has worked for over 15 years as a banking journalist across print and television media. Her expertise lies in breaking big corporate stories and producing news based TV shows. She was part of the 2013 IMF Journalism Fellowship Program where she covered the Annual & Spring meetings of the International Monetary Fund in Washington D.C. She started her career with CNBC-TV18, where she also produced a news feature show called Indianomics and an award winning show on business stories from South India called Up South. She joined Mint in 2016.
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