The Narasimham Committee advised the Union Government to wind up Department of Banking as it lacks professional competence to direct the industry apart from duplication of regulatory and supervision functions. Till date this has not been done. It infested Bank Boards with officials from the Ministry of Finance whose performance was never on the radar for inquest. Second, the Reserve Bank of India (RBI) as regulator has no business to represent on the Boards and yet it continued. If such presence could have contributed to efficient performance of the banks, it was a different matter. Unfortunately, successive Governors of the Reserve Bank had done little to correct the situation. The recipe for the malady suggested by one of the researchers from the RBI to set up “Precautionary Marginal Reserve Fund” went into deaf ears.
It starts with a small levy of 0.10% to 0.75% on the standard advances. For this purpose, the standard advances have to be classified into four categories:
“A category – Excellent: 0.10%; B-Very Good: 0.25%; C-Good: 0.50% and D-Satisfactory: 0.75% for levy. The levy on off-balance sheet exposures like guarantees, lines of credit (LCs) could be 1%.
The classification into A, B, C, D has to be done on a scientific basis ensuring inter alia, continuous relationship between the borrower and lender and transparency in their dealings.”
Character, competence, credit worthiness of the borrower based on market intelligence report from the responsible official entrusted with those advances and bank’s own experience; internal credit rating and conduct of account should be the parameters for classification.
The levy suggested should go to a Reserve as preventive measures reserve (PMR) account in the General Ledger and should be shown in the bank’s balance sheet on the liability side. This should not be part of the normal “Reserves and Surplus’ account of the balance sheet of the Bank. The levy is akin to a guarantee fees with recourse by the bank. As this forms, part of the ‘Disclosure of Accounting Practices’ under the Institute of Chartered Accountants of India (ICAI) rules of ‘Statements and Standards of Accounting’ and enabled by Section 5 (Ca) and 21 of the Banking Regulation Act 1949, as a prudent banking practice, there should be no legal objection for creating and operating the reserve.
This PMR shall attract bank rate for purpose of interest calculation or could be indexed to inflation with a base of 4% per annum. By equating this to subordinated debt, interest cost and future recurring liabilities can be saved. Since this forms part of cost of credit to the borrower, he would also be careful in performance. This does not lead to unnecessary lenders’ arbitrage or moral suasion.’
Repayments at Source for Infrastructure: Loans also makes lot of sense. When we have a good payments and settlements mechanism, we can integrate the service providers of the High Ways, Telecoms, and Power Distribution companies with those of the Banks for deduction at source of consumer payments for those services.
Let the Audit Perform its job: The danger in blaming the audit and vigilance system to be under the new dispensation is missing the wood for the trees. Why the chartered accountants (CAs) who annually audit alone should take the blame when the whole system of audits perpetrate it? How these non-performing assets (NPAs) originated deserves to be looked at for making corrections instead of making a wild goose chase. Any such measure should not cut the roots of business growth in banks. The sword of accountability when it shifts from the criminal to the judge, the criminal has every opportunity to take advantage of and getting away with the ransom.
It is no use crying over spilt milk. All is not lost. Government can at least now take the following measures that it is also part of the Financial Stability Board. First and foremost, divest its role from supervising the public sector banks (PSBs) and let the autonomy prevail with them to make them accountable to do what is in the best interests of the institution.
Second, let the Bank Board Bureau develop a pool of directors qualifying to be on Bank Boards. Each such director should be asked to furnish a statement of his possible contribution on the Board that should be the basis of assessing his/her performance in addition to the non-disclosure agreement. RBI should likewise withdraw all its nominees on the Boards of Banks.
Third and most important, Government and Reserve Bank should reverse universal banking and disallow cross-selling non-banking products.
Fourth, RBI should direct the banks to set up the Precautionary Marginal Reserve Fund to tackle the NPAs effectively. As an immediate interim measure, PSBs should be enjoined upon to withdraw all incentives to staff for such cross-sale. Let the salaries and pensions of bank staff move in tandem with the Seventh Pay Commissions’ recommendations. Pay and perks of the top executives of PSBs should be no less than their private peers. Recapitalisation of banks of the order now envisaged is a necessary evil in the context of G-20 and Basel III commitments but will make sense when banks do banking.
(This is concluding part of a two-part series)
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(Dr B Yerram Raju is an economist and risk management professional. The views are personal.)
