In 2021 so far, the Reserve Bank of India (RBI) has issued 101 directives imposing various regulatory measures on erring or poorly run urban co-operative banks, a Moneycontrol analysis has shown. The regulator has cancelled the licences of three co-operative banks, launching a major crackdown on wrongdoers and learning from the mistakes of the past. Doing so, the central bank has continued the clampdown on the industry which it kicked off in 2020.
The RBI cancelled the licence of three banks in 2021--Shivajirao Bhosale Sahakari Bank on May 31, Bhagyodaya Friends Urban Co-operative Bank Limited on April 22 and Vasantdada Nagari Sahakari Bank on January 11. The punitive measures include imposition of monetary penalties and restrictions on business activities. The numbers are almost a repetition of what the RBI did in 2020 when the central bank issued a total of 106 directives to co-operative banks either restricting their business operations or extending the period of existing directions. Last year, it cancelled three permits--Karad Janata Sahakari Bank, CKP Co-operative Bank and the Mapusa Urban Co-operative Bank of Goa.
The RBI’s Enforcement Department (EFD, set up in April, 2017 to separate enforcement action from supervisory process, identifies actionable violations from the inspection reports, risk assessment reports and scrutiny reports. Market intelligence reports, references from the top management and complaints are also used for investigation. An Adjudication Committee then adjudicates the violations and determines the quantum of penalty.
Besides punishing weak co-operative banks, the RBI has been tightening the rules for these institutions. On June 25, the central bank issued two back -back-to-back notifications on appointment of managing directors and chief risk officers of urban co-operative banks. The RBI said the tenure of the managing director shall not be for a period more than five years at a time subject to a minimum period of three years at the time of first appointment.
Also, the performance of the MD needs to be reviewed by the Board annually, the RBI said, adding the post of the MD or WTD (whole-time directors) cannot be held by the same incumbent for more than 15 years, the RBI said. Further, the UCBs need to ensure that the ‘fit and proper’ criteria of the MD, who should function under the overall general superintendence, direction and control of the Board of Directors, the RBI said.
RBI rules state that the person shall not be below the age of 35 years and above the age of 70 years at any time during his/ her term in office. However, within the overall limit of 70 years, as part of their internal policy, individual bank's Boards are free to prescribe a lower retirement age, the RBI said. UCBs will have to constitute a Nomination and Remuneration Committee (NRC) consisting of three directors from amongst the Board and nominate one among them as Chairman of the NRC.
In a separate notification, the RBI also listed rules for appointment of chief risk officers in urban co-operative banks.
Outsourcing of functions
Upping the guard, the RBI also tightened rules on outsourcing of core functions by the co-operative banks. On June 28, the RBI said co-operative banks cannot outsource core management functions such as policy formulation, internal audit and compliance, compliance with KYC norms, credit sanction and management of investment portfolio.
The RBI said the lenders can hire experts, including former employees, on a contractual basis subject to certain conditions. Cooperative banks have been increasingly using outsourcing as a means for reducing costs as well as for availing specialist expertise, where these are not available internally.
What's the trigger for the crackdown?
According to senior industry officials and bankers, the high alertness from the central bank, the increased scrutiny and a raft of rule changes are a result of rising number of institutional failures in the co-operative banking industry, particularly that of Punjab and Maharashtra Co-operative Bank (PMC) which attracted significant media attention and raised questions about the central bank's handling of the co-operative banks.
On June 29, Moneycontrol reported that as early as 2011—eight years before the PMC Bank scam became public—the RBI was warned about the shenanigans at the bank by a whistleblower. But, no follow up actions were taken except the asking the CEO (later arrested for the scam) to investigate the matter.
In September 2019, RBI imposed restrictions on the bank after discovering financial irregularities, including under-reporting of bad loans. Around 9 lakh depositors were bound by curbs on withdrawing money. PMC’s dire finances intensified worries about the health of India's financial institutions, coming as it did after the IL&FS collapse. The case is also mired in a litany of litigations. Over 100 depositors allegedly lost lives in connection with the PMC Bank crisis, according to PMC Bank depositor associations. Moneycontrol couldn't verify this.
The case prompted the RBI to review the existing approach on co-operative banking regulations and also resulted in intensified scrutiny, bankers said. "PMC Bank was an eye-opener for the whole industry and regulators," said a senior banking industry official. "There was also a lot of political attention on the case. Co-operative banks are under the regulator's radar now like never before," said the banker who did not want to be named.
Dual regulation an issue?
The co-op banks have for long suffered from issues of dual regulation, intervention by local politicians and financial mismanagement. Also, the process of the RBI's supervision and periodical scrutiny of the books of these banks are not as stringent as in the case of commercial banks. All these create issues in their running. There is a lack of clarity between the RBI and the government on who does the regulation. This confusion has contributed to the present plight of the co-op banking industry, said another senior banker. He too declined to be named.
The RBI regulates only the big ones--the UCBs while the rural cooperative banks continue to be under state registrar of co-operative societies. While UCBs are under the purview of the RBI, primary credit cooperative societies are outside the purview of the Banking Regulation Act, 1949. The NABARD has been given power under Section 35 (6) of the Banking Regulation Act to conduct inspections of State Cooperative Banks and DCCBs. The NABARD also conducts voluntary inspections of State Co-operative Agriculture and Rural Development Banks. Recently, Kerala-based Karuvannur Co-operative Bank reported a Rs100 crore scam.
According to the latest data, India had 1,544 urban co-operative banks (UCBs) by March-end 2019. At the state level, there are three types of cooperative banks — primary credit co-operative banks, district-level cooperative banks, DCCBs, and state-level cooperative banks. As on March-end 2018, there were about 33 state co-operative banks with Rs 1.2 lakh crore deposits, 363 district central co-operative banks (Rs 3.47 lakh crore deposits) and 95,238 Primary Agricultural Credit Societies (Rs 1.19 lakh crore deposits).