RBI’s micro-management of corporate lending must end
The Reserve Bank (RBI) of India has mismanaged its attempt to control and reduce the number of current accounts in the Indian banking system. It has now permitted banks to defer the implementation of its guidelines on overdrafts and current accounts that had been laid out in a circular issued last year in August. The deadline for implementation of the circular has been pushed back to October 31 from July 31. It is unclear why this postponement could not have been announced prior to the deadline running out, avoiding the confusion and precipitate closing of accounts undertaken by some banks that sought to remain in compliance. As a consequence of delaying the announcement of this postponement, banks that sought to comply with the regulatory diktat have effectively been penalised. They closed down hundreds of accounts, and possibly lost customers. No regulator should extend a deadline four days after the deadline has, in fact, expired.
The banking regulator has not made a clear case for why the benefits of micro-management of current accounts and overdrafts outweigh its costs. The August 2020 circular had laid out very specific constraints for what accounts could be opened for companies depending upon their level of total loan exposure. The circular mandated, for example, that “where a bank’s exposure to a borrower is less than 10 per cent of the exposure of the banking system to that borrower, while credits are freely permitted, debits to the CC/OD [overdraft/current] account can only be for credit to the CC/OD account of that borrower with a bank that has 10 per cent or more of the exposure of the banking system to that borrower.” It also required banks to implement an escrow mechanism for borrowers with exposure to the banking system of over Rs 50 crore, and limited current accounts of these borrowers to the banks managing the escrow account. The RBI’s argument here is presumably that this reduces the chance that a lack of information across the banking system allows large borrowers to run up overdrafts across the banking system.
Yet this betrays a regulator stuck in the 1970s. In today’s networked financial architecture, instead of restricting banks’ and borrowers’ choices in this counter-productive manner, the appropriate regulatory intervention is to increase the efficiency of information sharing across the system. As it stands, the mandate on current accounts looks like the RBI taking preferential action on behalf of state-run banks, which tend to be large lenders to the corporate sector in India. It is common for companies to borrow from the public sector banking system but use private banks, which have more evolved and customer-friendly service mechanisms for such things as current accounts. By forcing the corporate sector to move their current accounts to public sector banks, the RBI is penalising banks that provide better services and companies with more efficient treasury management — all in order to protect state-run banks that have a tendency to make bad loans to the corporate sector and are slow to use advanced information-sharing techniques. The RBI’s actions in this case have been retrogressive and unfair — an unfairness only compounded by the delay in announcing the postponement of its deadline. Regulatory unfairness should be avoided at all costs. When a level playing field is provided, more efficient private banks will prosper and gain market share. This is a natural and desirable process and the RBI should not stand in its way.