Column : Gearing up for banking reforms

Written by Devendra Raghav | Updated: Jan 3 2013, 06:06am hrs
With RBI set to get more powers, aspirant companies seeking to enter the banking industry need to be well prepared

In a major breakthrough, the Banking Law (Amendment) Bill was recently passed in the lower house of Parliament. The development is likely to have major ramifications for the financial sector not only in paving the way for the issuance of new banking licences but also in attracting more foreign funds into the banking sector.

In an effort to ensure Indian banks adhere to international best practice and, as importantly, play on a level-playing field, the government amended the 60-year-old Banking Regulation Act, 1949. The amendments encompass the Banking Regulation Act, 1949, the Banking Companies (Acquisition and Transfer of Undertakings) Act, 1970, and the Banking Companies (Acquisition and Transfer of Undertakings) Act, 1980.

Central to the Bill is the mandatory requirement for entities/persons seeking to acquire share capital in a bank in excess of 5% to obtain approval from the Reserve Bank of India (RBI). The provision seeks to ensure not only that control of banks is available only to fit and proper persons but also that it is both in the public interest and in the interest of the broader banking industry. The Bill authorises RBI to halt transfers to the proposed transferee and, in a case where a transfer has been registered, the transferee shall not be entitled to exercise voting rights in any company meeting.

In the original version of the Bill, RBI sought to retain control over matters relating to the amalgamation, merger, reconstruction, or acquisition of banks, which would have otherwise been determined by the Competition Act, 2002. But in the face of stiff opposition politically, and in the larger interest of the other regulators, the clause was eventually dropped.

The amendment also simplifies the definition of approved securities to encompass those securities issued by the central or state governments or other securities as specified by RBI.

Providing the regulator with more effective control of the industry and increasing penalties to crores from thousands, the Bill provides RBI with more flexibility in its efforts to manage liquidity and rein in inflation via the cash reserve ratio (CRR). At the same time, the Bill empowers RBI to grant banks ad hoc exemptions from the CRR provisions.

The Bill also activates the significant funds that accrue in dormant accounts by aggregating into a single fund that can be used to promote the interests of depositors. Specifically, it proposes the establishment of a Depositor Education and Awareness Fund, which will comprise funds from non-operational accounts that have remained unclaimed for more than 10 years. Nonetheless, depositors are protected by a proviso that allows customers/depositors to claim previously unclaimed funds from the bank after the expiry of the 10-year period.

For India to enjoy a healthy banking sector, the regulator requires adequate powers to exert effective control over participants. Under the Banking Regulation Act, 1949, RBI has the power to remove a director or any other officer of the banking company. Such power is inadequate if the entire board of directors is working against the interest of the depositors and the banking industry. However, the insertion of Part IIAB, (Section 36ACA), the Bill proposes to confer powers to RBI to supersede those of the board for not more than 12 months. The chairman, managing director and other directors shall vacate the office from the date of supersession and will not be entitled to claim compensation from the date of termination.

When called upon to issue fresh private sector bank licences, it is right and proper for RBI to have sufficient powers to inspect the accounts and business of any associate enterprise of the applicant bank. Associate enterprises that have significant influence in the making of financial or policy decisions also come within the ambit of proposed amendments.

The Act equips the regulator with substantially enhanced powers. Nonetheless, until such time as the Bill completes its formal process of enactment, aspirant companies seeking to enter the banking industry concurrently need to be well prepared.

The author is a senior executive in a foreign bank. Views are personal