The five years since the onset of the global financial crisis have seen policymakers across the globe strive to rebuild
their financial systems to ensure robustness and mitigate contagion risks with a view to preventing future crises.
In addition to strengthening the regulatory and supervisory framework, the Reserve Bank has also focused on
mitigating risks amid asset quality concerns in the banking and non-banking space. It has set up early warning
mechanisms and facilitated mechanisms for continuous monitoring of the credit quality of borrower accounts.
It has initiated the process of countercyclical buffers to ensure financial soundness. NBFCs, in general, have a
wider reach to the otherwise less banked customers and hence play a crucial role in promoting financial inclusion.
Therefore, they also warrant careful supervision and regulation so as to ensure customer protection.
VI.1 Contagion risks from international banks’
balance sheets during the global financial crisis
and the spillover effects on to sovereign balance
sheets that got highlighted in the euro area crisis
thereafter underscore the importance of a policy
framework in ensuring financial stability. The
recent exchange market pressures that were
witnessed following the announcement of the US
tapering of quantitative easing in the face of a
weak domestic economy and stressed assets
scenario of the banking sector brought to the fore
the fragilities of the domestic market prompting
sustainable macro-prudential solutions from Indian
policymakers.
VI.2 In its efforts to foster a resilient financial
system to ensure systemic stability, the Reserve
Bank proactively stepped up measures to identify
risky credit, to track and monitor such disbursals
and to appropriately pre-empt delinquency, and
where unavoidable to ensure quick and costeffective
retrieval processes so as to prevent
losses and a possible system-wide contagion. It
also strove to implement a fairer regime of credit
pricing across bank and non-bank sectors.
Initiatives for enhancing customer services and
improving banking awareness and reach continue
to hold priority in the Reserve Bank’s agenda on
regulatory and supervisory measures.
FINANCIAL STABILITY ASSESSMENT
Asset quality of banks remains under stress due
to a cyclical downturn, sector specific issues
VI.3 The soundness and asset quality parameters
of the banking sector deteriorated during the year
(Table VI.1). These indicators, however, showed
signs of improvement during the last quarter. The
capital to risk weighted assets ratio (CRAR)
declined during 2013-14. Liquidity and profitability
indicators continued to show stress.
VI.4 Various banking stability measures based
on co-movements in bank equity prices indicate
that the distress dependencies within the banking
system that were rising since Q2 of 2013-14, have
remained stable since January 2014. Stress tests
assuming severe stress conditions show that
although the system level CRAR of scheduled
commercial banks (SCBs) remains well above the
regulatory minimum, there is a need for higher
provisioning to meet the expected losses under
adverse macroeconomic conditions. However,
under normal conditions further significant
deterioration seems unlikely.
Implementation of FSDC and FSB reforms on
course
VI.5 The sub-committee of the Financial Stability
and Development Council (FSDC) is examining ways for developing an account aggregation facility
that will enable a customer to view all his/her
financial assets at one location. It is also coordinating
with financial sector regulators towards uniform
implementation of certain recommendations of the
Financial Sector Legislative Reforms Commission
(FSLRC) that do not require legislative amendments/ new legislations. The sub-committee, which met
thrice during July 1, 2013 and June 30, 2014 is
also pursuing the implementation of various
reforms in India which have been agreed to under
G-20 deliberations. In this regard, various interagency
implementation groups have been set up
(Box VI.1).
Box VI.1
Implementation of Internationally Agreed Reforms in India
The Financial Stability Board (FSB) was established in 2009
to coordinate the work of national financial authorities and
international standard setting bodies at the international level
and to develop and promote the implementation of effective
regulatory, supervisory and other financial sector policies in
the interest of financial stability. Since then, the FSB has
proposed a vast spectrum of regulatory and supervisory
reform measures which on the basis of their scope can be
broadly grouped as measures/reforms: (a) to end too-big-to
fail syndrome; (b) to establish safe and secure markets and
market infrastructure; (c) to address the issue of shadow
banking; and (d) to establish macro-prudential frameworks.
As a signatory of G-20 and a member of the FSB, India is
committed towards implementing the reforms that have been
agreed to in the post-crisis international environment. The
sub-committee of the Financial Stability and Development
Council (FSDC) acts as a facilitator between various
agencies and authorities in each jurisdiction to oversee the
implementation of the reforms. It has set up inter-regulatory/
inter-agency implementation groups in several critical areas
with the mandate of identifying the way forward with regard
to implementation of the reforms, the details of which are
as follows:
• A working group on effective resolution regimes for
financial institutions (Chairmen: Shri Anand Sinha and
Dr Arvind Mayaram) has recommended that there
should be a separate comprehensive legal framework
providing necessary tools to resolve issues relating
to all financial institutions and financial market
infrastructures irrespective of the existing statutes
governing various types of financial institutions. It
also proposes the constitution of a single Financial
Resolution Authority that is institutionally independent
of the regulators/supervisors and the government.
Other recommendations include initiating resolution action in a timely and speedy manner; avoiding erosion
of value and minimising costs of resolution, while
ensuring continuity of essential financial services such
as payments and clearing and settlement; protecting
depositors, insurance policyholders and client funds/
assets through protection schemes and ensuring
imposition of losses to shareholders and unsecured
creditors.
• The recommendations of the Implementation Group
for Over the Counter (OTC) Derivatives and Market
Reforms (Chairman: R. Gandhi) are at various stages
of implementation with timelines extending up to March
2015.
• The Clearing Corporation of India Ltd. has been
identified to set up facilities to issue globally compatible
legal entity identifiers; it is in the process of setting up
the requisite technological infrastructure.
• The inter-regulatory/inter-agency Shadow Banking
Implementation Group, is presently working on
(i) assessing the compliance position of all the financial
sector regulators in their regulatory domain vis-à-vis
FSB policy guidelines; (ii) preliminary gap analysis
to identify reform measures that can be implemented
and those where implementation is not desirable;
(iii) reasons for identifying certain reform measures as
not desirable given the ‘comply or explain’ framework;
and (iv) tentative timelines for implementing reforms.
• The inter-agency group on reducing reliance on credit
rating agencies (CRAs) has observed that though
there were references to CRA ratings in the regulations
of respective segments of the financial sector, these
served as a supplementary input for risk assessment.
Market participants are, therefore, expected to do their
due diligence prior to investments, such that there is no
mechanistic reliance on CRAs.
ASSESSMENT OF THE BANKING SECTOR
Trends in key financial soundness indicators
VI.6 Slowdown in the domestic economy has
caused strains on a number of companies/projects
resulting in higher non-performing assets (NPAs)
and restructured accounts in the Indian banking
system in recent years. This has impacted bank
profitability as evident from the dwindling return
on assets. Increased provisioning requirements to
cover delinquencies and rise in operating expenses (reflected in an increase in the cost income
ratio) adversely affected bank profitability, especially in 2013-14 (Table VI.1).
VI.7 The return on equity declined in most
segments on account of lower profitability coupled
with fresh infusion of capital post the implementation
of Basel III capital norms since April 1, 2013.
Though the all-India financial institutions (AIFIs)
show improvements in their efficiency parameters,
they also seemed to post weak performance in
2013-14 with respect to other parameters. To put
in place an early warning system for prompt recognition of impending stress in the face of
growing NPAs, the Reserve Bank issued a
framework for revitalising distressed assets in January 2014. Under the proposals of the framework,
the Central Repository of Information on Large
Credits (CRILC) has been set up set up (Box VI.2).
Table VI.1: Select Financial Indicators |
(Per cent) |
Item |
End-March |
Scheduled Commercial Banks (SCBs) |
Scheduled Urban Co-operative Banks (UCBs) |
All India Financial Institutions (AIFIs) |
Primary Dealers (PDs) |
Deposit taking NBFCs |
NBFCs-ND-SI |
1 |
2 |
3 |
4 |
5 |
6 |
7 |
8 |
CRAR # |
2013 |
13.9 |
12.7 |
19.9 |
39.4 |
22.3 |
28.0 |
|
2014 |
13.0 |
12.6 |
17.8 |
48.6 |
22.2 |
28.3 |
Core CRAR # |
2013 |
10.3 |
|
|
|
19.0 |
24.3 |
|
2014 |
10.1 |
|
|
|
17.8 |
25.0 |
Gross NPAs to Gross Advances |
2013 |
3.4 |
5.4 |
0.6 |
|
2.5 |
3.5 |
|
2014 |
4.1 |
5.4 |
0.6 |
|
3.1 |
4.0 |
Net NPAs to Net Advances |
2013 |
1.7 |
1.3 |
0.2 |
|
0.8 |
1.6 |
|
2014 |
2.2 |
1.6 |
0.1 |
|
1.0 |
2.0 |
Return on Assets |
2013 |
1.1 |
0.9 |
1.0 |
1.5 |
2.7 |
2.1 |
|
2014 |
0.8 |
0.7 |
0.9 |
1.9 |
2.7 |
2.2 |
Return on Equity |
2013 |
12.9 |
|
9.5 |
10.1 |
15.4 |
8.6 |
|
2014 |
9.5 |
|
8.8 |
13.3 |
15.0 |
8.8 |
Efficiency (Cost/Income Ratio) |
2013 |
46.2 |
50.4 |
17.0 |
27.2 |
72.2 |
73.9 |
|
2014 |
48.0 |
56.1 |
18.8 |
30.6 |
76.5 |
72.1 |
Interest Spread (Per Cent) |
2013 |
1.9 |
|
2.0 |
|
3.6 |
5.3 |
|
2014 |
1.9 |
|
1.9 |
|
3.7 |
5.6 |
Liquid Assets to Total Assets |
2013 |
28.8 |
33.6 |
|
|
9.1 |
4.8 |
|
2014 |
28.4 |
35.2 |
|
|
10.7 |
4.8 |
Restructured Assets to Gross Advances |
2013 |
5.8 |
0.5 |
|
|
|
|
|
2014 |
5.9 |
0.6 |
|
|
|
|
#: Mar-13 as per Basel II and Mar-14 as per Basel III.
Note: 1. Core CRAR is calculated as Tier-I Capital/Total Risk Weighted Assets.
2. Liquid assets include cash and bank balances and investments in government securities.
3. Audited data for NABARD, SIDBI and EXIM for the year ended March 31, 2013.
4. Audited data for NHB for the year ended June 30, 2013; in case of NHB the financial year is July to June.
5. Un-audited data for March 31, 2014 for NABARD, SIDBI and NHB and audited data for EXIM.
Source: OSMOS returns (SCBs); Off-site surveillance returns (UCBs); PD returns (PDs); COSMOS returns (NBFCs); data received from FIs. |
Box VI.2
Framework for Revitalising Distressed Assets in the Economy: Pivotal Role for CRILC
Asymmetry in information is a fundamental challenge that
impacts the quality of banks’ credit risk assessment and
supervisors’ ability to track emerging credit risks in the
system. With a mandate of activating and coordinating the
mechanism to manage stressed assets in the economy so
that transparent credit information becomes available for
sound risk management and financial stability, the Reserve
Bank introduced the ‘Early Recognition of Financial
Distress, Prompt Steps for Resolution and Fair Recovery
for Lenders: Framework for Revitalising Distressed Assets
in the Economy’ in January 2014. The framework outlines a
corrective action plan to incentivise: (i) early identification of
problematic accounts, (ii) timely restructuring of accounts
that are considered to be viable, and (iii) lenders taking
prompt steps for recovery or sale of unviable accounts.
The Reserve Bank set up the Central Repository of
Information on Large Credits (CRILC) in April 2014 to
collect, store and disseminate credit data to lenders.
CRILC’s essential objective is to enable banks to take
informed credit decisions and early recognition of asset
quality problems by reducing information asymmetry.
CRILC captures borrower-wise details of funded and nonfunded
exposures including investments.
Banks are required to furnish credit information to CRILC
on all their borrowers having aggregate fund-based and
non-fund based exposure of `50 million and above with
them. Notified systemically important non-banking financial
companies and NBFC-Factors will also be required to
furnish such information. In addition, banks are required
to furnish details of all current accounts of their customers
with outstanding balance (debit or credit) of `10 million and
above. Lenders in India covered under the framework are
also required to report the external commercial borrowings
extended by their overseas branches/offices to Indian
borrowers.
In order to capture early warning signals of financial
distress faced by borrowers, the framework requires banks
to report, among others, special mention accounts’ (SMAs)
status of the borrower to CRILC on a real time basis. While, SMA-1 (principal or interest overdue between 31-60
days) and SMA-2 (principal or interest payments overdue
between 61-90 days) will be based on past due criteria,
SMA-0 will contain non-past due accounts showing signs of
incipient stress. When a bank reports a borrower as SMA-
2 to CRILC, an auto flash report is sent to all other banks
having exposure to that borrower so that the lenders can
take necessary steps to form a joint lenders forum (JLF)
and take necessary corrective actions as laid down in the
framework.
The option under the corrective action plan by the JLF will
generally include: (i) rectification, (ii) restructuring, and (iii)
recovery. Forming a JLF will be mandatory for distressed
borrowers engaged in any type of activity, with aggregate
fund based and non-fund based exposure of `1 billion and
more. Restructuring can be carried out either under the
corporate debt restructuring mechanism or under JLF, but if
not found to be feasible, JLF will initiate recovery measures.
While incentives have been proposed to encourage lenders
to agree collectively and quickly on resolution plans, nonadherence
to regulatory guidelines has been disincentivised
by way of accelerated provisioning.
For restructuring of dues of listed companies, lenders may
be ab-initio compensated for their loss/sacrifice (diminution
in fair value of account in net present value terms) by way
of issuance of equities of the company upfront, subject to
extant regulations and statutory requirements. Disincentives
have also been proposed for: (i) willful defaulters and noncooperative
borrowers, making their future borrowings more
expensive, and (ii) for auditors, advocates and valuers who
provide incorrect opinions about borrowers and their assets
leading to deterioration in the asset quality of banks.
The framework also prescribes more liberal regulatory
treatment of asset sales and incentives for asset
restructuring companies in order to improve the stress
asset reconstruction and rehabilitation market. Necessary
regulatory circulars on the proposals of the framework have
been issued by the Reserve Bank. The framework became
operational from April 1, 2014.
Table VI.2: Indicators |
(Per cent) |
|
Gross NPA Ratio |
Net NPA Ratio |
Restructured Structured
Advances
to Gross Advances |
Mar-13 |
Mar-14 |
Mar-13 |
Mar-14 |
Mar-13 |
Mar-14 |
1 |
2 |
3 |
4 |
5 |
6 |
7 |
Public sector banks |
3.8 |
4.7 |
2.0 |
2.7 |
7.2 |
7.2 |
Private sector banks |
1.9 |
1.9 |
0.5 |
0.7 |
1.9 |
2.3 |
Foreign banks |
3.0 |
3.9 |
1.0 |
1.1 |
0.2 |
0.1 |
Aggregate |
3.4 |
4.1 |
1.7 |
2.2 |
5.8 |
5.9 |
Source: Off-site returns covering domestic operations of banks. |
NPAs came to the fore for some banks, but health
of the banking sector remains satisfactory
VI.8 The asset quality of the banking system
showed deterioration during 2013-14 mainly
reflecting the performance of public sector banks
(PSBs). Not only were the gross and net NPA ratios
of PSBs more than the industry averages, but they
also accounted for about 92 per cent of the
restructured standard advances (Table VI.2).
VI.9 The increase in the level of restructured
standard advances since 2012-13 reflects
potential hidden stress in the quality of loan assets.
The improvement in NPAs during Q4 of 2013-14
needs to be cautiously examined in the face of the
increased offload of loans to asset restructuring
companies (ARCs) by banks (Table VI.3).
Table VI.3: Loan Sales to ARCs |
(` billion) |
Bank Group |
Jun-12 |
Sep-12 |
Dec-12 |
Mar-13 |
Jun-13 |
Sep-13 |
Dec-13 |
Mar-14 |
1 |
2 |
3 |
4 |
5 |
6 |
7 |
8 |
9 |
Public sector banks |
- |
0.2 |
0.2 |
3.2 |
0.1 |
1.6 |
32.0 |
121.0 |
Private sector banks |
1.0 |
0.9 |
1.6 |
2.7 |
0.5 |
4.4 |
3.7 |
5.9 |
Foreign banks |
0.1 |
0.4 |
1.2 |
1.7 |
0.2 |
- |
- |
0.1 |
All Banks |
1.1 |
1.5 |
3.0 |
7.6 |
0.8 |
6.0 |
35.7 |
127.1 |
Note: Data show flows during the quarter.
Source: Off-site returns covering domestic operations of banks. |
Increasing share of non-priority sector advances
in NPAs
VI.10 The non-priority sector has contributed
more in the deterioration of the loan asset quality
of the banking sector in recent years. The
proportion of aggregate gross NPAs in the priority
sector to the gross NPAs of the system stood at
36 per cent at end-March 2014, down from about
40 per cent last year. Within the priority sector, the
NPA ratio has risen for the medium and small
industry segment (Table VI.4).
Major industry segments account for an over one-third
share of total NPAs
VI.11 About 47 per cent of the aggregate credit
outstanding by the banks was to the industrial
sector, which alone accounted for over 58 per cent of gross NPAs of the system as at end-March 2014.
Gross advances to six industries - infrastructure,
metal & products, textiles, chemical & chemical
products, engineering industries and mining &
quarrying - constituted 30 per cent of total
advances and 36 per cent of gross NPAs.
Table VI.4: Gross NPAs Across Sectors |
(as per cent of gross advances to the sector) |
|
Mar-11 |
Mar-12 |
Mar-13 |
Mar-14 |
1 |
2 |
3 |
4 |
5 |
Agriculture |
3.3 |
4.3 |
4.7 |
4.4 |
Medium & Small Enterprises |
3.6 |
4.0 |
5.1 |
5.2 |
Other Priority Sector |
4.0 |
4.4 |
3.0 |
3.0 |
Total Priority Sector |
3.6 |
4.2 |
4.4 |
4.4 |
Non Priority Sector |
1.8 |
2.3 |
3.0 |
4.0 |
Total |
2.4 |
2.9 |
3.4 |
4.1 |
Source: Off-site returns covering domestic operations of banks. |
Retail credit increases, but NPAs decline
VI.12 Retail credit increased marginally to form
19 per cent of gross credit as at end-March 2014,
with individual housing loans as its largest
component (47 per cent) followed by personal
loans (36 per cent) and auto loans (14 per cent).
Notwithstanding the marginal increase in retail
loans outstanding, gross NPAs in retail credit fell
to 2.0 per cent as compared to 2.3 per cent last
year. This was also significantly lower than the
overall gross NPA ratio.
MAJOR DECISIONS TAKEN BY THE BOARD FOR FINANCIAL SUPERVISION
VI.13 The Board for Financial Supervision (BFS)
constituted in 1994, remains the principal guiding
force behind the Reserve Bank’s supervisory and
regulatory initiatives. The BFS met 11 times during
July 2013 and May 2014. This inspection cycle
covered 49 banks under the CAMELS approach
and 28 banks under the risk based supervision
(RBS) approach. The annual financial inspection
memoranda with respect to all banks and AIFIs
programmed for inspection during 2013-14 had
been submitted to the BFS by April 2014. Baseline supervisory review of 15 foreign banks with small
operations in India was also placed before the BFS.
VI.14 Some of the major issues discussed with
the BFS this year pertain to broadening the capital
base of select SCBs, process of supervisory stress
testing of commercial banks, on-lending of the
rural infrastructure development fund,
subsidiarisation of foreign banks in India, quality
of the management information system and data
integrity, governance issues, faulty incentive
structures/practices in banks for cross-selling
insurance products, arbitrary interest rate charges,
deficiencies relating to un-reconciled export bills
for collection, rising stress in asset quality and
need for periodic inspection of credit information
companies.
VI.15 As directed by the BFS, the process of
levying penalty was reviewed and a revised
procedure for imposing penalty under the Banking
Regulations Act (BR Act), 1949 was laid out. A
thematic study on the modus operandi and action
taken by banks in fraud cases involving an amount
of `500 million and more was also undertaken by
the Reserve Bank.
VI.16 Inspection of a nationalised bank indicated
a sizeable increase in its NPAs, especially
slippages and write-offs. The BFS directed a
special scrutiny to determine the cause and also
the measures taken by the bank to overcome this
position. With regard to a major fraud reported by
some banks, the BFS directed that a joint study
be undertaken with the Securities and Exchange
Board of India (SEBI) to find the lapses on the part
of the bank and the company. A forensic audit was
also initiated.
VI.17 With regard to scheduled urban cooperative banks (UCBs), the BFS reviewed 42 summaries of inspection reports, summaries of financial highlights for 30 UCBs rated between A+ and B and 12 UCBs rated between C+ and D. The proposal to revise the norms for including licensed UCBs in the Second Schedule to the Reserve Bank of India Act (RBI Act), 1934 was approved.
The BFS also called for a staggered deadline for
migration to core banking solutions (CBS) across
all UCBs depending on their deposit sizes.
VI.18 Based on a review of the status of 23
unlicensed district central cooperative banks
(DCCBs), the BFS recommended initiation of
regulatory action against these banks. On a review
of the functioning of regional rural banks (RRBs),
the BFS directed that a minimum CRAR of 9 per
cent for all RRBs from March 31, 2014 should be
prescribed. Further, the exemption from mark-to-market
norms with respect to the statutory liquidity
ratio (SLR) securities granted to RRBs since 1995
was withdrawn. The BFS also directed to prescribe
a minimum CRAR of 9 per cent for state cooperative
banks (StCBs) and DCCBs to be achieved by
March 31, 2017 in a phased manner and approved
issuance of long term deposits (LTDs) and
innovative perpetual debt instruments (IPDIs) by
StCBs/DCCBs for capital augmentation.
VI.19 In the non-bank financial companies
(NBFCs) segment, the issues considered by the
BFS included involvement in the gold loan
business, self-regulatory organisation (SRO) for
micro-finance institutions (MFIs), filing of records
with the Central Registry of Securitisation Asset
Reconstruction and the Security Interest of India
(CERSAI), prohibiting from contributing capital to
any partnership firm or being a partner in
partnership firms and private placements by
NBFCs. All NBFCs were advised that no advances
should be granted against bullion/primary gold and
gold coins.
COMMERCIAL BANKS
Regulatory initiatives
Efforts to bring about a fairer regime of pricing of
credit
VI.20 Despite policy efforts to usher in
transparency and rationality in the credit pricing framework, there have been certain concerns from
the customer service perspective. These mainly
relate to downward stickiness of interest rates,
discriminatory treatment of old borrowers vis-à-vis
new borrowers and arbitrary changes in spreads.
In response, the Reserve Bank constituted a
working group (Chairman: Shri Anand Sinha)
comprising members from banks, the Indian
Banks’ Association (IBA), academia and the
Reserve Bank to examine the issues related to
discrimination in credit pricing and to recommend
measures for a transparent and appropriate pricing
strategy under a floating rate regime.
VI.21 Its major recommendations include:
(i) move towards computation of base rate on the
basis of the marginal cost of funds by banks,
particularly those with lower weighted average
maturity of deposits; (ii) ensuring that any price
differentiation is consistent with a bank’s credit
pricing policy factoring risk adjusted return on
capital by the board of the bank; (iii) framing an
internal policy of the bank spelling out the rationale
for and range of the spread in case of a given
borrower, as also delegation of powers with
respect to loan pricing; (iv) ensuring no increase
in the spread charged to an existing customer,
except in case of deterioration in the credit risk
profile of the customer; and (v) setting the reset
interest rate periodicity in floating rate loan
covenants with resets allowed on those dates only.
VI.22 The other recommendations include: (i) a
sunset clause for benchmark prime lending rate
contracts so that all the contracts thereafter are
linked to the base rate; (ii) developing a new
benchmark for floating interest rate products, viz.
the Indian banks’ base rate by IBA and its periodic
dissemination; (iii) giving benefit of interest
reduction on the principal on account of prepayments
on the day the money is received by the
bank without waiting for the next equated monthly
installment (EMI) cycle date to effect the credit; (iv) offering the choice of ‘with exit’ and ‘sans exit’
options for customers at the time of entering the
contract with regard to retail loans; and (v) calling
for a more robust grievance redressal system in
banks that is responsive to customers’ needs.
VI.23 Further, the Reserve Bank may penalise
banks which do not put in place adequate
measures, as evidenced by repeated complaints.
The working group also made recommendations
to bring in greater transparency enabling
comparability across banks and informed decision
making by customers. The public comments
received on the report are under examination and
guidelines will be issued to banks in due course.
Capital and provisioning requirements for
exposures to entities with unhedged foreign
currency exposure
VI.24 As exchange rate volatility may affect the
health of the banking system through spillover
effects from the corporate sector, it has been
proposed to increase the risk weight and
provisioning requirement on banks’ exposures to
entities having excessive unhedged forex exposure
positions. The guidelines issued in January 2014 provide the methodology to compute incremental
provisioning and capital requirements.
Recent developments on implementation of
Basel III
VI.25 While all 27 jurisdictions that comprise the
Basel Committee had implemented Basel III
capital regulations as at April 2014, India
implemented Basel III with a delay of three months
(from April 1, 2013 instead of January 1, 2013 as
originally scheduled) to align the implementation
schedule with the beginning of the financial year.
VI.26 The Reserve Bank has extended the end
date for full implementation of Basel III capital
regulations by one year (to March 31, 2019) to
provide some lead time to banks on account of
potential stresses on asset quality and
consequential impact on the performance/
profitability of the banks. With the extension, full
implementation of Basel III in India will slightly
exceed the internationally agreed end date of
January 1, 2019. With regard to the introduction
of countercyclical capital buffers in India, an
internal working group is following up on public
comments on its draft report (Box VI.3).
Box VI.3
Basel III: Countercyclical Capital Buffer
In the aftermath of the financial crisis in 2008, the group
of central bank governors and heads of supervision
showed a commitment to introducing a countercyclical
capital buffer (CCCB) framework (September 2009).
Subsequently, in December 2010, the Basel Committee
on Banking Supervision (BCBS) published ‘Guidance for
national authorities operating countercyclical capital buffer’
to propose a framework for dampening excess cyclicality
of minimum regulatory capital requirements arising out of
the Basel II framework, with an aim of maintaining a flow of
funds from banks to the real sector in economic downturns
by using capital accumulated in good times.
Moreover, in boom times as the banks will be required to
shore up capital, they may be restrained from extending
indiscriminate credit. The BCBS guidance proposes a credit to GDP gap (difference of credit to GDP ratio from
its historical trend) as the main indicator to decide on the
starting point for imposition of CCCB. However, BCBS
also mentions that national supervisors may take into
consideration other supplementary indicators which may be
used in conjunction with the credit to GDP gap to impose
CCCB which may go up to 2.5 per cent of the total risk
weighted assets of a bank. To operationalise the CCCB
framework in India, an internal working group (Chairman:
Shri B. Mahapatra) was constituted at the Reserve Bank.
Triggering the CCCB too early out of excessive caution may
involve sacrificing growth while complacency and failure
to trigger a buffer decision may lead to the building up of
pressure.
Given this context, the working group tried to dovetail the
CCCB framework prescribed by the Basel Committee to
Indian conditions, proposed suitable modifications where
required and recommended the following in its December
2013 draft report on the implementation of the CCCB
framework in India:
• While the credit to GDP gap will be used for an empirical
analysis to facilitate the CCCB decision, it may not be
the only reference point for banks in India and the credit
to GDP gap may be used in conjunction with other
indicators like growth in gross NPA (GNPA).
• The lower threshold (L) of the CCCB framework when
the buffer is activated may be set at 3 percentage points
of the credit to GDP gap, provided its relationship with
GNPA remains significant and the upper threshold (H)
may be kept at 15 percentage points of the credit to
GDP gap.
• CCCB shall increase linearly from 0 to 2.5 per cent of the
risk weighted assets (RWAs) of the bank based on the
position of the gap within the threshold range (between 3
and 15 percentage points). However, if the gap exceeds
H, the buffer will remain at 2.5 per cent of the RWA, and
there is no buffer requirement if the gap falls below L.
• Supplementary indicators will include the incremental
credit-deposit ratio for a moving period of 3 years, the
industry outlook assessment index and the interest
coverage ratio. These variables need to be considered
along with their correlation with the credit to GDP gap.
• The CCCB decision may be pre-announced with a lead
time of 4-quarters and the Reserve Bank may apply
discretion in terms of use of indicators while activating
or adjusting the buffer. The framework may be operated
in conjunction with a sectoral approach that has been
successfully used in India over a period of time. For all
banks operating in India, CCCB will be maintained on a
solo basis as well as on a consolidated basis in India.
• The same set of indicators that are used for activating
CCCB may be used to arrive at a decision for CCCB’s
release phase. However, instead of a stringent rulesbased
approach, flexibility in terms of use of judgment
and discretion may be provided to the Reserve Bank
for operating CCCB’s release phase. Further, the entire
CCCB may be released promptly at a single point in
time.
The final report will be placed on the Reserve Bank’s website
after suitable modifications following comments received
from various stakeholders on the draft. The Reserve Bank
issued its final guidelines on ‘Liquidity Coverage Ratio
(LCR), Liquidity Risk Monitoring Tools and LCR Disclosure
Standards’ on June 9, 2014. These guidelines take into
account the phase-in arrangement, definition of LCR, high
quality liquid assets (HQLAs), liquidity risk monitoring tools
and LCR disclosure standards as proposed in the BCBS
standards. Accordingly, LCR will be introduced on January
01, 2015 but the minimum requirement will be set at 60
per cent and rise in equal annual steps to reach 100 per
cent by January 01, 2019. The guidelines also take into
account the range of HQLAs available in the Indian financial
markets and their liquidity vis-à-vis the liquidity instruments
prescribed in the BCBS standard.
Keeping this in view, G-secs up to 2 per cent of net demand
and time liabilities have been allowed to be included as
Level 1 HQLAs. Further, while covered bonds, residential
mortgage backed securities (RMBS) and corporate debt
securities (including commercial paper) of rating between
A+ and BBB- have not been included as Level 2 HQALs,
eligible common equity shares with 50 per cent haircut
have been allowed to be included as Level 2B HQLAs. A
quantitative impact study conducted by the Reserve Bank
in December 2013 on a sample of banks to assess their
preparedness for the Basel III liquidity ratios indicates that
the average LCR for these banks varied from 54 per cent
to 507 per cent.
Framework for domestic-systemically important
banks (D-SIBs)
VI.27 The draft D-SIB framework in India which
was released for public comments in December
2013 tries to ensure that the probability of failure
of a bank with higher systemic importance is
reduced by requiring additional capital and also
subjecting these banks to other stringent regulatory/supervisory measures. The draft
framework discusses the proposed methodology
to be adopted by the Reserve Bank for identifying
D-SIBs and the quantum of additional common
equity Tier 1 capital (CET-1) applicable to such
banks. The identification methodology is largely
based on an indicator-based approach being used
by BCBS to identify global SIBs. The indicators
proposed to assess D-SIBs are size, interconnectedness, lack of substitutability and
complexity, with more weights given to size. The
interconnectedness, substitutability and complexity
indicators are further divided into multiple
indicators. Based on systemic importance scores,
banks will be classified into 4 buckets (Table VI.5).
Depending on the bucket where a D-SIB is
classified into, an additional CET-1 requirement
(between 0.2 to 0.8 per cent of risk weighted
assets) will be applicable to it.
Table VI.5: Draft Framework for D-SIBs |
(as a percentage of risk weighted assets) |
|
Bucket 5
(Empty) |
Bucket
4 |
Bucket
3 |
Bucket
2 |
Bucket
1 |
1 |
2 |
3 |
4 |
5 |
6 |
Additional CET 1 requirement |
1.0 |
0.8 |
0.6 |
0.4 |
0.2 |
Source: Draft D-SIB framework released in December 2013. |
Committee to review the governance of boards of
banks in India
VI.28 In its initiatives for improving corporate
governance practices in banks, the Reserve Bank
constituted a committee of experts (Chairman: Dr
P.J. Nayak) to review board governance standards
for banks in India. The main recommendations of
the committee (May 2014) are: (i) strengthening
the governance structure of PSBs by removing
constraints such as dual regulation (by the Ministry
of Finance and the Reserve Bank), manner of
appointment of directors to boards, (ii) fully
empower boards in PSBs, (iii) setting up of an
autonomous Bank Investment Company (BIC) to
hold equity stakes in banks; and (iv) the transition
for these should be in three phases.
VI.29 Other recommendations pertain to
withdrawal of Reserve Bank’s nominees on the
boards of PSBs; separation of CMDs’ posts into
executive MD and non-executive chairman;
creation of a specific category of investors in banks
called authorised bank investors (ABIs); raising of
the ceiling for promoter investors’ stake to 25 per cent; permitting private equity funds including
sovereign wealth funds to take a controlling stake
of up to 40 per cent in distressed banks and
increasing the limit for voting rights to 26 per cent.
Recommendations of the committee are being
examined taking into account the comments
received from banks, IBA and the public.
Licensing of new banks in the private sector
VI.30 In-principle approvals were given to two
new applicants in April 2014 to set up banks under
the guidelines on licensing of new banks in the
private sector issued on February 22, 2013. Going
forward, the Reserve Bank intends to use this
licensing exercise to revise the guidelines
appropriately and move to give licences more
regularly, that is, virtually ‘on tap’. Building on the
discussion paper on ‘Banking Structure in India-
The Way Forward’ (August 2013), draft guidelines
for ‘Payment Banks’ and ‘Small Banks’ were placed
on the Reserve Bank website in July 2014.
Supervisory initiatives
Risk-based supervision’s initial experience and
the way forward
VI.31 In line with the BFS directives, 28 banks
have been assessed under the RBS framework
(SPARC – Supervisory Program for Assessment
of Risk and Capital) beginning 2013-14. These
banks account for approximately 60 per cent of
the banking sector’s assets and liabilities and
cover a cross-section of banks (on an ownership
basis). The SPARC framework is a departure from
the compliance oriented and point-in-time
performance based assessment carried out under
CAMELS and CALCS.
VI.32 SPARC’s design enables evaluation of
present and future risks with a view to identifying
concerns building up in a bank or the system and
intervening appropriately in a timely manner. The
continuous nature of supervision under SPARC
entails on-going interaction between banks and supervisors and is not limited to periodic meetings/
inspections. The SPARC framework is designed
to have greater off-site assessment, monitoring
and supervision with focused on-site inspections
in identified concern and risk areas.
Cross-border supervision and cooperation
VI.33 The Reserve Bank has been entering into
bilateral Memoranda of Understanding (MoUs)
with overseas supervisors for effective crossborder
supervision and cooperation in accordance
with extant domestic legal provisions and BCBS
principles. It has made substantial progress in
supervisory information sharing and cooperation
within jurisdictions where Indian banks are
operating by entering into MoUs.
Institution of supervisory colleges
VI.34 Cross-border consolidated supervision
requires cooperation and information exchange
between home supervisors and the various other
supervisors involved, primarily host banking
supervisors. The Reserve Bank has been actively
participating in supervisory colleges conducted by
overseas home regulators of foreign banks
operating in India. In its capacity as the home
country supervisor, the Reserve Bank set up
supervisory colleges for Bank of India and Bank of
Baroda in February 2014. These are in addition to
those already set up earlier for State Bank of India
and ICICI Bank Ltd. These supervisory colleges
are likely to emerge as a key tool for consolidated
supervision in the context of significant and growing
overseas operations of Indian banks.
Inspection of overseas branches of Indian banks
VI.35 Global operations of Indian banks are
spread across 54 countries. In order to assess the
financial position, systems and control of overseas
branches, inspection of 8 banks in 5 overseas
jurisdictions covering almost 60 per cent of the
total overseas assets of Indian banks was
undertaken in 2012-13. In 2013-14, inspection of 6 banks in 6 jurisdictions covering another 20 per
cent of the total overseas assets was undertaken.
Thematic review of adherence to KYC/ AML norms
conducted in 36 banks
VI.36 In the wake of allegations against banks
by an online media portal, a thematic review of
adherence to Know Your Customer (KYC)/antimoney
laundering (AML) norms in 36 banks
(foreign, private sector and public sector) was
conducted in two spells. The first review in April
2013 included 29 banks and the second in May
2013 included 7 banks. Follow-up action concluded
in July and August 2013 respectively. Monetary
penalties were imposed on 28 of the 36 banks and
the remaining were issued caution letters.
Development of the OSMOS system in a XBRL
environment
VI.37 In order to facilitate user friendliness and
for incorporating advances in technology while
keeping pace with regulatory changes and
emerging supervisory requirements, the off-site
monitoring and surveillance (OSMOS) system set
up in 1997, is being re-developed. Although the
scope and coverage of the returns generated
through OSMOS have been periodically reviewed
and updated, the advantages of the eXtensible
Business Reporting Language (XBRL) environment
for data reporting need to be incorporated in
OSMOS and select other returns to ensure efficient
data collection, maintain quality and integrity of data
and improve data accessibility for robust supervision.
URBAN COOPERATIVE BANKS
Revised criteria for qualifying as financially sound
and well managed
VI.38 The criteria for UCBs to be classified as
financially sound and well managed (FSWM) were
modified with effect from October 1, 2013 in
keeping with the improvement in the performance
indicators of the sector. The change envisaged
that besides other parameters, UCBs with gross NPAs of less than 7 per cent and net NPAs of not
more than 3 per cent will qualify as FSWM as
against the earlier condition of net NPAs of less
than 5 per cent.
Extension of the disclosure requirements to Tier I
UCBs
VI.39 Tier II UCBs had earlier been advised to
disclose certain information as ‘Notes on Accounts’
to their balance sheets along with several other
additional disclosures. The disclosure requirements
have been extended to Tier I UCBs also from the
year ended March 31, 2014.
Inclusion of primary UCBs in the Second Schedule
to the RBI Act, 1934
VI.40 Applications from UCBs for inclusion in the
Second Schedule to the RBI Act, 1934 will be
considered on fulfilling certain criteria such as
demand and time liabilities (DTL) of not less than
`7.5 billion on a continuous basis for one year;
CRAR of minimum 12 per cent; continuous net
profit for the previous 3 years; gross NPAs of 5 per
cent or less; compliance with cash reserve ratio
(CRR)/SLR requirements; and no major regulatory
and supervisory concerns.
Migration to core banking solutions (CBS)
VI.41 As at end-March 2014, of the 1,589 UCBs,
510 had implemented CBS fully while 465 had
done so partially. The revised timeframe for
implementing CBS for Tier I UCBs (other than unit
banks) is June 30, 2014, for unit banks it is
December 31, 2014 while for Tier II UCBs, it stays
unchanged.
Conditional approval to grant unsecured loans to
priority sectors
VI.42 In order to promote lending to priority
sectors and to provide impetus to the objective of
financial inclusion, UCBs fulfilling certain conditions
and with prior approval of the Reserve Bank, have
been allowed to grant unsecured loans up to
`10,000 for productive purposes up to 15 per cent
of total assets. Such loans granted by UCBs will
be exempt from the aggregate ceiling on unsecured
exposure of 10 per cent of total assets.
Select guidelines relating to market operations
VI.43 Well managed UCBs can undertake intraday
short selling of government securities (G-secs)
with the permission of the Reserve Bank. Intra-day
short sales will provide increased liquidity to the G-sec market and is also relatively less risky as
compared to the normal short sale where the short
sale position is carried over to the next day
exposing UCBs to market risks. UCBs have been
permitted to invest in eligible market infrastructure
companies such as the Clearing Corporation of
India Ltd. (CCIL), the National Payments
Corporation of India Ltd. (NPCIL) and the Society
for World Wide Inter-Bank Financial
Telecommunication (SWIFT).
Table VI.6: State-wise Progress in Mergers/Acquisitions of UCBs |
States |
2005-06 |
2006-07 |
2007-08 |
2008-09 |
2009-10 |
2010-11 |
2011-12 |
2012-13 |
2013-14 |
Total |
1 |
2 |
3 |
4 |
5 |
6 |
7 |
8 |
9 |
10 |
11 |
Maharashtra |
2 |
12 |
14 |
16 |
6 |
7 |
8 |
1 |
1 |
67 |
Gujarat |
2 |
2 |
6 |
2 |
2 |
2 |
4 |
1 |
4 |
25 |
Andhra Pradesh |
|
1 |
3 |
1 |
3 |
2 |
1 |
|
|
11 |
Karnataka |
|
|
2 |
1 |
|
|
|
|
|
03 |
Punjab |
|
1 |
|
|
|
|
|
|
|
1 |
Uttarakhand |
|
|
1 |
1 |
|
|
|
|
|
2 |
Chhattisgarh |
|
|
|
1 |
|
1 |
|
|
|
2 |
Rajasthan |
|
|
|
|
2 |
|
1 |
|
|
3 |
Madhya Pradesh |
|
|
|
|
|
|
|
|
|
|
Uttar Pradesh |
|
|
|
|
|
1 |
|
1 |
|
2 |
Total |
4 |
16 |
26 |
22 |
13 |
13 |
14 |
3 |
5 |
116 |
Consolidation of UCBs through mergers/
acquisitions
VI.44 With regard to consolidation of UCBs
through merger of weak entities with stronger
ones, the Reserve Bank received 183 proposals
for mergers up to March 2014 and it had issued
134 NOCs/sanctions of which 116 have been
notified for mergers by respective RCS/CRCS.
VI.45 The maximum number of mergers were in
Maharashtra, followed by Gujarat and Andhra
Pradesh (Table VI.6). Guidelines for transfer of
assets and liabilities of UCBs to commercial banks
were issued in February 2010.
RURAL COOPERATIVES AND REGIONAL
RURAL BANKS
Status of state and central cooperative bank
licenses
VI.46 The Committee on Financial Sector
Assessment (Chairman: Dr Rakesh Mohan) in 2009
recommended a non-disruptive phasing out of
unlicensed cooperative banks by March 31, 2012.
However, in view of the large number of cooperative
banks functioning without licenses (17 out of 31
StCBs and 296 out of 371 DCCBs), the Reserve
Bank relaxed the licensing norms. The revised
norms include: (i) minimum CRAR of 4 per cent,
and (ii) no/rare default in CRR/SLR requirement for
the last one year. As at end-March 2014, 23 DCCBs
(Uttar Pradesh-16, Maharashtra-3, Jammu &
Kashmir-3 and West Bengal-1) remain unlicensed
and appropriate regulatory action is being initiated
by the Reserve Bank.
Prescription of minimum CRAR for StCBs/DCCBs
VI.47 Although the CRAR framework was
introduced in StCBs/DCCBs in December 2007,
no minimum level of CRAR had been prescribed.
Based on the BFS approval, a minimum CRAR of
9 per cent has been prescribed for StCBs and
DCCBs. A roadmap has also been laid down for
achieving a minimum CRAR of 7 per cent on an
on-going basis by March 31, 2015 and 9 per cent
by March 31, 2017. Since StCBs/DCCBs have
limited avenues for mobilising additional capital
resources, they have been permitted to issue LTDs
(subordinated) and IPDIs with the prior approval
of the Reserve Bank.
Migration to core banking solutions (CBS)
VI.48 As at end-June 2014, of the 32 StCBs, 30
had implemented CBS fully while 2 had done so
partially. Out of 371 DCCBs, 317 had implemented
CBS fully while 31 had done so partially, and
remaining 23 banks are unlicensed. StCBs and
DCCBs have been advised to complete CBS
implementation by September 30, 2014.
Amalgamation of RRBs
VI.49 In the current phase of amalgamation
beginning October 1, 2012 geographically
contiguous RRBs within a state under different
sponsor banks are to amalgamate so as to have
just one RRB in medium sized states and 2 or 3
RRBs in large states. Accordingly, 44 RRBs have
been amalgamated into 18 new RRBs within 12
states bringing down their effective number to 56.
Consequent to the amalgamation, 13 RRBs have
been included in the Second Schedule of the RBI
Act, 1934 while 31 erstwhile RRBs have been
excluded.
Prescription of minimum CRAR of 9 per cent for
RRBs
VI.50 As per the recommendations of the
Committee on Recapitalisation of RRBs for
Improving CRAR (Chairman: Dr K.C. Chakrabarty), 38 RRBs had been fully recapitalised to the extent
of `21 billion as on March 31, 2014.After the
amalgamation and recapitalisation of weak RRBs,
the CRAR position of the RRBs as on March 31,
2013 was reviewed. A minimum CRAR of 9 per
cent on an on-going basis was prescribed for all
RRBs with effect from March 31, 2014.
Guidelines for classification and valuation of
investments by RRBs
VI.51 RRBs were exempted from application of
the mark-to-market (MTM) norms with respect to
SLR securities till March 31, 2013 and were
allowed to classify their entire investment of SLR
securities under ‘held to maturity’ (HTM). However,
on review, RRBs have been advised to introduce
MTM norms with respect to SLR securities beyond
24.5 per cent of DTLs held in the HTM category
with effect from April 1, 2014 and to classify their
investments into three categories: HTM, held for
trading (HFT) and available for sale (AFS).
THE DEPOSIT INSURANCE AND CREDIT
GUARANTEE CORPORATION
VI.52 A wholly owned subsidiary of the Reserve
Bank, the Deposit Insurance and Credit Guarantee
Corporation (DICGC) extends deposit insurance
to all banks including local area banks (LABs),
RRBs and cooperative banks across India. The
number of registered insured banks as at end-
March 2014 stood at 2,145 comprising 89
commercial banks, 58 RRBs, 4 LABs and 1,994
cooperative banks. The present limit of deposit
insurance in India is `100,000. As at end-March
2014, 92 per cent (1,370 million) of the total
number of accounts were fully protected by
DICGC, as against the international benchmark1
of 80 per cent. Amount-wise, the `24 trillion
insured deposits accounted for 31 per cent of the
total assessable deposits as against the international benchmark of 20 to 40 per cent. At
the current level, the insurance cover works out to
1.3 times per capita income.
VI.53 During 2013-14, the aggregate claims
settled by DICGC were nearly half (`1 billion with
respect to 51 cooperative banks) of those settled
last year. The Deposit Insurance Fund (DIF) for
claim settlement of depositors of banks taken into
liquidation/reconstruction/amalgamation stood at
`406 billion as on March 31, 2014 yielding a
reserve ratio (DIF/insured deposits) of 1.7 per
cent. The DIF accumulates from the transfer of
DICGC’s annual surplus net of taxes.
IADI steering committee meeting on revision of
core principles
VI.54 The core principles for effective deposit
insurance systems were issued in June 2009 by
the International Association of Deposit Insurers
(IADI) and BCBS. In order to review and update
the core principles and to develop a proposed set
of revisions, IADI established an internal steering
committee in February 2013. The final revised set
of core principles is expected to be released
shortly.
NON-BANKING FINANCIAL COMPANIES
Protection of depositors’ interests
VI.55 To ensure timely payment of deposit
liabilities all deposit taking companies have been
tightly regulated by the Reserve Bank fairly
successfully. However, recent episodes like the
‘Saradha Scam’ have underscored the need to go
beyond a regulatory and supervisory focus on
regulated entities to malfeasance in the unregulated
space. With a multiple regulator set up in the nonbanking
sector, the Reserve Bank has taken
several initiatives to increase public awareness
and ensure clarity on legislative reforms and their
effective enforcement.
VI.56 The measures taken by the Reserve Bank
to achieve these twin objectives inter alia include
a joint advertising campaign in the mass media
with the Ministry of Consumer Affairs and the
Ministry of Corporate Affairs to increase public
awareness, organising town hall events and
country-wide investor awareness campaigns,
particularly in Tier II and III cities, strengthening
the existing inter-regulatory coordination
mechanism through state level coordination
committees (SLCCs) for better and effective
enforcement of existing legislations including the
option to take coordinated action to deal with
malpractices. The Reserve Bank has also written
to all the state governments for enacting the
Protection of Interest of Depositors’ Act that
facilitates speedy action against unauthorised
acceptance of deposits.
Guidelines with respect to private placement of
non-convertible debentures (NCDs)
VI.57 The Reserve Bank recently observed
large-scale issuances by NBFCs, often on tap from
retail investors through NCDs with features similar
to those of public deposits. In order to bring NBFCs
on par with other financial entities as far as private
placements are concerned, they have been
advised to: (i) restrict the maximum number of
subscribers to the private placements of NCDs,
(ii) put in place their board’s approved policy for
resource planning which will inter alia cover the
planning horizon and the periodicity of private
placements, and (iii) the minimum subscription
amount for a single investor has been stipulated
at `2.5 million and in multiples of `1 million
thereafter.
Modifications in pricing of credit by NBFCs-MFI
VI.58 The revised interest rates charged by
NBFCs-MFI (effective from Q1 of 2014-15) will be
the cost of funds plus margin as per extant
guidelines or the average base rate of the 5 largest
commercial banks by assets multiplied by a factor of 2.75, whichever is lower. The average of the
base rates of the 5 largest commercial banks (with
respect to the size of domestic assets) indicated
by the Reserve Bank on the last working day of
the previous quarter will determine interest rates
for the ensuing quarter.
Ensuring financial stability
VI.59 Unlike commercial banks, deposits form a
very small component of the overall liability of
NBFCs as they predominantly rely on institutional
sources including bank borrowings and capital/
money markets for their funding requirements.
Risk to financial stability from the sector emanates
from these inter-linkages between NBFCs and
other financial intermediaries and their funding
dependencies. Accordingly, the regulatory
guidelines are tuned towards discouraging a
higher degree of leverage and having adequate
capital buffers so as to ensure that any stress on
their balance sheets is absorbed rather than
transmitted to the financial system. Some of the
regulatory and supervisory instructions issued in
2013-14 are set out in the following paragraphs.
Lending against security of a single product–gold
jewellery
VI.60 Following the recommendations of the
working group (Chairman: Shri K.U.B. Rao) set up
to study issues related to gold imports and gold
loans of NBFCs in India, guidelines were issued
to all NBFCs (excluding PDs). The loan to value
(LTV) ratio for loans against the collateral of gold
jewellery was raised to 75 per cent from 60 per
cent with effect from January 08, 2014.
Restructuring of advances by NBFCs
VI.61 As indicated in the Second Quarter Review
of Monetary Policy 2013-14 (October 29, 2013),
the extant instructions on restructuring of advances
by NBFCs have been reviewed in view of the
recommendations of the working group (Chairman:
Shri B. Mahapatra) to review prudential guidelines on restructuring of advances by banks and
financial institutions. Accordingly, mere extension
of date of commencement of commercial
operations (DCCOs) up to a specified period will
not tantamount to restructuring for infra, non-infra
and commercial real estate projects, although it
will attract provisioning norms for all new loans
and stocks of loans. A special asset classification
benefit will be made available to corporate debt
restructuring and consortium cases including a
small and medium enterprises (SME) debt
restructuring mechanism, apart from infrastructure
and non-infrastructure project loans subject to
certain conditions. The special asset classification
benefit will, however, be withdrawn with effect from
April 1, 2015 with the exception of that on
provisions related to changes in DCCOs with
respect to infrastructure as well as noninfrastructure
project loans. Early recognition of
financial distress has been institutionalised
through CRILC (Box VI.2).
Credit enhancement in securitisation transactions
VI.62 In order to provide some capital relief to
the originators, banks and NBFCs have been
allowed a reset of credit enhancement in
securitisation transactions, depending on the
overall performance of the transactions and factors
such as the credit quality of the securitised assets,
pool characteristics and nature of underlying
assets.
Buyback of assets from SCs/RCs by defaulters
and acquisition of assets by SCs/RCs from
sponsor banks
VI.63 Securitisation companies (SCs)/
reconstruction companies (RCs) which were not
permitted to acquire any NPAs from their sponsor
banks on a bilateral basis are now allowed to do
so but only through participation in auctions
conducted by sponsor banks. Promoters of the
defaulting company/borrowers or guarantors are
allowed to buy back their assets from the SCs/
RCs provided such a buy back minimises the cost of litigation and time, arrests further diminution in
the value of the assets and helps in the resolution
process.
Committee on comprehensive financial services
for small businesses and low income households
VI.64 The committee (Chairman: Nachiket Mor)
made several recommendations regarding NBFCs
(see Box IV.2). Before taking a view on allowing
more entities into the sector, the Reserve Bank
decided to keep in abeyance for a period of one
year (from April 2014), issuing of certificates of
registration (CoR) to companies proposing to
conduct non-bank financial institution (NBFI)
business in terms of Section 45 I(a) of the RBI Act,
1934. Exceptions to this were CoR applications
already received by the Reserve Bank on or before
March 31, 2014, CoR applications that may be
submitted by prospective systemically important
core investment companies, infrastructure finance
companies, infrastructure debt fund companies
and NBFCs proposing to conduct microfinance
business.
VI.65 As part of the guidelines issued by the
Reserve Bank for granting new banking licenses,
non-operating financial holding companies
(NOFHCs) were notified as a separate category
of NBFCs. NOFHCs will hold the bank as well as
all other financial services’ companies regulated
by the Reserve Bank or other financial sector
regulators, possible under existing regulatory
framework.
Other risk mitigating measures
VI.66 The existing definition of ‘infrastructure
lending’ for NBFCs has been harmonised with that
of the master list of infrastructure sub-sectors
notified by the Government of India. With a view
to capturing the reach and geographical spread
of institutions in the sector, a branch information
return has been introduced for all the existing
NBFCs.
VI.67 NBFCs are allowed to set up ‘White Label
ATMs’ upon obtaining a NOC from the Reserve
Bank. Three key parameters involved are continuous profitability, maintaining the required
CRAR on an on-going basis and absence of any
major supervisory concerns.
VI.68 With an objective of filtering out companies
that may be doing NBFI business without having
a valid certificate of registration issued by the
Reserve Bank, it was decided to find out the
number of finance companies operating in the
country as per the records of the Ministry of
Corporate Affairs and those registered with the
Reserve Bank. A prima facie analysis of the
financials of some of these companies appears to
meet the principal business criteria2 for registration
and appropriate action is envisaged for such
companies.
CUSTOMER SERVICE
Complaints received and disposed
VI.69 To facilitate fair practices and ethical
treatment of customers of banking services across
the country, the Reserve Bank has undertaken
multiple initiatives. Major among these are the
institution and development of the Banking
Ombudsmen (BO) scheme that provides a free
and easy grievance redressal avenue for bank
customers. While efforts are on to increase
awareness about its presence in rural and semiurban
areas, the scheme remains highly successful
for nearly 2 decades, having addressed over
70,000 complaints annually (Box VI.4).
Box VI.4
Grievance Redressal Mechanism in Banks and the Banking Ombudsman Scheme
The Reserve Bank has created institutional arrangements
like the office of the Banking Ombudsman (BO), the Banking
Codes & Standards Board of India (BCSBI), customer
service committees of the boards in banks, a standing
committee on customer service, a customer service
committee at the controlling office/branch level, nodal
department/nodal officer for customer service, grievances
redressal cell and the customer service department for
enhancing the quality of customer services in the banking
industry.
To facilitate easy access to customers and also to offer a fair
and quick resolution of complaints, banks are required to: (i)
keep a complaints register at a prominent place in their
branches to enable customers to register their complaints,
(ii) have a system of acknowledging the complaints, when
received through letters, (iii) fix a timeframe for resolving the
complaints received at different levels, (iv) prominently
display at branches the names and contact details of officials
entrusted to redress complaints, and (v) place a complaint
form on the home page of the bank’s website.
To ensure an individual bank board’s oversight on the
internal grievance redressal mechanism, banks have been
advised to place a review of complaints before their boards/
customer service committees along with an analysis of the
complaints received. It has been mandated that their boards provide exclusive time to review and deliberate on issues
concerning customer services. Banks have also been
advised to set up branch-level customer service committees
with representation from different segments of customers.
The Banking Ombudsman Scheme
With a view to providing a hassle-free alternative dispute
redressal mechanism at the apex level free of cost, the
Reserve Bank introduced the BO scheme in June 1995
under Section 35A of the Banking Regulation (BR) Act,
1949, and it is in operation in 15 BO offices across India.
Since its introduction, the scheme has been revised four
times (2002, 2006, 2007 and 2009) to keep pace with the
changing banking scenario.
Customers can approach the BO citing deficiency in banking
services on 27 grounds including issues related to credit
cards, internet banking, deficiencies in providing promised
services by both the bank and its sales agents, levying
service charges without prior notice to the customers, nonadherence
to the fair practices code adopted by individual
banks and non-adherence to BCSBI’s code of bank’s
commitment to customers. The BO scheme is applicable to
all commercial banks, regional rural banks and scheduled
primary cooperative banks operating in India. The complainants can file their complaints in any form, including
online submission through the Reserve Bank website.
On an average, BO offices receive over 70,000 complaints
annually, mainly from customers from metro/urban areas,
accounting for about 72 per cent of the total complaints
received during 2013-14. Some of the reasons attributed to
the greater share of complaints from metro and urban areas
are greater availability of banking services, financial literacy and expectation levels of bank customers and greater
awareness about the scheme among residents of these
areas as compared with their counterparts in semi-urban
and rural areas.
The Reserve Bank and the BO offices continue with their
efforts to spread awareness for the scheme in rural and
semi-urban areas through awareness campaigns/outreach
activities and town hall events.
Uniformity in intersol charges
VI.70 In order to ensure that bank customers are
treated fairly and reasonably without any
discrimination and in a transparent manner at all
branches of banks/service delivery locations under
the CBS environment, banks were advised to
follow a uniform, just and transparent pricing policy
and not discriminate between their customers in
the home branch and in non-home branches.
Simplifying norms for periodical updation of KYC
VI.71 KYC norms have been simplified to reduce
the practical difficulties/constraints expressed by
bankers/customers in this regard. For obtaining/
submitting fresh KYC documents for periodic
updation at frequent intervals, banks were advised
to conduct a full KYC exercise at a less frequent
interval for medium and low risk accounts.
Requirement of submission of address proof were
current address differed from permanent address
has been removed for opening a bank account or
for updation of information for an existing account,
if the customer submits an ‘Officially Valid
Document’ giving his details of his permanent
address. The information available from Unique
Identification Authority of India (UIDAI) as a result
of the e-KYC process has been made acceptable
as an ‘Officially Valid Document’ under the
Prevention of Money Laundering Act.
Enhancement of customer service for ATM
transactions
VI.72 With a view to enhancing efficiency in
automated teller machine (ATM) operations, banks were advised to display messages regarding nonavailability
of cash in ATMs before a transaction
is initiated, displaying the ATM ID clearly in the
ATM premises, making forms for lodging ATM
complaints available within the ATM premises and
also displaying the name and contact details of
officials with whom the complaint can be lodged.
VI.73 Banks were also instructed to make
available sufficient toll-free telephone numbers for
lodging complaints/reporting and blocking lost
cards to avoid delays and also attend to requests
on priority, proactively register the mobile
numbers/e-mail IDs of their customers for sending
alerts and enable time out sessions for all screens/
stages of ATM transactions.
Other customer benefitting measures
VI.74 With a view to ensuring fairness and equity
in the charges levied by banks for sending SMS
alerts to customers, banks have been advised to
leverage the technology available with them and
with telecom service providers to ensure that such
charges are levied on all customers on an actual
usage basis.
VI.75 Banks have been prohibited from levying
penal charges for non-maintenance of minimum
balance in any inoperative account. The additional
services available to such inoperative accounts
may, however, be withdrawn based on inactivity.
Banks have been restricted from levying foreclosure
charges/pre-payment penalties on all floating rate
term loans sanctioned to individual borrowers.
VI.76 With a view to promoting financial inclusion
and also bringing uniformity among banks in
opening and operating minors’ accounts, banks
have been advised that a savings/fixed/recurring
bank deposit account can be opened by a minor
of any age through his/her natural or legally
appointed guardian. Minors above the age of 10
years can open and operate savings bank
accounts independently, if they so desire.
BANKING CODES AND STANDARDS BOARD
OF INDIA
VI.77 The Banking Codes and Standards Board
of India (BCSBI) set up by the Reserve Bank
serves as an autonomous and independent body
and sets the minimum standards for banking
services in India for individuals and micro and
small enterprises. It has laid out two codes: Code
of Bank’s Commitment to Customers and the Code of Bank’s Commitment to Micro and Small
Enterprises, with the former has been revised for
the second time in January 2014.
VI.78 BCSBI also monitors the implementation
of codes by member banks through branch visits
and interaction with bank customers, and banks
are accordingly rated based on their compliance.
BCSBI continued its efforts to increase awareness
about the codes by participating in town hall meets
and in awareness programmes organised by the
BO and other banks apart from conducting
‘customer meets’.
Implementation of recommendations of
FSLRC
VI.79 The Reserve Bank is in the process of
implementing the non-legislative recommendations
of the FSLRC Report (March 2013). Nonetheless, the overall recommendations need to be carefully
assessed keeping in view balancing the regulator’s
freedom to evolve with changing needs of the
economy while ensuring customer protection
(Box VI.5). With a view to ensuring a more robust financial system and mitigating the risks therein,
the Reserve Bank will continue in its endeavour
to support and nurture the banking and nonbanking
sectors while considering customer
protection and satisfaction.
Box VI.5:
Implementation of Recommendations of FSLRC
The Financial Sector Legislative Reforms Commission
(FSLRC) was set up in March 2011 ‘with a view to rewriting
and cleaning up the financial sector laws to bring them in tune
with the current requirements’. The Commission submitted
its report on March 22, 2013. In its report, the Commission
has proposed a financial regulatory architecture comprising
seven agencies.
Agencies |
Responsibilities |
Reserve Bank of India (RBI) |
• Monetary policy |
• Microprudential supervision of and consumer protection with reference to banking and payment systems |
Unified Financial Agency (UFA) |
• Microprudential supervision of and consumer protection with reference to all financial firms (other than those of banking and payment systems) |
• Regulation of organised financial trading |
Financial Sector Appellate Tribunal (FSAT) |
Hear appeals against RBI for its regulatory functions, the UFA, decisions of the FRA and some elements of the work of the Resolution Corporation. |
Resolution Corporation |
DICGC will be subsumed into the Corporation which will work across the financial system |
Financial Redressal Agency (FRA) |
A nationwide machinery for handling consumers complaints against all financial firms |
Public Debt Management Agency (PDMA) |
An independent agency to manage public debt |
Financial Stability and Development Council (FSDC) |
FSDC reconstituted as a statutory agency with executive powers and with modified functions in the fields of systemic risk and development. |
The Commission also produced a draft “Indian Financial
Code” - a non-sectoral and principle-based single legislation
for the financial sector. The Commission suggested laying
the foundation for financial regulatory process around four
themes, viz., clarity on objectives and avoiding conflicts of
interest; precisely defined powers; operational and political
independence; and accountability mechanisms through a
process of judicial oversight.
The Commission’s report is one of the most important
and well researched reports in Indian financial history. It
provides a welcome emphasis on consumer protection
and suggests setting up of new institutions such as the
Resolution Corporation which are much needed. There
are many merits in the overall approach adopted by the Commission – a non-sectoral approach to financial
sector regulation, principle based law, focus on regulatory
independence and accountability, the principles of neutrality
and competition, structured process of regulation making,
etc. The Commission’s recommendations on improved
corporate governance and transparency of the regulators
are welcome.
The FSLRC has laid out the need for focussed attention
on consumer protection. In particular, it has highlighted
the responsibility of financial institutions in determining the
suitability of products sold to a consumer. One could debate
whether consumer protection should be within the sectoral
regulator or in a new Financial Redressal Authority (FRA).
While the former structure will allow the sectoral regulator
to acquire information quickly and adapt regulations if
necessary, the latter structure will allow redressal for
products spanning multiple regulators. On balance, perhaps
we should first strengthen consumer protection departments
in sectoral regulators before embarking on FRA to fill gaps.
The proposal to set up a Resolution Corporation which will
facilitate the resolution of failing financial firms at the least
cost to the exchequer is also much needed. The Working
Group of the Resolution Regime for the financial sector in
India, set up by the FSDC, has offered details on such an
agency. Some proposals of the FSLRC in this regard will,
however, need to be carefully reviewed so as to ensure that
depositors’ interests remain protected and the Resolution
Corporation’s powers to examine financial firms does not
duplicate or overlap with that of the regulators.
The broad approach set out by the FSLRC for the monetary
policy process accords with the thinking in the Reserve Bank.
The FSLRC’s emphasis on the need for a clear monetary
framework was followed by the report of the Reserve
Bank’s Expert Committee to Strengthen and Revise the
Monetary Policy Framework (Chairman: Dr. Urjit Patel). The
accountability structures for monetary policy proposed in the
Report are broadly acceptable. However, some tweaking with
regard to the composition of the Monetary Policy Committee
and its constitution as an executive body will be needed. The
proposed enhanced role for the government in monetary
policy making also need to be discussed. The Reserve Bank
has flagged these issues with the Government of India.
The Reserve Bank has already commenced implementing
several recommendations of the FSLRC which are
governance enhancing in nature and which do not require
legislative changes. These recommendations relate to
consumer rights and protection, the process of regulation
making, accountability, constitution and selection process
for the members of regulator’s board, functioning of the
Boards, greater transparency in reporting and performance
evaluation, capacity building, etc. Following the suggestion
to move to a time defined (90 days) approval process, the Reserve Bank has published the ‘Timelines for Regulatory
Approvals’ and ‘Citizens’ Charter’ for delivery of services.
As recommended in the Report, all investigations in the
Reserve Bank are conducted within a time bound process
and with systems in place to review any investigation
exceeding the timeline. The Reserve Bank is in process of
further fine tuning the investigation process. Two Committees
constituted by the Reserve Bank are examining the kind of
capacity building necessary within the Reserve Bank and in
the financial market segments regulated by it, both for the
staff and also for the directors on the Boards of banks and
other regulated entities. Thus, several recommendations,
to the extent that they do not require legislative changes,
are already in the process of being implemented by the
regulators.
Yet there are residual concerns, some of which are outlined
below:
Proposed regulatory architecture
The first set of concerns relate to the proposed regulatory
architecture. The Commission’s proposals appear to be
inadequately substantiated in some respects, such as the
rationale for, and analysis of the costs and benefits of,
creating new institutions and breaking up existing ones. The
Commission discusses the synergies which could be realized
in bringing together some regulators. There is, however, no
discussion on the synergies which will be lost by dismantling
other regulators. There is little empirical analysis of the
costs and benefits of the proposed regulatory architecture,
despite the Commission’s emphasis on rigorous cost benefit
analysis as the foundation of all regulation making.
There are also some inconsistencies in the Commission’s
approach. While, on the one hand, it suggests regulation
of organised trading of financial products and commodities
trading should be centralised with one regulatory agency,
regulation of NBFCs, which perform bank-like activities,
is not proposed to be with the banking regulation. There
are instances where the Commission proposes to entrust
an agency with a certain responsibility but leaves the
powers for exercising the tools necessary for discharging
the responsibility with another agency. For example, the
Reserve Bank has responsibility for managing the internal
and external value of the rupee, and more broadly, for
macroeconomic stability. The ability to shape capital inflows
is now recognised as part of the macro-prudential tool kit.
Yet, by suggesting taking away control over inward capital
inflows, more specifically debt flows, from the Reserve
Bank, the FSLRC takes away an important tool from the
Reserve Bank.
There are strong arguments, especially stemming from the
experiences of the global financial crisis, for the powers
of macro prudential regulation, regulation of systemically important financial firms, regulation of all deposit taking
and credit institutions, regulation of debt oriented capital
inflows, regulation of money, government securities, debt
and forex markets, and the management of public debt
remaining with the central bank. These arguments have
been underweighted by the FSLRC.
The Commission’s approach to certain segments of
regulation could be inimical for the financial sector given
the economy’s stage of development. A case in point is the
implied position that all current account transactions should
be totally free of regulation. Again, while the proposed
approach to neutrality and competition is commendable,
such an approach towards foreign banks and foreign entities
needs some moderation and caution. The overall approach
of increasing competition needs to be weighed against the
considerations of the health of financial firms and of financial
stability. The proposals that certain financial service providers
like hedge funds, private equity funds, venture funds and
micro financial institutions need not be microprudentially
regulated appear to overlook recent global developments in
this regard. Regulators across the world collect data from
regulated entities based on their fiduciary relationship with
such entities. The recommendation prohibiting regulators
from obtaining information directly from the regulated
entities is restrictive and against global best practices. The
proposal to leave the objectives of monetary policy open
to repeated review will preclude the central bank from
acquiring monetary credibility. Such objectives should be
clearly specified by the Act and approved by the Parliament.
Judicial oversight
The FSLRC mentions that regulators are “mini states”
with powers of the legislature, executive and judiciary
encapsulated within a single entity. It proposes an
elaborate checks and balances mechanism consisting
of objective standards of governance for regulators, a
structured regulation process, a performance measurement
mechanism and oversight by a judicial tribunal.
Checks and balances are certainly needed. There are
already checks and balances in place, including review by
constitutional courts like high courts through writ petitions.
Senior-most officers of the regulator are appointed,
and can be removed, by the government. Proposals by
the Commission with regard to an annual report by the
regulators are welcome suggestions which will add to the
accountability and oversight over regulators.
The proposal to create an FSAT, however, and to subject
everything that a regulator does – framing of regulation,
policy decisions, the decision-making process, even the
exercise of regulatory judgement – carries serious dangers of excessive legal oversight. A regulator often seeks to fill in
gaps in laws, contracts and even regulations by exercising
sound judgment based on experience. But not everything
the regulator does can be proven in a court of law and it
would be counterproductive to put in place a mechanism
wherein every regulatory decision is second-guessed. These
dangers are particularly pronounced in a developing country
where the combination of a slow moving legal system and
an inexperienced tribunal could slow down the process of
regulation making and introduce distortions in the system.
In any country, and especially a developing economy like
ours, a healthy respect for the regulator is a critical part of the
regulator’s toolkit of checks and balances for the regulated.
By making the regulator’s every action subject to checks by
the private sector is tantamount to depriving the power of the
regulator to command, even to influence good behaviour.
The Commission lays a great deal of emphasis on according
the strongest independence to the central bank. Its
recommendations, however, do not add up to that; rather
they may constrain any independence which the regulator
enjoys currently.
Regulation and principle-based law
The Commission’s proposal on non-sectoral approach
carries the risk of excessive generalization. Globally, there
are different sets of prudential norms for different sectors
(e.g. Basel norms for banking, solvency norms for insurance,
etc.). The sectoral approach is proposed to be at the level of
regulation, which will result in a “mammoth superstructure”
of regulations super-imposed over a “slender base of law”3.
Again, a principle-based law, while bringing in a new
approach, passes the responsibility of rule-making to the
regulators which should primarily be the responsibility of
the legislators. It entails many challenges in interpreting the
law and could lead to unnecessary litigation, with avoidable
additional cost on the financial system. It may be useful to
start in a measured way in a small area of regulation than to
move across the board towards principle-based regulation.
Indian Financial Code – Gaps
The draft Indian Financial Code is comprehensive, but will
require significant efforts before it can be accepted as law.
The Commission, for reasons not explained, has sought
to redefine accepted terms such as banking, deposits,
government securities, etc. The resulting definitions are
open to wide interpretation. There are also some differences
between the recommendations and observations in the
Report and the draft Model Law. These also need to be
reconciled. Finally, some gaps will have to be filled if the
legislation is to be effective.
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