The Proposed Financial Resolution and Deposit Insurance Bill

To begin with, a lot of fire and storm has been kicked by the proposed Financial Resolution and Deposit Insurance (FRDI) Bill even before it has been passed by Parliament leave alone being assented by President. There is a widespread perception that if a bank fails everyone will have to sacrifice and this includes the depositors and the part of the money which is not insured. It is argued that this Bill can't be avoided as it is part of the G20 (Group of 20 countries) FSB (Financial Stability Board) requirement. We all know that India is a member of the FSB and G20. As a member, India had accepted that it would work out a resolution package. The whole idea of this proposed Bill is that if at any point of time a bank fails then how can they be saved?

To put it bluntly, this proposed Bill envisages that all the creditors will have to be part of the bail-in provision and depositors are also creditors. The bail-in provision in this proposed Bill is expected to eliminate haircut. If the bank survives, then the depositors including the non-insured deposits will get back the money. If it fails then they are bound to lose the money! This is why there is so much of hue and cry over it! Mamata Banerjee who is the Chief Minister of Bengal said that, 'It is a travesty that the Centre as an owner of the nationalized banks is now trying to replenish the eroded capital of banks by forcibly taking away the small depositors savings instead of facing the crisis in the banking.'

It must be brought out here that the FRDI Bill 2017 was tabled in the Lok Sabha on 10 August following which it was referred to the Joint Parliamentary Committee. The Committee has been asked to submit its report to the Parliament by the last date of the Budget session in 2018 in the upcoming winter session of Parliament which started on December 15 after consulting all the concerned stakeholders. The Bill has been facing unrelenting criticism from several quarters for some of its provisions and this includes the 'bail-in clause that reportedly suggests that depositor money could be used by failing financial institutions to stay afloat.

Be it noted, this bail-in clause can be used by the bank to simply refuse repayment of a customer's money and instead issue securities such as preference shares. Its purpose is to provide capital to absorb the losses of a bank to ensure its survival. Here survivor does not mean safety of depositors bank but restoration of capital of the bank. This must be set right and depositors interests must be accorded the top priority always!

It also must be brought out here that some of the provisions of the proposed FRDI Bill is facing so much of vehement opposition because it provides for people's money to be used to bail out banks that made bad lending decisions! Why should people suffer interminably because of wrong decisions made by bank lenders? Why should those bank lenders not be punished for their negligence or willful deceit?

It is noteworthy that the Government through its Finance Ministry has been quick to clarify that, 'The provisions contained in the FRDI Bill, as introduced in the Parliament, do not modify present protections to the depositors adversely at all. They provide additional protections to the depositors in a more transparent manner.' The Government also said that, 'The FRDI Bill will strengthen the system by adding a comprehensive resolution regime that will help ensure that, in the rare event of failure of a financial service provider, there is a system of quick, orderly and efficient resolution… The FRDI Bill is far more depositor-friendly than many other jurisdictions, which provide fort statutory bail-in, where consent of creditors/depositors is not required for bail-in.'

Let me hasten to add here that the government's statement reiterated its commitment to support banks. It said that, 'The FRDI Bill does not propose in any way to limit the scope of powers for the government to extend financing and resolution support to banks, including public sector banks. Government's implicit guarantee for public sector banks remains unaffected.' Banks are bound to feel happy.

Truth be told, the Bill empowers Resolution Corporation which has been envisaged as an oversight body to monitor the failure of financial resolutions and to limit the fallout of the failures of a systemically important financial institution on the overall sector – to cancel the liability of a failing bank or convert the nature of the liability. It is a significant omission that no specific deposit insurance amount is prescribed and this has been also opposed by many stakeholders. Presently, we see that all deposits up to Rs 1 lakh are protected under the Deposit Insurance and Credit Guarantee Corporation Act 1961 that is sought to be repealed by this proposed Bill. There are many other glaring loopholes.

To be sure, Mamta Pathania who is co-project Director at National Consumer Helpline and faculty member at the Indian Institute of Public Administration too voices her apprehensions by saying that, 'The provisions of the Bill have been creating a lot of confusion in the minds of the people. Ultimately, bank deposits are considered the safest investment option by any investor.' What is equally important if not more is that even political parties like the Congress and various trade unions have also characterized the provision as anti-people and anti-poor and have also apprehended that ultimately it is small depositors who will have to pay the price for bad lending choices of banks, especially loans given to big corporates. This is really most reprehensible. Why should common man pay for misdeeds of big corporates?

One has to concede here with grace that the Finance Minister Arun Jaitley has himself acknowledged that 'a lot of corrections could still take place'. No doubt, after the 2008 global financial crisis, governments all over the world have been forced to bring in laws to resolve failure of financial institutions and not to depend on public-funded bailouts. In India too, a newlegalframework was felt as imperative to prevent such failures of financial institutions especially banks which explains why we see this proposed FRDI Bill being worked out by Government!

According to the Ministry of Finance, there is presently no comprehensive and integratedlegalframework for resolution, including 'liquidation of financial firms in India'. The Ministry said that current resolution instruments available under respective legislations are 'limited, and so is guidance on the process leading up to the resolution'. It said in a statement on January 2 that, 'The current resolution regime is especially inappropriate for private sector financial firms in the light of significant expansion of private financial firms and many of these acquiring systemically important status in India.'

As it turned out, the Finance Ministry made it a point to highlight that, 'The Insolvency and Bankruptcy Code, 2016 has introduced in the country a comprehensive resolution regime for mainly non-financial firms, but such a regime is not available in the country for financial firms.' It also reiterated that the FRDI Bill proposes to establish a 'Resolution Corporation' (RC) and a comprehensive regime to enable timely and orderly resolution of a failing financial firm. It also sought to make it clear that, 'It provides for detecting incipient insolvencies in financial firms by introducing a five-stage health classification of financial firms and stepping in to appropriately nurse a financial firm at the stage when its health becomes weak and it is classified in the category of material risk to viability.' The five-stage categories are primarily modelled on their risk of failures: low, moderate, material, imminent and critical risk to viability. If it is in the critical stage risk category then the RC has various ways in which it can resolve it which includes taking over the administration of the firm on the day on which is classified as critical.

Truly speaking, the Finance Ministry also made it a point to reveal that, 'FRDI Bill also introduces a menu of resolution tools, including transfer of whole or parts of the assets and liabilities of a financial firm to another person, acquisition, merger or amalgamation, bridge service provider and bail-in and mandates recovery and resolution planning obligations to enable careful monitoring of risk to viability of a financial firm'. The Resolution Corporation will insure bank deposits and the insured limit will be set in consultation with the RBI.

To put things in perspective, on the 'bail-in' provision of FRDI Bill, the Ministry said that it has only been proposed as one of the tools to be used in the event a financial firm is sought to be sustained by resolution. The statement of Finance Ministry explained that, 'Bail-in amounts to liabilities holders bearing a part of the cost of resolution by reduction in their claims. Bail-in is only one of many resolution tools in the FRDI Bill; others are acquisition, merger and bridge service provider, and is to be used either singly or in combination with other tools.' It was also added that, 'Bail in provision may not be required to be used in case of any specific resolution. Most certainly, it will not be used in case of a public sector bank as such a contingency is not likely to arise.'

It was reiterated by the Finance Ministry that the FRDI Bill does not prohibit the central government from extending support to banks, including PSU banks. It also reaffirmed that, 'Government's implicit guarantee for solvency of public sector banks remains unaffected as the government remains committed to adequately capitalize the public sector banks and improve their financial health. The government is committed to protecting the existing protection to depositors and providing additional protection to them.'

Needless to say, the moment this FRDI Bill will be made a law, India would also finally have a law to swiftly address the issue of insolvency of companies in the manufacturing sector. As stated earlier, this Bill aims primarily at finding and finalizing a resolution plan to get a troubled company back on track, or, in the event of a complete failure, to ensure a quick winding up. The plan is to have a similar law for firms in the financial sector so that if a bank, a Non Banking Finance Company (NBFC), an insurance company, a pension fund or a mutual fund run by an asset management company, fails, a quick solution is available to either sell that firm, merge it with another firm or close it down with the least disruption to the system, to the economy and to investors and to other stakeholders.

This is to be done through a new entity termed as a Financial Resolution Corporation which is envisaged as an agency that will classify firms according to the risks they pose, carry out inspections and at a later stage take over control where necessary. This is what was recommended by the Financial Sector Legislative Reforms Commission headed by Justice BN Srikrishna. This is exactly what is being sought to be implemented now!

All said and done, the proposed Bill is yet to take its final shape. It has to incorporate valuable suggestions it gets from the Joint Parliamentary Committee. Also Arun Jaitley said that, 'The Cabinet will place the recommendations in the public domain and ask for feedback. So I think a lot of corrections will take place.' So let us hope fervently that the glaring drawbacks in the proposed Bill will be weeded out before it is finally made into a law and the depositors interests will not be compromised under any circumstances!