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India to Improve Financial Health of Banking system

Way Forward: Governor lists measures


Way Forward: RBI Governor lists measures


RBI Governor Das at NIMB.

The Indian banking system is on the cusp of a transformation, aided by recent policy measures to reduce vulnerabilities and improve its financial health, said Shaktikanta Das, Governor of Reserve Bank of India.

Several initiatives have been undertaken and are also underway to strengthen the regulatory and supervisory frameworks aimed at increasing the resilience of the banking system, he gave the assurance at the 15th Annual Convocation of Post Graduate Diploma in Management at the National Institute of Bank Management at Pune on 8 June 2019.

“As a way forward, I would like to highlight some important issues which need to be addressed in the coming months. The first and foremost is governance reforms in banks and non-banks,” he said.

These would include the following:

In order to improve the functioning of the PSB boards and to foster corporate governance, it is important to enhance their quality and stability through further streamlining appointment process, succession planning and compensation. These aspects could be evaluated by bank boards and reviewed by the Banks Board Bureau. “We also need to create a pool of independent directors across various areas of expertise.”

The performance of MDs/CEOs of both public and private sector banks should be closely monitored by the Board of Directors either through a sub-committee or through an external peer group review.

An effective performance evaluation system should also be put in place for banks to improve their financial and operating parameters. The Government, the Bank Board Bureau and the Reserve Bank are engaged in developing an objective framework for performance evaluation of PSBs. This should redefine the contours of corporate governance in PSBs with a focus on transparency, accountability and efficiency.

Governance issues in private sector banks (PVBs) originate from altogether different set of concerns. The issues mainly relate to incentive structure of their managements, quality of audits and compliance and also efficient functioning of Audit and Risk Management Committees.

The Reserve Bank has issued a discussion paper on proposed guidelines for compensation in private sector banks which includes specification of minimum variable pay component and clawback arrangements, among others. The Reserve Bank will continue to play a positive and constructive role to ensure private sector banks flourish in their operations.

Second, to create potent risk management systems in banks, the Chief Risk Officers (CROs) have to play an effective role and should be directly accountable to Managing Directors (MDs), Chief Executive Officers (CEOs) and Risk Management Committee of the Board.

Third, along with risk management, compliance function in banks is one of the key elements in their corporate governance structure. These have to be adequately strengthened and made sufficiently independent. For the compliance function to be effective, it must be supported by a healthy compliance culture within the organisation.

Banks should review their compliance function comprehensively to ensure compliance to all statutory and regulatory prescriptions in addition to their own internal guidelines, directions of the Board and their Committees and audit assessments. It is important that the Board of Directors are always sensitised of any compliance failures. A group-wide compliance programme would help managements and Boards in understanding the legal and reputational risks in the organisation, especially their concentration in certain areas.

Fourth, it has been observed that most bank frauds can be traced to absence of effective controls. An essential element of an effective system of internal control is a strong control mechanism. It is the responsibility of the Board of Directors and senior management to emphasise the importance of internal control through their actions and words.

Banks should regularly reorient and train their personnel so that they fully understand the importance of internal controls in their respective stations. The boards of banks should specifically pay attention to creating and sustaining a culture of effective control in the banks.

Fifth, even though the Government’s capital infusion has helped public sector banks (PSBs) to improve their balance sheets, Das stressed that PSBs should not become too dependent on this source. Depending upon individual situations, PSBs should access the capital market for mobilisation of capital.

Sixth, he referred to the importance of the IBC and the new bankruptcy regime earlier. There are, however, delays in the resolution of cases, as a significant number of them have extended beyond 180 or 270 days. The government has already announced two new National Company Law Tribunal (NCLT) benches at Indore and Amravati.

Nevertheless, more number of benches as well as members are required. On our part, we are opening a new RBI Professorial Chair at the Indian Institute of Corporate Affairs (IICA), Manesar, Haryana which is starting a two-year Graduate Insolvency Programme to increase the pool of trained insolvency professionals.

Seventh, in the light of various developments in the financial sector such as the use of complex financial products and rapid technological innovations which give rise to interconnectedness and spillover effects within and between entities, there has been a move globally towards building specialised teams of bank supervisors.

Even in the Indian context, some incidents in the financial sector have underscored the need for specialisation in supervision and regulation.

The build-up of risks among regulated entities due to exposure concentrations, non-transparent market practices and the associated contagion effects in the banking sector have significant implications for financial stability.

Considering these issues, the Reserve Bank has now decided to build a specialised regulatory and supervisory cadre for regulation and supervision of banks, non-banks and co-operatives. This specialised cadre in the Reserve Bank will play a pivotal role so that sound banking and non-banking sectors efficiently intermediate the financing requirements of the entire economy.

Eighth, the Reserve Bank has been at the forefront of creating an enabling environment for growth of digital technology for new financial products and services.

“We are strengthening the surveillance framework and have issued draft guidelines on Framework for Regulatory Sandbox. A committee on deepening of digital payments under the chairmanship of Nandan Nilekani was formed which has submitted its report,” he said.

Recently, the Reserve Bank came up with a Payment System Vision 2021 to ensure uninterrupted availability of safe, secure, accessible and affordable payment systems. The Reserve Bank will examine the recommendations of the report of Nilekani Committee and dovetail the action points, wherever necessary, with Vision 2021, for implementation.

“Ninth, we also need to address the existing inadequacies in customer service and benchmark it against international standards.”

Efforts in developing robust customer grievance redressal mechanisms to increase customers’ trust and confidence in payment systems will be continued. Given the rising popularity of digital payments, data protection and cyber security norms need to be continuously strengthened.

With the emerging threat landscape, where organised cyber-crime and cyber warfare are gaining prominence, working towards ensuring continuous protection against the changing contours of cyber security threat becomes imperative. As banks’ engagement with technology is increasing at a rapid pace, the challenge for the regulator would be to balance efficiency with prudential measures to mitigate risks to be able to harness the opportunities offered by Fintech.

On NBFCs, Das said the conventional approach to their regulation and supervision has been light touch, so that they could complement banks with their diverse financial products for niche areas and reach a large cross-section of population through innovative service delivery mechanisms.

However, with a view to strengthen the sector, maintain stability and avoid regulatory arbitrage, the Reserve Bank has been proactively taking necessary regulatory and supervisory steps, keeping in mind the requirements of the time.

In the light of recent developments, there is a case for having a fresh look at their regulation and supervision. “It is our endeavour to have an optimal level of regulation and supervision so that the NBFC sector is financially resilient and robust,” said Das.

At the same time, NBFCs should be enabled to operate as well-functioning entities with necessary capacity to reach wider sections of population. The Reserve Bank will continue to monitor the activity and performance of this sector with a focus on major entities and their inter-linkages with other sectors. “We will not hesitate to take any required steps to maintain financial stability in the short, medium and long-term,” he said.

Fine tuning and improving supervision and regulation are continuous exercises. “Towards this direction, we have reduced the periodicity of the NBFC supervision to 12 months from 18 months earlier. We expect the Board of Directors of companies themselves to act diligently and take necessary action based on Reserve Bank’s supervision reports.”

Further, the objective is to harmonise the liquidity norms between banks and NBFCs, taking into account the unique business model of the NBFCs vis-à-vis banks. In this context, the final guidelines on the liquidity risk management framework which we have proposed recently will be issued shortly.

Referring to Urban Co-operative Banks (UCBs), he said “Our experience suggests that the Board of Directors of UCBs require greater expertise and skill to conduct banking business professionally.”

The Reserve Bank is in the process of issuing guidelines on this issue. A need is also felt for establishment of an Umbrella Organisation for UCBs which may extend loans and refinance facilities, setup IT infrastructure and provide support for capital and liquidity. The structure, functions and the regulatory guidelines of this organisation are being examined by the Reserve Bank.

Mergers and consolidation in the sector will also help in reducing operating costs, encouraging greater risk diversification and economising capital.

“We propose to put in place a mechanism for encouraging voluntary mergers in the sector through appropriate incentives. We also propose to create a Centralised Fraud Registry for UCBs,” said the Governor.

A sound and resilient financial system is a prerequisite for a modern economy that involves all sections of its society in sharing equitably the benefits of economic and social progress.

“As you would know, reforms are an ongoing process. The Reserve Bank will endeavour to be proactive in its approach.

“In the fast-changing financial landscape, we will continue to be watchful to the emerging challenges and respond to them appropriately to ensure a resilient and robust financial system,” Das assured.

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