Tackling bank failure with FRDI Bill: Trust of depositors must be on priority, says former RBI Deputy Governor Thorat

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Updated: December 21, 2017 10:35:08 AM

It’s the trust of the depositor in the bank that should play pre-eminence over the other factors. The government can also look at an alternative to exclude bank deposits from the bail-in provision in the bill.

The concerns have been raised from different quarters about certain provisions of the bill.

The Financial Resolution and Deposit Insurance Bill 2017 (FRDI) has evoked controversy since the day it was first tabled in the Lok Sabha in August this year. The concerns have been raised from different quarters about certain provisions of the bill, mainly the bail-in.  In the latest, Lok Sabha Speaker Sumitra Mahajan has granted the joint panel on the FRDI Bill an extension of time to table it up to the last day of Budget Session 2018. However, a question here arises why the FRDI bill is being given priority over the existing Banking Regulation Act and the Deposit Insurance Scheme? Isn’t the Banking Act truly comprehensive and inclusive? In addition, there have been instances of the RBI pitching in at difficult times to protect the interests of depositors in commercial banks. Then, where does the need to introduce FRDI bill arise? Writing in The Indian Express, Usha Thorat, former Deputy Governor of the Reserve Bank of India says, “The RBI has no powers of resolution in case of public sector banks. Under the existing legislation, there are no legal provisions for the RBI to resort to options such as receivership, bad bank-good bank, bridge bank etc. The proposed bill gives such options to the Resolution Authority.” Suggesting a way-out on how certain types of financial liabilities can be given priority over others, Usha Thorat says that banking regulators can also ask banks to issue a special category of debt instruments that have a loss-bearing capacity or bail-in provisions. However, she is confident about the comprehensive nature of the bill and states, “The proposed bill is thus a comprehensive one to deal with the resolution of all financial firms in accordance with the global standards while bringing in an optimal deposit insurance system within the same law.”

But, here comes the other question: What’s the urgent need for a country like India to introduce such a bill when there hasn’t been any banking crisis? If some countries have excluded deposits from the purview of bail-in, why can’t this be done in India? Usha Thorat has an answer, she says, “FSDC Group recommends that the bail-in framework should cover the capital instruments (additional Tier 1 and Tier 2) as well as other unsecured creditors, while deposit liabilities, interbank liabilities, and all short-term debt, which if subjected to bail-in can induce financial instability, would be excluded from bail-in.” But other unsecured creditors, such as bonds or commercial papers (CP), can be subject to such a bail-in. The regulators can also ask banks to have a certain proportion of liabilities issued with the bail-in clause. So, in case the capital reserves and provisions are not sufficient to absorb the NPA losses, the bail-in clause can be invoked. But these will usually be for informed and large investors.”

However,  she agrees to the larger concern and says the banker-depositor relationship is a fiduciary in nature and a common depositor doesn’t look at the banks’ balance sheets before placing his hard-earned savings there. It’s the trust of the depositor in the bank that should play pre-eminence over the other factors. The government can also look at an alternative to exclude bank deposits from the bail-in provision in the bill. “The bail-in clause could include other types of unsecured liabilities such as bonds and CPs. The government could, in fact, also consider keeping banks outside the purview of the proposed Bill,” she adds.

About FDRI bill

  1. The bill was first brought to attention by Union Finance Minister Arun Jaitley in his 2016-17 budget speech. The senior BJP leader had said that a systemic vacuum exists with regard to bankruptcy situations in financial firms and that a comprehensive Code on Resolution of Financial Firms will be introduced as a Bill in the Parliament during 2016-17.
  2. In March 2016, a committee was set up under the chairmanship of Ajay Tyagi, additional secretary, Department of Economic Affairs, Ministry of Finance, to draft and submit the Bill.
  3. The draft of Financial Resolution and Deposit Insurance Bill 2017 was drawn up based on the recommendations of this committee.
  4. The finance ministry, then, gave time until 31st October 2016 to given comments. After considering the suggestions, the Union Cabinet approved  introduction of FRDI Bill 2017 in the Parliament.
  5. The Finance Ministry believes that the bill seeks to protect customers of financial service providers in times of financial distress.
  6. The bill will also help to encourage discipline among the financial service providers by putting a limit on the use of public money to bail out distressed entities.
  7. It seeks to decrease the time and costs involved in resolving distressed financial entities.
  8. In order to strengthen the stability and resilience of the entities in the financial sector, a resolution corporation will be set up after the bill is enacted.
  9. However, the FRDI Bill has received its share of criticism from various stakeholders for some of its controversial provisions including a ‘bail-in’ clause which suggests that depositor money could be used by failing financial institutions to stay afloat.
  10. Another controversial inclusion is that the Resolution Corporation (rescue body) which is proposed under the Bill, can use your money in case the bank sinks. The bill empowers the rescue body to decide the amount insured for each depositor.


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