Policy for banks

About eight months ago, on March 14, Reserve Bank of India (RBI) governor Urjit Patel raised a very pertinent point on banking regulation and ownership structures in India. Speaking at the Gujarat National Law University, Gandhinagar, Patel stated in unequivocal terms that the “Banking Regulatory Powers in India are NOT Ownership Neutral” in India.

The RBI governor said this in the context of two different sets of rules: one for private banks and other for the state-owned or public sector banks. The RBI regulates all banks under the Banking Regulation Act, 1949, which has been amended over the years, necessitated by changing technological, macroeconomic and business landscapes, both globally and locally.

The foundational principle of the bank regulation in India is that depositors’ interest is supreme. The sector watchdog — RBI — therefore, and very rightly so, should is empowered to crackdown on owners/promoters on if there were signs of procedural aberrations. There have been instances aplenty when the RBI has shown no hesitation in throwing the rule book at promoters/owners and the board at the slightest hint of deviation. What happened at Bandhan Bank, India’s newest full-fledged private commercial banks, is an example of the central bank’s fixation with rules.

The RBI ordered freezing of Bandhan Bank CEO Chandra Shekhar Ghosh’s salary and disallowed the bank from opening new branches because the bank’s promoters had not pared its holding to 40 per cent by August 23, 2018, the day it completed three years of operation.

Under current rules, a private bank’s promoter is required to cut its shareholding to 40 per cent within three years, 20 per cent within 10 years and to 15 per cent within 15 years. The same rules also require Uday Kotak, Kotak Mahindra Bank’s promoter vice chairman and managing director to lower his shareholding to 20 per cent of paid up capital by December 31, 2018 and 15 per cent by March 31, 2020. Kotak currently holds a 30.03 per cent stake in the bank.

Both these cases demonstrate the RBI’s zero-tolerance policy on rule violation. This orthodoxy towards a rules-based regime, however, comes a little unstuck in public sector banks. This is precisely the point Patel was underscoring in his March 14 speech when he said the bank’s regulatory power is not ownership neutral. Unlike their private sector peers, it is actually the government, not the RBI, which regulates state-owned banks. It does so under an array of legislations: the Banking Companies (Acquisition and Transfer of Undertakings) Act, 1970; the Bank Nationalisation Act, 1980; and the State Bank of India Act, 1955. Additionally, Section 51 of the amended Banking Regulation Act unambiguously specifies which parts of legislation applies to the government-owned banks.

So, the RBI cannot remove a PSB banks’ director, cannot supersede a board, cannot revoke a PSB’s bank licence and cannot force a merger to protect depositors’ or shareholders’ interests. Only the government, by virtue of the being the majority owner of these banks that are created through Parliament ratification, are empowered to take these decisions. Given this backdrop, it would not be entirely incorrect to state that over the last 25 years banking regulation policies in India have pulled in contradictory directions.

There are rules for the private sector banks. And there are rules for public sector banks. Within private sector banks there rules on ownership, promoter shareholding and voting rights that have changed significantly over the last two decades. For instance, all licences issued in 1993, as well under the 2001 guidelines, were predicated on a philosophy of a minimum ownership for promoters (40 per cent) at all times, with a cap on voting rights in any case under Section 12(2) of the Banking Regulations Act.

The rule was changed when the RBI issued universal bank guidelines first in 2013 and later in 2016. The new rules now require that the non-operating finance holding company (NOFHC) or the promoter group shall progressively bring down its shareholding from a minimum of 40 per cent, to a maximum of 15 per cent within 15 years with an that diversified holding will lead to better governance. While this objective of diversified ownership could be well reasoned there is now a growing line of argument that these rules can actually end up stifling the banking industry’s growth.

More than two years after the guidelines were issued, inviting interested parties to set up a new class of contemporary institutions with modern technology-enabled banking practices, not a single organisation has responded. One would not be surprised, if many interested parties privately admit that complex structures and ownership changes are almost insurmountable milestones to achieve, creating strong disincentives for anyone to create a new bank. Consistency, clarity and uniformity are the pillars of a progressive policy regime. Indian banking desperate needs these.

The writer is Ex. Director Central Bank of India; Advocate On-Record-Supreme Court of India