“Occasionally, there are concerns over the government exercising its ownership rights not through the established channel which is board mechanism, but outside board (of directors),” so said, according to reports, the Governor of the Reserve Bank of India. He seems to have added that “I don’t think it is a good example of corporate governance”. Strong words those, coming from the Governor, who is generally given to understatement and not critical of government in public. Well deserved too, looking at the large number of circulars — threatening to be an avalanche — emanating from the Department of Financial Services on issues of day-to-day management of banks. By micro-managing public sector banks (PSBs), without being fully equipped to do so, the Government officials could end up harming them, through inappropriate advices as discussed in brief in this article.
On an overall policy level, the Governor’s views are fully justified. Even through the board of directors, the Government should not direct PSBs on operational issues, as it is one (albeit major) of their shareholders. On a practical plane, the interference of the Government in operations of PSB could turn out to be impractical, besides opening up legal issues in some cases.
2 circulars
Two circulars could be examined form this angle. In April, the Union Government asked PSBs to refrain generally from private sale of properties (instead of public auction) mortgaged by defaulting borrowers. The one exception that Government made was that if the sale proceeds fully cover the dues to the bank, private sale could be resorted to. This advice is fraught with a serious legal risk.
In a case where the intrinsic value of property charged to the bank is Rs 4 crore and the due to it is Rs 2 crore, could the bank sell it for Rs 2.5 crore through a non-transparent private sale? The sale would not be upheld by a court of law, if challenged by the borrower, his other creditors and employees, if any, alleging gross underselling of the property by the bank. The matter would be further compounded if the buyer is a person closely connected with a powerful politician or bureaucrat. The other circular is a recent one giving detailed guidelines on cases where a customer borrows from more than one PSB in excess of Rs 150 crore. Such loans (at a lower threshold level) were two decades ago put in a straight jacket rule of consortium lending by the RBI. After a few years, the compulsory consortium rules were withdrawn, as a measure of liberalisation. The Government now wants to reintroduce the system with greater vigour only for PSBs. This could perhaps be challenged as cartel formation by customers. On operational matters, the circular could raise a number of issues. One of them is plainly untenable.
The Government says that if the account of a borrower is a non-performing asset (NPA) with one PSB, it should be treated as an NPA by all the other PSBs financing that customer. This goes against the diktat of the RBI that each bank should determine NPA status according to the record of borrower in its books. If implemented, the rule could increase NPAs in all PSBs, thereby making them unhealthier than they really are.
Another issue germane to the above is that a borrower’s account could become an NPA, even if the borrower is prompt in servicing the loan due to “technical” or “non-financial” reasons, such as non-submission of stock statements in time, non-renewal of limits, etc. Thus, if the borrower’s stock statement is not recorded in time by one of the many financing banks, and is classified as an NPA by that bank’s statutory auditor, then it would affect the status of the account with all the other PSBs financing the borrower.
The question is whether the Government should be overriding the instructions of the RBI, which are issued after deliberate thought by experienced officials of the regulator. Also, if the customer is financed by PSBs and private banks, PSBs would be forced to adopt a much stricter rule than the private banks: the “playing field” is being distorted against the PSB, by the Government, the majority shareholder of the PSB.
Purely on an operational matter, the Government’s instructions are on shaky grounds. The circular says that when a group of PSBs finances a customer, no PSB either within the lenders or outside, should extend any fund-based or non-fund-based credit facilities to that customer, without the consent of the existing bankers. This is extremely difficult to implement in practice especially in regard to bill discounting and letters of credit. If a borrower plays truant and fails to pay the dues in time, its bankers would normally stipulate that they would set apart (cut back) a portion of the sale proceeds to regularise the irregularity in the account. In such a situation, many borrowers are known to divert the sale proceeds to another bank so that the borrower is able to use the entire money, by discounting the bills or collecting the amount directly from his customers. The position would be further be accentuated if the sale is covered by a letter of credit confined to a bank which is not a financing bank.
Regarding opening of the letter of credit also, recalcitrant borrowers are known to approach a non-financing bank if the financing banks’ conditions are unacceptable to the borrower. They do so by diverting sale proceeds and offering 100 per cent deposit for the letter of credit. A non-financing bank — even if it is also a PSB — would surely not refuse such a business when 100 per cent cash cover is given for the non-fund-based facility. The tone of the circular on joint financing by PSBs raises a very disturbing thought: the Government seems to subscribe to the view that banks are superior to borrowers and the latter need to be disciplined! Possibly, the Finance Minister’s closest advisers do not subscribe to the views of the mandarins of Department Of Financial Services. To conclude, it is high time that the Finance Minister, who is credited with having liberalised the economy 20 years ago, curbed the tendency of the officials to shackle PSBs with circular-a-day on operational issues. Such matters are best left to the RBI which has experts who have acquired long expertise in properly guiding banks.
(The author is a retired banker.)