RBI vs Government: Finance Ministry was aware of changes in PCA ahead of its rollout

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Mumbai | Published: November 5, 2018 2:48:13 AM

The Reserve Bank of India (RBI) had not just written a detailed letter, it had also made a presentation to the finance ministry before it rolled out the tighter norms for Prompt Corrective Action (PCA) in April 2017, persons familiar with these developments said.

At the time, the finance ministry responded to the central bank indicating it was “broadly in agreement” with the framework proposed by the RBI.

The Reserve Bank of India (RBI) had not just written a detailed letter, it had also made a presentation to the finance ministry before it rolled out the tighter norms for Prompt Corrective Action (PCA) in April 2017, persons familiar with these developments said.

At the time, the finance ministry responded to the central bank indicating it was “broadly in agreement” with the framework proposed by the RBI.

“The ministry had also sought clarification on one particular point, which RBI responded to. After that, there was no further response from the ministry,” said one of the people in the know of the exchange.

The government has been asking for some relaxation in the norms for these banks so they can lend more. The issue is understood to have been raised, among others, in a set of letters from the finance ministry to the central bank written in October.

In these letters, the finance ministry is understood to have invoked Section 7 of the Banking Regulation Act (RBI), persons in the know said.

“The letters did invoke part (1) of Section 7, which states that directions may be issued to the RBI, but not part (2) of the same section, which refers to the formation of a central board of directors,” they said.

Section 7(2) of the RBI Act states that subject to any such directions, the general superintendence and direction of the affairs and business of the RBI shall be entrusted to a central board of directors which may “exercise all powers and do all acts and things which may be exercised or done by the RBI”.

There are eleven state-owned banks for which PCA has been initiated and their share of advances and deposits as on March 31, 2018, was 18.5% and 20.8%, respectively.

In a recent speech, RBI deputy governor Viral Acharya had observed that despite worse capitalisation and stressed assets ratio compared to other banks, PCA banks had credit growth that was as strong as that of other banks up until 2014.

However, since the AQR exercise and the imposition of PCA, the year-on-year growth in advances for PCA banks has declined from over 10% in 2014 to below zero (contraction) by 2016 and remained in the contraction zone since.

Acharya noted that evidence on the sustained problem of asset quality at these lenders, “this is indeed the required medicine to prevent further hemorrhaging of their balance-sheets”.

Given how the asset quality at many of these lenders continues to slip, they might require a big infusion of both regulatory and growth capital before they can start lending more, industry experts have pointed out. While tightening the PCA norms in April 2017, the RBI continued to keep capital asset quality and profitability as the key metrics adding leverage ratio as a monitorable.

The government has infused more than `2.3 lakh crore in PSBs since 2005, more than half of which has gone into banks currently under PCA. Within PCA banks, almost half of the total infusion or `63,500 crore took place in FY18 and FY19, after the banks were classified under PCA.

Acharya said the recapitalisation has been an important contributor to financial stability of these banks and of the rest of the banking system they deal with.

In 2014, United Bank of India became the first bank for which the PCA was initiated. Two more were added in 2015 and eight other under-performing banks in 2017. Allahabad Bank was added to the list in January 2018.

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