Hostage to Questionable Priors (epw)

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The RBI’s Nayak panel goes beyond its mandate to recommend a dismantling of government stakes in banks.
In some sense the recently released report of the Reserve Bank of India’s (RBI) Committee to review governance of boards of banks in India, chaired by P J Nayak, completes the third arm of the triangle of the new policy framework of the RBI under Governor Raghuram Rajan, the other two being the Urjit Patel Committee report which advocated inflation targeting and that of the Nachiket Mor Committee which addressed financial inclusion. These three reports together constitute the broad contours of a grand new “monetary-banking-financial inclusion policy” configuration of the RBI. The terms of reference of the Nayak Committee which was constituted by the RBI in January 2014 included a review of the regulatory compliance requirements of the boards of banks, the working of these boards, regulatory guidelines on bank ownership/concentration, and an examination of board compensation guidelines. The report of the committee starts with an observation that the Government of India really has two options if it wants to strengthen the banking sector: (a) privatise the public sector banks (PSBs); or (b) design a radically new governance structure for the PSBs that would ensure their ability to compete successfully. While explicitly endorsing the second option, the committee implicitly advocates privatisation through a roundabout route. It identifies the key constraints of the PSBs as (a) dual regulation (by the finance ministry, and the RBI); (b) the manner of appointment of directors to boards; (c) the short average tenures of top management; (d) relatively low levels of compensation; (e) external vigilance enforcement; and (f) applicability of the Right to Information (RTI) Act.
The committee which had one representative from a PSB (a retired official) and one from the Securities and Exchange Board of India was dominated by financial market participants and specialists. It is, therefore, no wonder that its report oozes with the sentiment of financial market fundamentalism. Surprisingly, there was no representative from the Ministry of Finance, banking trade unions and investor groups. Furthermore, it is intriguing that an RBI committee report can begin with the sentence, “The financial position of public sector banks is fragile, partly masked by regulatory forbearance.” Such a statement from a RBI-appointed committee is extremely irresponsible. Since most of the PSBs are also listed in the stock market, this statement is enough to cause a run on PSBs. Contrast this to the RBI’s Report on Trend and Progress of Banking in India, 2012-13, which as ­recently as November 2013 went on to comment, “…overall the comfortable capital base still lends resilience to the Indian banking sector.” What happened between November 2013 and May 2014 that the assessment of the Indian banking sector had to change so drastically? Or, is it an insinuation of the Nayak Committee that RBI has been camouflaging banking data so that the true nature of the Indian public sector banking system is not known transparently to the nation?
The Nayak Committee prescribes a number of recommendations, of which a few deserve special mention. A major recommendation is the proposal to set up a bank investment company (BIC) in the nature of a sovereign wealth fund that would hold equity stakes in banks, equity that is presently with the government. What would be the nature of this BIC? Will it be like Temasek Corporation of Singapore? Interestingly, the committee sees the Central Vigilance Commission (CVC) and the RTI Act as two major constraints affecting the banking sector and calls for a dilution of the share of the BIC in the ownership of banks so that these banks lose their public sector character and come out of the purview of the RTI Act and CVC. There have been various arguments for diluting the government’s share in Indian PSBs – but to do so to avoid the jurisdiction of CVC and RTI is ­indeed ingenious!
Another recommendation of the Nayak Committee is to develop a specific category of investors in banks, Authorised Bank Investors (ABIs) who would comprise “pension funds, provident funds, long-only mutual funds, long-short hedge funds, exchange-traded funds and private equity funds (including sovereign wealth funds)” provided that these ABIs are diversified, discretionally managed and found to be “fit and proper”. This is the indirect road to privatisation that the committee has proposed and will expose Indian banking to the global forces of banking – a move that can be questioned in the aftermath of the global financial crisis.
There is no denying that one of the basic problems with our PSBs is undue influence of the government. The example of a leading PSB being arm-twisted to lend to a near-bankrupt airline company is fresh in our memory. The need of the hour, then, is to professionalise banking management that is also ­socially responsible, and to not necessarily allow the well-known predatory agents of capitalism like hedge funds to own our banks. After considering various indicators, the International Monetary Fund (IMF) in its Global Financial Stability Report of ­October 2012 came to this unusual (by IMF standards) conclusion that “Australia, Canada, India and Malaysia have a relatively low degree of exposure to international banking and also avoided the worst of the effects of the global financial crisis”. The Nayak Committee report seems to have missed this basic lesson of the global financial crisis and has fallen into the old trap of throwing the baby with the bathwater.
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