Context

The amendments to the FRDI Bill, 2017—now renamed the Financial Sector Development and Regulation (Resolution) Bill, 2019—are being worked out.

Three crucial issues

• Specifics are being worked out in the bill on three crucial issues.
  • First issue: The first issue is regarding the increase in the deposit insurance cover of customers.
  • Second issue: To iron out the contentious issues related to the bail-in clause
  • Third issue: To decide whether this resolution framework should apply to the public sector banks.
• Advantages of the move: At a time when the public sector banks have come under the stress of bad loans, increasing the deposit insurance coverage limit would be a welcome approach.
  • Increasing the depositor’s confidence: The move will reinforce depositors’ confidence in the banking system in general, and the public sector banks in particular.

The issue of the government “ownership” of the banks and financial stability

• Ownership of government: The role of the “ownership” of banks towards financial stability is a much-debated issue in the country.
  • RBI is positive about govt. ownership: The Reserve Bank of India (RBI) has attributed a positive role to the government ownership of banks in attaining financial stability.
  • The issue of competitive neutrality: Committee to Draft Code on the Resolution of Financial Firms has blamed govt. ownership for causing a “lack of competitive neutrality” in the financial sector.
  • Need of level playing field: Committee argued for the need of a “level playing field” for both the public and private sector financial firms for the sake of competitive neutrality.
  • The concept of an overarching resolution framework for all financial firms gained traction.

Would the all-encompassing Resolution Corporation be efficacious?

• The FRDI Bill, 2017 sought to amend as many as 20 legislations for the diverse financial sector in this country, which is regulated by various institutions, like-
  • RBI for the banks and the non-banking financial corporations.
  • Insurance Regulatory and Development Authority (IRDA) for the insurance markets,
  • Securities and Exchange Board of India (SEBI) for securities markets and mutual funds.
  • The Pension Fund Regulatory and Development Authority for pension funds.
• The pertinent question
  • The pertinent question is whether an all-encompassing resolution corporation can be really efficacious for the much-discussed financial stability of this country.

Fundamental issues

• Neutrality of ownership
  • Different motives behind operations: While private financial institutions are predominantly governed by profit motives, for the public sector agencies, various social obligations, such as “financial inclusion,” assume primacy.
  • Reason for commoner’s confidence: It is the sense of the government’s involvement (or ownership) that has forged commoners’ confidence to park their financial savings with them.
  • The move may end up destabilising the financial sector: If the sovereign guarantee and resolving power are taken away from the government domain to some resolution corporation, it may destabilise the financial system.
• The Bail-in clause
  • Deposit over 1 lakh included in bail-in mechanism: The FRDI Bill 2017 suggests that deposit amounts over and above the cover limit (which currently is at one lakh) will be included in the bail-in mechanism.
  • Further, despite the RBI’s caution against financial instability, short-term debts and uncategorised client assets are also currently under this mechanism.
  • The falling growth rate of deposits: These provisions and the bill per se came against the backdrop of the Financial Stability Report, 2017 that revealed a 3.3% drop in the year-on-year growth rate of deposits for all scheduled banks in the country.

Conclusion

In the context of decelerating financial stability, the government needs to undertake these resolution reforms with caution that the reforms do not end-up eroding depositors’ faith in the domestic financial institutions.

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