Is this banking reform too risky?

Thu, 13 Dec Pre-Open

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The government has been aggressively pushing forward its pro-reform agenda. FDI in retail being its latest success. However the reform agenda took a blow with opposition parties unanimously stalling the banking reform bill. They argued that the amendment to the banking regulations bill that allowed banks to participate in commodity futures trading was not vetted by a Parliamentary panel. The Finance Minister, P. Chidambaram introduced three new clauses to the legislation. That too without referring it back to the Parliamentary standing committee.

The most contentious provision is one relating to lifting the ban on banks' proprietary trading in commodity futures. Trading in commodity futures in India is volatile and speculative. Hence banks' entry into this domain has been opposed by the regulator, Reserve Bank of India (RBI). It believes that the Forward Markets Commission, which regulates commodity futures, lacks autonomy and independence. Currently under the Banking Regulation Act, banks can trade in stocks, bonds and currencies. However, the finance ministry wants the legal norms to be changed in favour of banks who have been lobbying for entry into futures trading for quite some time now. Currently, banks are allowed to deal in forward contracts only for currencies and not in any goods.

The other two clauses in the Banking Bill relate to the term of the board of directors and bringing bank mergers under the purview of the Competition Commission of India (CCI) instead of the RBI. Another point of contention is the cap on voting rights for foreign investors in private banks. The government wants to withdraw the existing 10% cap but the committee wants the rights capped at 26%. Another reform to be addressed is that of new banking licenses. The government and the RBI have been butting heads on this issue for quite some time now. However the central bank would only be comfortable with doling out new licenses once it is given more powers to regulate the sector. The Banking Laws Bill seeks to give RBI the power to supersede bank boards as well as inspect other arms of banks, such as mutual funds and insurance. This is in order to ensure that their operations do not pose any systemic risk to the lenders. It also gives the RBI a lot of power to supervise group companies. Only once these issues are ironed out, will the RBI be able to issue new banking licenses.

We believe that instead of political parties deciding the future course of regulatory and banking environment in India, the government would do well to take the central bank and other regulatory bodies in confidence.