BANKING ON DEPOSITS

The Financial Resolution and Deposit Insurance Bill would possibly have gone through Parliament without a murmur if it weren’t for the contentious ‘bail-in’ clause that has stoked heated debate on whether this constitutes abuse of depositors’ rights. It might even prod the government to raise the deposit insurance from the current Rs 1 lakh. In effect, the clause allows distressed banks to be ‘bailed in’ with depositors’ funds rather than being bailed out by the government with taxpayers’ money.

In India, bank deposits upto Rs 1 lakh are insured by the Deposit Insurance and Credit Guarantee Corporation (DICGC), a subsidiary of the Reserve Bank of India. The FRDI bill entitles distressed banks, staring at the prospect of potential bankruptcy, to restructure their deposits—convert them into equity or time deposits or any other instrument banks in such dire straits may deem fit.

The bill, similar to the Insolvency and Bankruptcy Code, 2016, is focused on companies in the financial sector. It seeks to provide a resolution framework to deal with bankruptcies in banks, insurance companies and other companies in the financial services sector. It envisages a ‘Resolution Corporation’ and a ‘Corporation Insurance Fund’ for deposit insurance, replacing the DICGC, set up in the early 1960s after two banks collapsed.

In India, norms for capital adequacy and liquidity for banks have also worked as early warning signs for the RBI to step in and avert crises. Instances of commercial banks going

The government will know that a bill empowering creditors’ rights will bolster its image with potential investors

bust are few, and at a sign of serious trouble, the RBI has gone ahead and merged a weak bank with a strong bank. In 2014, when the United Bank of India crisis began to unfold, as its tier-1 capital fell below the statutory requirement, the RBI curbed further lending to protect depositors’ interests.

However, in recent years there has been a sharp deterioration in the financial health of public sector banks. The RBI’s June Financial Stability Report makes sober reading: it warns that the gross bad loan ratio will rise to 10.2 per cent of the total loan book in March 2018 from 9.6 per cent in March 2017. For public sector banks, this ratio could go up to 14.2 per cent by March 2018, up from 11.4 per cent in March 2017.

In his 2016-17 budget speech, Union finance minister Arun Jaitley spoke of a systemic vacuum with regard to bankruptcy situations in financial firms. A committee was set up, under Ajit Tyagi, additional secretary, Department of Economic Affairs, to prepare a draft FRDI bill, on which the finance ministry sought comments till October 31, before the Cabinet approved it for introduction in Parliament.

Among other issues, the bill has raised questions about how the proposed Resolution Corporation, a parallel body to monitor the health of banks, may impinge on the RBI’s mandate to be that watchdog. There is no mention of a revised deposit insurance threshold, and the current Rs 1 lakh limit is abysmally low, especially in a scenario where a ‘bail-in’ has been legitimised.

Critics of the bill say the government is trying to do too much too soon vis-à-vis distressed banks. “Trying to resolve the NPA problem in six months is taking on too much after years of inaction,” says a Mumbai-based economist preferring anonymity. But the government probably has an eye on further improving India’s ‘ease of doing business’ rankings, and will know that a bill empowering creditors’ rights will bolster its image with potential investors. It will also prod depositors to consider a bank’s risk profile before parking their deposits with it.

In the face of strident criticism, the government has hinted at a review of the bill. Chances are it will be referred to a select committee, officialese for sending it into the freezer.