The central bank?s discussion paper on new banks explores the option of allowing large industrial houses into the space. But interestingly, the cons outnumber the pros eleven to three. In support of roping in these business houses to grow the banking space, the Reserve Bank of India (RBI) says there may not be too many other entities that are able to muster the capital, especially if the threshold is high. The central bank also lauds the entrepreneurial and managerial talent available in industry and cites an IMF study, which concludes that industrial companies could act as a source of contingent capital for banks.
But somehow the few advantages of opening the doors don?t seem to be very convincing. Indeed, the the long list of negatives in the document indicates that the central bank is fully aware of the dangers. Sample this: ?The complex web of relationships of commercial firms with their customers or suppliers and proper monitoring of preferential access to credit would be very difficult.? At another point, it observes that, ?…there is a a great risk of diverting the funds to liquidity constrained operations of the group. Further… they may be able to rotate funds from one entity to another, which makes it difficult for the supervisors and regulators to trace the source and utilisation of funds, especially when all the entities are not regulated by one regulator.?
It?s true that the government may not be in a position to keep supporting its banks and it doesn?t also want to dilute its stake below 51%. It?s also true that we are an under-banked country but there?s no need to rush things. The option that RBI has put forth of allowing those business houses that have a predominant presence and experience in the financial sector could be given a chance, subject to due diligence, does, however, merits consideration. If the bulk of the conglomerate?s business is in the financial services space then it?s only fair they be given a hearing. In many cases they may turn out to be better candidates than many NBFCs.
As the central bank points out, the history of such groups would be known from other regulators and so it would be easy to allow in only those with a sound track record. The negative that the possible concentration of economic power in all the major areas of business and finance could potentially threaten financial stability, is no doubt, a bit of a concern. But good regulation and supervision should ensure that this doesn?t happen and the various regulators can stay in touch to exchange notes so that alarm bells are rung at the earliest.
In fact, RBI has come up with a long list of possible safeguards to address the downside risks of industrial and business houses promoting banks. However, given the ingenuity of our businessmen, no matter how strict the controls and how vigilant the supervision, it won?t be easy to monitor them. Even the suggestion that the majority of directors be independent directors may not be good enough; this country hasn?t seen too many independent directors really blowing the whistle. Also, while RBI wants to be empowered to supercede the board, so that it can step in if it feels that the functioning of the bank or board is not in the interests of depositors or financial stability, hopefully any mismanagement will be discovered sooner rather than later because otherwise the damage would be done.
The idea to ask business houses to take over regional rural banks before considering whether they can set up banks is not a bad idea. RBI has put it nicely when it says, ?the decision or otherwise to allow industrial and business houses to promote banks would be a much more measured and balanced one due to the experience gained.? Although the 11 points that go against allowing business houses are convincing enough not to let them into the banking space, if some of them can demonstrate that they are committed players, they certainly deserve a chance. It?s also interesting that while dealing with the option of allowing NBFCs to become banks, the cons outnumber the pros eight to three.
Without doubt, the risks are many. However, at least NBFCs are regulated by RBI so it will be far easier to gauge how eligible they are to become banks. Also, specialised NBFCs may be able to scale up if they have access to low-cost funds. But judging by the negatives, it seems the central bank is really reluctant to let them into the banking space. That?s a good thing; after all the NBFC model and banking model are different and they haven?t really been subject to the kind of supervision that banks have. How they will acquit themselves once they start borrowing from retail customers remains to be seen.
As for capital, a minimum capital of Rs 1,000 crore is necessary not just because it will ensure that only serious players enter the arena. And there is no question of them not playing a meaningful role in financial inclusion. RBI must see to it that they do.
shobhana.subramanian@expressindia.com