Finance Minister Arun Jaitley once again assured depositors over the proposed Financial Resolution and Deposit Insurance (FRDI) Bill and said that the government is committed to safeguarding depositors’ money. He also asked depositors to not give into “fears being spread on the social media”, ET Now reported. Earlier in the day, the ruling Bharatiya Janata Party (BJP), had come out with a detailed explanation, claiming to differentiate between the myths and the facts.
Clearing its stance on the bill, the government had explained how the provisions of the FDRI bill, 2017 are actually meant to protect interests of depositors:
1)The FRDI Bill is far more depositor friendly than many other jurisdictions, which provide for statutory bail-in, where the consent of creditors or depositors is not required for bail-in.
2) The FRDI Bill does not propose in any way to limit the scope of powers for the Government to extend financing and resolution support to banks, including Public Sector Banks. The Government’s implicit guarantee for Public Sector Banks remains unaffected.
3) Indian Banks have adequate capital and are also under prudent regulation and supervision to ensure safety and soundness, as well as systemic stability. The existing laws ensure the integrity, security and safety of the banking system. In India, all possible steps and policy measures are taken to prevent the failure of banks and protection of interests of depositors (e.g. the issue of directions / prompt corrective action measures, capital adequacy and prudential norms).
4) The FRDI Bill will strengthen the system by adding a comprehensive resolution regime that will help ensure that, in the rare event of failure of a financial service provider, there is a system of quick, orderly and efficient resolution in favour of depositors.
Everyone has long been used to the word “bailout”, where governments step in to protect the interests of savers or depositors — like in the UK when there was a run on the deposits of banks such as Northern Rock, Llyods Bank, or RBS. There were cases in the US and other parts of Europe, too. The fact that huge public funds were used for such support, and criticism that bailouts incentivised bank management to take risky bets — called “moral hazard” by economists — led governments to seek other solutions. Regulators put in place laws and rules to discourage or prevent such bailouts with new resolution regimes. Losses of these financial firms had to be borne by shareholders and creditors rather than taxpayers. One of the tools for such resolution is “bail-in”. It allows resolution agencies to override the rights of the shareholders of the firm — this could mean writing down of a company’s equity and debt to absorb losses, or converting debt into equity. This could also mean overriding requirements such as approvals by shareholders and dispose of the firms’ assets. The G20 at its Cannes Summit in 2011 endorsed some of the key attributes of such resolution, including transfer or sale of assets and liabilities, and legal rights and obligations including deposits liabilities and ownership in shares, to a third party without any requirement for consent. In other words, deposit holders do not have any superior claims.
What is the rationale behind this bail-in provision?
The principal aim, of course, is to minimise the cost of any such failures of financial firms to taxpayers. The other objective, as the EU’s Bank Recovery and Resolution Directive, 2014, indicates, is that shareholders of banks and creditors must also pay their share of costs, rather than governments or taxpayers absorbing all losses. The Bank of England has been pushing banks in the UK to set aside more funds to cover for potential failures. The aim, the UK central bank says, is to ensure banks no longer remain “too big to fail”, and to make sure that the risks that banks take are properly priced by investors who know they will suffer if things go wrong.
What is the worry that depositors and others have regarding the provision in the proposed Indian law?
India’s financial sector is bank-dominated, and bank deposits make up the dominant share of financial savings. The fear is Indian policymakers may want to nudge savers on the same path as in many other parts of the world — to ultimately lower risks and the potential burden on taxpayers, although there is no explicit mention of this in the proposed law. In India, deposits in banks are insured for a maximum of Rs 1 lakh by the Deposit Insurance and Credit Guarantee Corporation, which is now an arm of the RBI. There are concerns that the Bill may not clearly lay down the quantum of protection for deposits, or classify deposits separately.