Move will protect depositors; could have been done a few years ago when LVB first ran into difficulties
If the central bank-owned Deposit and Insurance Credit Guarantee Corporation (DICGC) that insures Rs 37 lakh crore of bank deposits in the country has seen its premiums—for the deposit insurance—shoot up 60% in FY15-20 and surpluses rise 2.2 times over this period to over Rs 98,000 crore, it is because RBI rarely allows banks to fail. The latest example of RBI arranging a merger for an about-to-fail bank is that of the beleaguered Lakshmi Vilas Bank (LVB) and the India subsidiary of Singapore’s DBS Bank. While LVB’s depositors are now allowed to withdraw just Rs 25,000 each for another month, the plan is that the merger will provide enough assurance to its panicking clients to ensure there is no run on it. Since DBS has a strong enough balance sheet—it had NPAs of 2.7% as on June 30 and a 16% capital adequacy (against a requirement of 9%)—this will ensure the merged bank also has capital adequacy of 12.5% versus LVB’s 0.2%; and the Rs 2,500 crore of additional capital that DBS will bring will help sustain credit growth of the merged entity—to quote the RBI draft scheme of amalgamation—and will come in handy in case a section of depositors want out in the short-run. Over even the medium term, given how strong DBS’s balance sheet is, assuming it can amalgamate LVB into its operations seamlessly, the latter’s depositors should have little to fear; for DBS, the addition of 563 branches and 974 ATMs will help expand its India operations.
Indeed, while some are concerned that RBI should not have chosen to allow a foreign bank to take over an Indian entity, the central bank probably wanted to close the deal at the earliest; the fact that a state-owned bank was not asked to step in is good news. In any case, given several other banks also have weak financials, there will be several other merger alternatives; if the acquiring bank is strong, it is likely to get central bank approval.
If there is a quibble, it is that RBI may have waited too long before taking strong action. LVB has been in trouble for several years now. It was more than a year ago that the central bank placed it under the Prompt and Corrective Action (PCA) framework that put several restrictions on its lending as it had a negative return on assets for two consecutive years and didn’t have sufficient capital to manage its risks. All of this made LVB a good candidate for a merger with a healthy bank, and by allowing it to continue to operate for so long, RBI was taking a chance with the depositors’ money. In the case of the PMC cooperative bank where RBI also needed to put restrictions—over a year ago—on how much money could be withdrawn, it was argued that the central bank couldn’t do much more as it didn’t have the powers to supersede the bank’s board; but the same does not apply to commercial banks where RBI’s powers are quite explicit. While imposing a moratorium on banks—as was done for both PMC and LVB—helps ensure there is no run, not being able to come up with a strong succession plan only hurts depositor interests; the fact that a scheme of amalgamation was announced for LVB within a short while of the moratorium makes it clear RBI has done a good job.