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It made news last week when it was said that the Insurance Regulatory and Development Authority of India (Irdai) will regulate bank employees who sell insurance policies. This was surprising on two counts. First, Indian financial sector regulators are wary of crossing swords with the Reserve Bank of India (RBI). They often admit offline that though banks are the biggest mis-sellers of third-party financial products, they (the regulators) are unable to do much since the RBI is unwilling to accept that the problem lies in the sales process. And the legacy status of the RBI prevents them from sticking their neck out. Therefore, it is significant that the Irdai chief has said that he wants each policy mapped to the person who sells it and sales behaviour of the bankers will be recorded. And that leads up to the second reason for the surprise. Irdai has resisted growing evidence that shows mass-scale mis-selling in life insurance policies over the past 10 years. One has to only look at the poor persistency rates in the business to see that the industry is unable to retain even half its business over a five-year period. Remember, life insurance is a long-term contract and the product is structured to assume that the policyholder will stay for 10-15 years, if not more.

Irdai wants to put in place a registry that will record seller behaviour. Great idea and this must be done. But Irdai needs to collaborate with the other regulators in the market who have already put in such a registry and learn from their errors. Ideally the regulators should put out one Aadhar-based tracking system of all its vendors, sellers, advisers, planners, family offices, PMS (portfolio management service) managers—basically anybody who faces the customer. The Securities and Exchange Board of India (Sebi) put the Employee Unique Identification Number (EUIN) system in place in 2013 that makes it mandatory for an adviser to be mapped through a number. Read more about EUIN here: http://mintne.ws/1aaKXp4 . EUIN has left gaps in its coverage and its presence has not been able to stop churning of mutual fund portfolios by banks.

Just putting a number against a person is not enough, of course. The next step is to map what this person does. For this, regulations will need a paper or technology-based system that maps the sales process from the first point of contact to the actual sale of the product and then the on-going service that a financial product needs. But even that is not enough. This data needs to be shared with investors who will use the services of the sellers and advisers to choose one or to continue with the relationship. It is at this point that the Indian financial sector regulators need to take a leap of faith and loosen the tight control they have on the data collected.

Sebi has been collecting data linked to EUIN for over two years now, but as an investor I have no access to it. One of the most frequent questions I get is the one asking for a list of financial planners that are ‘trustworthy’. If there is a need in the market, there has to be a market solution that works for everybody and not just those who have access to the views of one individual. A rules and process-based system will put the digital exhaust from the digital registry of all consumer-facing entities in the market and then wait for a smart app to make it usable.

Indian financial sector regulators need to understand that firms treat regulators with a public display of servility, but privately ridicule them. They’ve understood and perfected the art of check-box regulatory compliance. And since the financial corporate sector can afford much higher salaries, a lot of very smart people find it gainful to outsmart the regulatory regime. Regulators rely on the outdated notion of putting in obtuse regulation so that the power of discretion remains in the interpretation. Rent-seeking by regulatory staff is, therefore, fairly common. I like to think about the regulatory system as a well-thought through system of traffic management. As traffic flow rises, we don’t see more and more traffic police on the road. Instead we see better road design, better traffic management systems, more one-ways and then the lone cop to catch the habitual offender. Better systems will drive traffic along desired lines just as a poor design will cause the hours-long logjam on the Delhi-Gurgaon highway. Product structure, incentives, use of defaults, understanding human behaviour, making disclosures count and punishment are all parts of this regulatory system.

Regulators could learn from an important insight from parenting. Using your larger size to discipline kids fails when they reach eye level. Using fear as the starting point of regulation fails when markets grow in size. Cool regulators are a step ahead and use the stick as the last option and not the first.

Monika Halan works in the area of financial literacy and financial intermediation policy and is a certified financial planner. She is editor, Mint Money, Yale World Fellow 2011 and on the board of FPSB India. She can be reached at expenseaccount@livemint.com

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