One year after the PMC Bank fiasco, Parliament has passed the Banking Regulation (Amendment) Bill effectively giving more teeth to the Reserve Bank of India (RBI) to regulate co-operative banks. That’s good news.
The PMC crisis, along with a series of such failures in the co-operative sector, has forced authorities to rethink regulations of such entities. An important lesson is learned-- both by the government and the RBI from the PMC Bank episode. In most cases, the financial failures of co-operative banks are the direct result of outright fraud or violation of prudential norms. Depositors’ money is stuck in many of these banks. Government’s decision to give more powers to the banking regulator is a step in the right direction.
What does it do?
The latest amendment brings co-operative banks under the supervision of the central bank and lets the central bank to initiate a scheme for reconstruction or amalgamation of a stressed lender without imposing a moratorium in the event of a bank failure. In June, the union cabinet approved the ordinance to bring 1,482 urban and 58 multi-state cooperative banks under RBI’s supervision.
This is significant since RBI didn’t have absolute powers over these entities before. It could only take punitive actions and temporarily halt the business operations of co-operative banks. In most cases, the RBI imposed a moratorium, which meant that depositors can’t withdraw money and lending operations came to a halt once the moratorium kicked in. That wasn’t sufficient to take effective action in the interest of the depositors.
PMC was an eye opener to the government. It was in September last year when PMC Bank collapsed and its Board was superseded by the Reserve Bank of India which soon appointed an administrator to resolve the crisis. PMC, one of the biggest in the co-operative banking industry, had a cracked balance sheet.
Of its total loan book of Rs 8,383 crore, as on March 31, 2019, about 70 percent had been taken by real estate firm HDIL. The bank had Rs 11,600 crore in deposits. The police later arrested Joy Thomas, former managing director of the PMC Bank, in October. The investigators have made a few more arrests since then. HDIL has denied any wrongdoing in this case.
Will the BR amendment resolve Co-operative sector’s problems?
Not really, the amendment only strengthens the power of RBI with respect to Urban Co-operative Banks (UCBs), especially multistate UCBs. According to the latest version of the bill, the Banking Regulation Act shall not apply to primary agricultural credit societies and co-operative societies whose primary object and principal business is of providing long term finance for agricultural development.
“There is an assumption that RBI now has power over the entire co-operative banking industry. That is wrong. The RBI already has powers over UCBs which has been strengthened with this amendment. The amendment doesn't touch smaller cooperative banks,” said a senior Nabard official who didn’t want to be named. Smaller cooperative banks come under the purview of Nabard.
While more powers to RBI is good news for UCBs, questions arise on why rural co-operative banks have been left out of the regulatory overhaul. In fact, the problem of misgovernance and frauds are more in smaller co-operative banks since these entities are largely run by local politicians. Often, these banks don’t follow processes and engage in dubious transactions. What happens to depositors of these banks?
According to RBI data, India has 1,551 urban co-operative banks (UCBs) at end-March 2018. These banks managed Rs 4.5 lakh crore deposits at end March, 2018. At state-level, there are three types of cooperative banks--primary credit co-operative banks, district level cooperative banks and state-level cooperative banks. As on end March, 2017, there were about 33 state co-operative banks with Rs1.2 lakh crore deposits and , 370 district central co-operative banks (Rs3.3 lakh crore deposits) and 95,595 Primary Agricultural Credit Societies (Rs1.15 lakh crore deposits).
Government will have to focus on regulation of smaller co-operative banks as well along with UCBs. As shown above in the data state co-operative banks too have significant business operations that necessitates bringing these companies under stringent regulations.
How deep is the co-operative banking mess?
PMC is not an isolated case. There are scores of co-operative banks that face RBI action on account of financial failure almost every passing week. Till June, the RBI has put 44 cooperative banks under watch citing deterioration in their financials or for flouting prudential norms.
This includes those cases where the regulator has put fresh restrictions on the business activities and those where the RBI extended the restrictions already imposed on the entities. At least two banks — CKP Co-operative Bank in Maharashtra and the Mapusa Urban Co-operative Bank of Goa — were asked to shut shop.
On May 2, the RBI cancelled the licence of Mumbai-based CKP Co-operative Bank. The RBI said the financial position of the bank is highly adverse and unsustainable. The bank, as per RBI's observation, also did not have any concrete revival plan or proposal for a merger with another bank. The bank had nearly 97 percent of Gross Non-Performing Assets (GNPAs), a lot of which were loans given to small and mid-sized real estate developers.
Besides PMC, the RBI imposed restrictions on Bengaluru-based Guru Raghavendra Sahakara (Co-operative) Bank Niyamitha on January 10 from renewing loans and deposits. The bank was also asked to not allow withdrawals beyond Rs 35,000 per account. Similar restrictions were imposed on Kolkata’s Kolikata Mahila Cooperative Bank with deposit withdrawal restrictions of Rs 1,000 per account. On April 17, the RBI cancelled the license of Mapusa Urban Co-operative Bank for financial failure.
Pain points
In the past, the biggest curse faced by the co-operative banking sector was the issue of dual regulation. Regulation of UCBs is split between RBI and centre/state-governments, while that of smaller co-operative banks is divided between National Bank for Agriculture and Rural Development (Nabard) and state governments. The regulation of multi-state UCBs fall under the ministry of agriculture while that of single-state UCBs come under the ministry of finance.
When it comes to taking the stock of operations, the Registrar of Co-operative Society (RCS) is the primary authority on behalf of the government. Typically an IAS official on the verge of retirement, the RCS is entrusted with conducting regular scrutiny of these banks and compiling the numbers. But politicians at state-levels dominate the running of these banks, and the RCSs are either powerless or in cahoots with the powers-that-be.
The government hopes to bring in stricter regulations to the sector by giving more power to the RBI. According to Union finance minister Nirmala Sitharaman, the pandemic has worsened the stress in cooperative banks and the gross NPA ratio increased from 7.27 per cent in March 2019 to over 10 per cent in March 2020. Therefore it was felt that to protect depositors' interest we should have the ordinance brought in, the minister said.
The amendments has drawn criticism from certain political parties which said giving more power to RBI will destroy the co-operative sector. But, the finance Minister has argued otherwise saying the legislation wasn't meant to bring the regulation of cooperative banks under the central government but to protect depositors. The bill also states that if a co-operative bank is registered with the Registrar of Co-operative Societies of a state, the central bank may supersede the lender's board after consultation with the concerned state government.
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