Knee-jerk reactions are generally meant to either divert the attention or an action that is taken without much deliberation. The action taken generally fails or proves to be redundant, since an element of hastiness is involved in it. The case in hand here is the Union Cabinet’s decision to set up the National Financial Reporting Authority (NFRA) to oversee accounting and auditing norms at all listed and large unlisted companies. Bank fraud and scams to usurp precious public money have been an old practice in the country. NFRA was being pondered upon for some time, but it was hastened in the wake of diamantaire Nirav Modi, along with Mehul Choksi, defrauding PNB of $2 billion. The issue here is, would NFRA recover the money? If not, why not strengthen or streamline the present system rather than creating another layer of red tape through NFRA. This would only go against the spirit of “ease of doing business.” There are hundreds and thousands of industrialists putting their best efforts for the development of the country. All of them are not dishonest; Modis, Choksis or Mallyas in such type of bank scams and cheating are also not uncommon in developed countries, so every industrialist or businessman cannot be presumed to be dishonest. Otherwise, the industrial progress of the country will come to a halt. The mandate of NFRA is to oversee accounting and auditing norms in the country.
If that is the case, then why not employ RBI and the Institute of Chartered Accountants of India (ICAI) to strengthen the system to oversee the norms, rather than creating another body. In the past, too, institutions were created, but these only added up to files being piled up and an additional layer being created in the bureaucracy. The Enron scam is a good example where the then government took two actions. One, amendment of Clause 49 of the Listing Agreement, asking listed companies to reveal all and hide nothing. Two, setting up of the Serious Fraud Investigation Office (SFIO) to crack down on economic offences. Amendment of Clause 49 was to strengthen the existing system and, by and large, it worked well. However, SFIO added another layer. Since March 2007, SFIO has inquired less than 100 cases and submitted less than 20 reports. None of these cases were taken up suo motu. So one wonders why SFIO was created when SEBI and Excise and Customs departments were already present. NFRA is an attempt to copy the Public Company Accounting Oversight Board (PCAOB), which is not a big success anyway. After Enron scam, the US passed the Sarbanes-Oxley Act, which created PCAOB. It only creates more confusion where offenders sneak through the loopholes. It will take an epic to cite all such examples. Coming back to the PNB scam, let’s see how the existing laws are good enough to handle similar cases and why NFRA would be an effort in the wrong direction, duplicating the present laws. For example, RBI’s 2015 master circular/direction that is about ECB, trade credit, and borrowing and lending in foreign currency by authorised dealers and persons other than authorised dealers. The RBI direction clearly talks about potential risk and loopholes, and says: “Letter of Undertakings (LOU) being a recently developed Indian banking industry specific instrument and unlike the internationally operated trade finance products like Letters of Credit etc, it is prone to many risks and loopholes.”
This is only one such observation and many others are present in notifications, circulars and memos of present laws/institutions. The point here is, when such laws are already there, then why is the government not using them to protect the financial system, the way it did by amending Clause 49 of the Listing Agreement. Why can’t the government strengthen the present regulatory system the way it did by empowering SEBI to handle the issues related to the Forward Markets Commission (FMC)? Why is the government resorting to a knee-jerk reaction because of one case, which is the result of ignoring the signals from the present system? Both the PNB scam and the Kingfisher-Mallya episode are classic cases where banks sat on the problem for too long. Even if it was late, just see the procedural failure in the banking system. The media reported that the scam was detected in the later part of 2017, but it was actually reported to CBI on January 29, 2018. Why such a lag? And now this diversion where the government would probably lose precious public money in setting up a new regulator! Prime Minister Narendra Modi’s and finance minister Arun Jaitley’s advisors would do a disservice to the nation if they do not advice them the reasons of PNB scam in its entirety. There has been a long-standing practice of making technical write-offs by public sector banks to improve their balance sheets and the government never prevented self-cheating exercise by banks to brighten the image of the bank in the public view.
Literally, there is nothing like a technical write-off, which is, in fact, a real write-off. The truth is that Deloitte Haskins, the auditor of Firestar International Ltd (Nirav Modi’s firm), had raised concerns two years ago over the weak internal control system. Why didn’t the bank or the government act after that? Overall, on the regulation front (in the present system), RBI forms panel of independent CAs every year in consultation with ICAI. The panel, in turn, should be handed over to any third-party (other than the bank’s management). This third-party should appoint auditors from the panel already finalised by ICAI and RBI jointly. Apart from this, internal and concurrent auditors should be appointed from this panel in a similar manner. The objective of the exercise should be that the bank management itself should not be placed in the position of appointing authority of auditors. When such a mechanism is already in place, it is difficult to fathom why a new layer needs to be added. Regulation is laudable, but meek legislation for regulation would prove to be counterproductive as it has happened in the past.
Advocate on Record, Supreme Court