PMC Bank Fraud
Satish Marathe is director at Reserve Bank of India, founder and patron of Sahakar Bharti and former CEO of two banks. He shares insights about the banking fraud scenario and recommends solutions:
Manoj Agrawal: What is your understanding and analysis of the PMC Bank case?
Satish Marathe:
When I first read about it, I was shocked to the core, because I had always considered PMC Bank as one of the best urban cooperative banks in the country. Personally, I had very high regards for the bank and I held the MD Joy Thomas in very high esteem. Had there been no whistle-blower, things could have continued for some more time, maybe some more years. How could this continue for such a long time? As far as depositors are concerned, this is nothing short of cheating. Criminal proceedings should start against all those who were involved. Stringent action should be initiated as it is not just a question of what happens to the bank, but we have to set an example that we will not tolerate. We also have to revisit the system, because based on disclosed data, people have started hesitating in placing deposits in various banks. The amount involved is so large that I don’t think the bank can be revived.
Have you dealt with anything similar before?
I was personally and very intimately involved in the revival of Madhavpura Bank. I was the first person who took the initiative and we at Sahakar Bharti had appointed a committee under the chairmanship of veteran chartered accountant Chitale to work out a rehabilitation package for the bank. We got the support of the central government particularly, ministers Lal Krishna Advani and Yashwant Sinha, the latter who was then finance minister, as this was going to affect around 150 smaller banks that had deposits in Madhavpura Bank. Our proposal was accepted and over a period of time, the negative impact of Madhavpura Bank did not lead to the failure of other banks. It was a clear case of fraud as there were no actual securities versus the claims. We discussed and worked out a package with various banks, DICGC and others.
What kind of justice was delivered in the Madhavpura case?
This case is still going on, and CBI is sitting on a pile of funds of attached shares. It is stuck in the legal system and court cases are going on. I think the mischief maker is still behind bars, but he has not been convicted.
Do you think the complete extent of the fraud has been revealed in the PMC Bank case?
Some banks had informed me that they have discounted PMC Bank’s LCs. However, I do not find this appearing in any records today. It could be a substantial amount that will get added to the deficiency. More than 100 urban cooperative banks, more than 15,000 housing cooperative societies and a very large number of credit cooperative societies have their funds stuck up in PMC Bank. So, it’s a big jolt for the entire cooperative sector. We have to work out a way, whereby the affected institutions, particularly banks, are not put to great hardships in one single financial year. It will have to be discussed and the amount will have to be quantified and depending on the amount for each bank, they will have to be given time to make provisions.
Is there a legal provision to do this or this will have to be an exception?
This will have to come from RBI in the larger interest of helping those banks which have been cheated for no fault of theirs. At Sahakar Bharti, we are going to write to the state governments in all the states where the PMC Bank was present, regarding the legal provision that requires cooperatives to place their surplus funds and maintain accounts only with cooperative banks. That should be done away with. Individual banks and societies should take an informed decision after considering the ratings and financial soundness of the banks for keeping these deposits. In the past, RBI has advised cooperative banks not to keep their deposits with DCCBs and StCBs. Likewise, it should be done for all other cooperatives also. Today, about `1.2 billion of 35 banks in Nasik district are stuck up because Nasik DCCB is in difficulty. Banks were not bound to keep funds in DCCBs, but credit societies are expected do so and about a `1.8 billion of deposits of credit societies are stuck up in Nasik DCCB. Cooperatives should be allowed to keep deposits in a bank that suits them.
As a banker who has worked for so many years in the system and who knows the people, do you think jail sentences are adequate to deter fraudsters?
It should be strong punishment. Just giving a light punishment is not going to be of any use. Deterrent punishment should be swift and court cases should be conducted
on a day-to-day basis. People should be seriously worried if they break the law - that is what is necessary.
What changes in regulation have happened over the last 5-10 years to control fraud?
Several systems have been put in place. Audits and inspection reports have been strengthened. Previously banks used to send data. Now it’s being sent online on a regular basis. I have written to RBI, to Arun Jaitley and to Nirmala Sitaraman suggesting amendment of the Banking Regulation Act to give full regulatory powers to RBI. Unfortunately, RBI has limited powers to act and has to deal through the Registrar of Cooperative Societies and at times the response is not be adequate and timely. In the PMC Bank case also, that is what has now come to light.
Also, there is a need to improve general awareness about financial risks among the population. Actually, each bank should boldly display on its notice boards and in its annual report, whether it complies with the financially soundness and well managed bank guidelines. Each bank can rate itself.
I’ve always considered that RBI is the last soldier at the frontier. Anything going wrong in a bank is first known to the staff and managers. Why everybody has failed in the PMC Bank case? In a majority of the cases, people know in advance that something is fishy, or something is going wrong. I don’t believe it’s only 6 people in this conspiracy. And it has been going for 10 years. In a bank, you cannot have 21,000 fictitious accounts – it’s impossible. How does it happen that both internal and external auditors don’t understand? Were they greedy?
Broadening the question, a little bit, what kind of frauds are most prevalent in the other cooperative sectors apart from banking?
Credit societies are akin to banks. In the financial sector, the big problem is not that somebody makes a bogus signature and withdraws the money. The biggest problem is wrong lending, inadequate creation of security, non-creation of security and flouting the guidelines of the regulators - whether it is the cooperative department or the RBI. That is what leads to loss. I emphasize the need to put risk management systems in place - that is very necessary. Commercial banks started this exercise sometime in 2003-04. Another important aspect is rotation of staff. In all banks this is carried out as much as is necessary. Generally, it is said that after 3 years, everybody should be transferred, he or she should not be on the same desk doing the same type of activity.
We have welcomed the proposal that like in private, public sector and foreign banks, the term of a CEO of a cooperative bank should for a fixed period, maybe 3 years, maybe 5 years, and at the end of that period, his continuation or otherwise, is decided on the basis of performance review. In urban cooperative banks, the MD may not be thrown out of job; if he has come from within the system, he may revert back to the cadre in which he was working. But the system of once an MD always an MD is not desirable. The multi-state cooperative act has put in place that a person cannot be the chairman for more than 2 terms continuously, but many of these state cooperative acts do not have that provision.
Another need is to strengthen the role of the audit committee of the board. In private sector banks, the MD/CEO is not a part of the audit committee of the board. He knows the topics that would be discussed, the agenda, etc, but he’s not part of the committee that consists of independent directors. Something similar is necessary for cooperative banks. Not only the CEO, but also the chairman should not be a part of the audit committee.
Do you recommend a regulatory approach to risk management and to strengthening the audit committee?
Yes. One more suggestion is that the recovery procedure should be a little different. The bank may be liquidated, and a liquidator may be appointed for recovery of dues. But we should study the provisions of the IBC. The IBC doesn’t talk of recovery, it basically approaches resolution of the crisis. Here what we need is not only recovery, but resolution and we should consider a resolution professional for that. It could be a proper way to deal with it. There is a provision that urban cooperative banks can initiate recovery proceedings under IBC. But is IBC applicable to a troubled bank? I don’t know. I am not an expert and I will speak to some experts. Some recoveries will be better than no recoveries.