Financial Sector Stability And Our Cook Lilu-Tai


Last week our cook Lilu-tai asked me whether her money is safe in her bank. She is 75, can barely sign her name. She is scared that all her savings might get wiped out overnight. Lilu-tai has stopped trusting her bank — a large government-owned, over 100-year old institution. This conversation happened around the same time the Reserve Bank of India (RBI) twitted and issued a release saying the Indian banking system was safe and stable.

When was such a release issued last time? In 2008, the RBI had issued a statement when a large private bank (with a small exposure to Lehman Brothers Holdings Inc which collapsed) feared a run on it, saying the bank had enough liquidity and that the RBI was ready to make more cash available to the bank, should it need. The regulator has never issued any release, at least in this century, assuring the safety of the Indian banking system.

At the epicentre of the current crisis is PMC Bank, a multi-state cooperative bank, which has broken every possible banking rule and ran as a bank of a bankrupt realtor for over a decade. Hours after the RBI dismissed its board, froze its operations and appointed an administrator, Joy Thomas, its managing director for the past two decades (before that, for 12 years, as a general manager he enjoyed the powers of MD), said the RBI action was “harsh”.

He also wrote a letter to the regulator, explaining how the bank created “dummy accounts” to conceal its exposure in Housing Development and Infrastructure Ltd (HDIL) and could not classify it as bad for fear of making losses. Thomas claimed the entire responsibility of all the wrongdoing, keeping the bank’s board, its auditors and RBI in the dark, for “fear of reputational loss”.

Thomas’s letter reminds one of Satyam Computer Services Ltd founder and chairman B. Ramalinga Raju’s confession in January 2009 on forging balance sheets to inflate profits. As a promoter, holding a relatively small stake, he feared poor performance would lead to the takeover of the company by a rival. “It was like riding a tiger, not knowing how to get off without being eaten,” Raju had said.

Thomas is not the promoter of PMC Bank. Why did he do this? Why did he write such a letter? Was he running a chocolate factory, oblivious of the Rs11,000 crore public deposits? Is his confession a mercy plea? Or, an attempt to become an approver to implicate his former chairman Waryam Singh?

Singh was director in nine associate firms of the HDIL group between April 2006 and March 2015 during when the bank had sanctioned multiple loans to the group and bought premises from it, violating the cardinal principle of connected lending.

PMC Bank violated many other banking rules. In March 2019, its exposure to the HDIL group was Rs6,226.01 crore (only Rs439.58 crore was disclosed to the RBI and the auditors) — close to 75 per cent of total advances of the bank against the 15 per cent single-borrower exposure limit. The amount rose further by September. To cover this up, the bank had created 21,049 dummy loan accounts outside its core banking platform. They were just entries in the advance ledger to fool the RBI inspectors. The bank had submitted false off-site surveillance or OSS returns to the RBI for several years, grossly underreporting its exposures in HDIL, and, of course, showing bad assets good.

Was the banking regulator sleeping all these years? Mis-governance, fraud and the inter-connectedness between Singh and the HDIL group have been under the RBI scanner for some time. In fact, the RBI had declared Singh unfit to head the bank but the central registrar of cooperative societies did not act on the warning, media reports suggest.

The multi-state cooperative banks, such as PMC Bank, are regulated and supervised by the RBI and the director credit, department of agriculture and cooperation, ministry of agriculture manage them. Other urban cooperative banks (UCBs) are managed by the respective state governments which are also responsible for audit and elections. The state and district cooperative banks are regulated by the RBI and supervised by National Bank for Agriculture and Rural Development.

There are 1,545 UCBs, of which 44 are multi-state cooperative banks. At least 31 UCBs are (12 in Mumbai) under the so-called all inclusive directions (AID) of the RBI which bans fresh advances and restricts withdrawals by depositors to a particular amount. This is normally imposed when the RBI sees flight of more than 5 per cent deposits. Between July 2018 and June 2019, four licences were cancelled and a few UCBs got merged. Forty-seven UCBs have negative net worth – 15 of them are in Mumbai. All of them are covered under deposit insurance scheme, up to Rs1 lakh per depositor.

The total advances of all UCBs are Rs2.9 trillion (Rs2.3 trillion in western zone) against Rs97 trillion of the Indian banking system; they have a Rs4.7 trillion deposit portfolio (Rs3.6 trillion in west) against Rs127 trillion in the banking system. The western zone is the hotbed of their activities.

PMC Bank cannot create systemic instability but the sinking real estate sector can. The triumvirate of banks/UCBs, shadow banks and realty firms can play havoc as trillions of rupees are locked in unsold/unfinished projects across India. As many builders and developers cannot pay back, banks’ bad assets will grow and adventurers like PMC will go belly up, leaving millions of depositors in the lurch. Unless the government addresses the root of the problem, the banking regulator will have a tough job at hand.

It’s also time to bring the UCBs in the mainstream banking system. The depositors of PMC Bank can withdraw up to Rs25,000. The amount covers 72 per cent of the depositors. If the amount is raised to Rs1 lakh, 80 per cent will be covered. Cooperative banks are meant for people with small means. Why do people keep crores of rupees in UCBs many of which are a fiefdom of politicians? Treating such banks as an investment vehicle for higher returns has its own risks.

Let some of the UCBs become small finance banks and change the regulations for the rest, capping the amount of deposits and advances to avoid misuse by relators and politicians.

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