Say No To Corporate Houses in Indian Banking

Context: The Reserve Bank of India (RBI)’s approval of allowing corporate and industrial houses into banking is premature and by no means novel.  

Pros of allowing corporate houses in Banking:

• Corporate houses will bring capital and expertise to banking.
• A move towards liberalization: Not many jurisdictions world­ wide bar corporate houses from banking.

Downside risks of Allowing Corporate Houses into Banking

• Contradictory policy: While the RBI in the past have rejected the licenses of many banks since they did not match their ‘fir and proper’ criteria, allowing corporate in banking seems contradictory.
  • The Committee on Financial Sector Reforms (2008) had set its face against the entry of corporate houses into banking.
• Interconnected lending: corporate houses can use banks to provide finance to customers and suppliers of their businesses. There are challenges to the tracking of interconnected lending:
  • Inadequacy of legal and supervisory mechanism: to trace the illegal routing of funds by corporate houses.
  • Political connection of corporate houses: can thwart the cooperation of various law enforcement agencies aimed at monitoring illegal corporate transactions.
  • Limited capacity of the regulator: RBI can only react to interconnected lending ex-post.
  • Dent on the regulator’s credibility: pitting the regulator against powerful corporate houses could end up damaging the regulator.
• Concentration of economic power: corporate houses can easily turn banks into a source of funds for their own businesses/cronies, and the depositors may have to be rescued through a safety net.
• Exposure of public safety net: banks owned by corporate houses will be exposed to the risks of the non­bank entities of the group.
  • A way to privatization: and would raise serious concerns about the financial stability of public banks.
• Fundamental difference between Non-banking Financial Company (NBFC) and Banks ignored: The present policy allows conversion of NBFCs owned by corporate houses into banks
  • Bank ownership provides access to a public safety net, whereas NBFC ownership does not.
  • The reach and clout that bank ownership provides are vastly superior to that of an NBFC.
  • The objections that apply to a corporate house with no presence in bank­ like activities are equally applicable to corporate houses that own NBFCs.

Conclusion: Prohibition on the ‘banking and commerce’ combine still is certainly necessary for India till private governance and regulatory capacity improve.