How RBI's supervision could avert a PMC Bank-like crisis

Here are three ways in which co-operative bank would now be a tad safer than before.

Better RBI control, greater safety for depositors

The decision was long-awaited, as it was announced in the Union Budget 2020. A key reason for the PMC Bank crisis – and that with several other co-operative banks, 44 of which the RBI has put under its watch in 2020 alone – is of dual control. It is divided between the RBI and Registrar of Co-operative Societies, with the latter being under the purview of states and, therefore, tinged with political colour.

There is near-consensus that the move will boost depositor protection. “The case of two regulators blurred the lines of regulation. Now with the RBI being the supervisor, the norms followed by commercial banks can be imposed here to ensure that there is more discipline,” says Madan Sabnavis, Chief Economist, CARE Ratings. The scrutiny that co-operative banks’ corporate governance, lending and accounting practices will face would be at par with that of scheduled commercial banks, though finer details of the ordinance are awaited.

Dubious lending practices will come under a stricter scanner, potentially reducing bad loans that can wreck banks’ balance sheets. “We have seen depositor funds being at considerable risk in the past when cooperative banks had failed. However, depositors with scheduled commercial banks have experienced much higher safety levels, a key driver of which has been the close supervision and regulatory oversight by RBI of these banks,” explains Krishnan Sitharaman, Senior Director, CRISIL Ratings.

Allows RBI to nip any crisis in the bud

The mayhem at PMC Co-operative Bank was a bolt from the blue, with even the RBI admitting that it was kept in the dark on loans sanctioned to HDIL. But now, it is expected that the banking regulator will have greater power to monitor and take swift action to stem crises. “If co-operative banks start exhibiting financial stress, the regulator can step in to ensure expeditious resolution. Going forward, the RBI can take action as soon as, say, the bank’s net non-performing assets (NPA) exceeds six per cent of its net advances, or the bank makes losses for two consequent financial years or losses accumulate in its balance sheet,” explains financial consultant VN Kulkarni, former banker and credit counsellor.

Similarly, serious governance issues can be the other trigger. “With direct supervision, the RBI will ensure that the best practices in commercial banking are also adhered to here, which will improve the quality of governance. This means that there will be more inspection from the central bank to eschew such (PMC Bank-like) mishaps,” says Sabnavis. On the flipside, this will also stretch the resources of the apex bank as it will now get involved with over 1,500 entities, in addition to existing commercial banks.

YES Bank-like rescue missions to get easier

RBI has a track record of not letting scheduled commercial banks fail  as seen even recently in the way it devised a reconstruction plan to rescue  YES Bank. Since the ordinance now specifically allows the RBI to devise reconstruction or amalgamation plans for co-operative banks without imposing a moratorium, customers can hope for simpler resolution without having to face restrictions on withdrawals, like in the case of PMC Bank.

“At present, RBI takes care of functions such as maintaining cash reserve and capital adequacy, while the Registrar looks after incorporation, supersession of board, liquidation and so on. Now, it will be relatively easier for the regulator to rescue troubled co-operative banks, like it did in the case of YES Bank,” says Joydeep Sen, founder, Wiseinvestor.in.

The RBI getting more powers to monitor co-operative banks may seem like a panacea at a time when news around troubled banks has been making headlines since September last year. “However, the picture will not suddenly turn hunky dory for co-operative bank customers, though there will be assurance that the regulator will follow a professional (and not political) approach to monitoring these banks,” adds Sen. The fact remains that irregularities in PMC Bank’s accounts escaped RBI’s attention, with the regulator’s affidavit accusing bank officials of having ‘cheated’ its auditors. 

Customers should still exercise caution

Not everyone is convinced that the move will usher in all-round benefits. Jehangir Gai, a Mumbai-based consumer activist, remains sceptical of the RBI being able to safeguard the depositors against frauds, mismanagement and collapse of cooperative banks, despite greater powers. “The ordinance may look good on paper, but it is not going to be of any help to the common man. The RBI had always been exercising control over scheduled banks listed in the Second Schedule to the RBI Act. This schedule includes State, Urban and Gramin Co-operative Banks,” he says.

Therefore, at your end, keep your eyes open to spot signs of trouble with your bank. More importantly, do not choose a bank merely because it operates a branch in your neighbourhood, has convenient working hours or offers higher rates of interest on deposits compared to larger, reputed banks. Always choose safety over ‘extra’ returns.