RBI Governor’s Speech: Viewing Indian Economy At Financial Stability Angle

Shaktikanta Das, Governor, Reserve Bank of India while inaugurating the SBI’s 7th conclave on Banking and economy gave his keynote address on July 11, 2020, and his historic address covered the glorious past few years of the banking crisis, the economic impact of COVID 19 and the future ahead of the Indian banking. But as a writer and a banker with a couple of decades of working experience or exploration of its behavior for the past 5 decades, I want to proceed with his vision for future, efforts taken in the recent past and the effect of COVID 19 on Indian banking.

Prospects for Indian banking in future (Way forward)

• Despite the impact of the pandemic in our daily lives, the financial system of the country, including all the payment systems and financial markets, is functioning without any hindrance.
• Though supply chains are yet to function at full capacity, and demand conditions will return to normalcy, the economy has started showing revitalization with the puzzled look of economists who could not understand how the Sensex which dived 10,000 points from a historic height of 40000 could bounce back 36957.00 today. Unbridled financial stability in mind, small investors who earn normal income have shown maturity far ahead of big financial institutions. Foreign institutions have returned to the Indian market alleviating the worries of international investors.
• To quote RBI Governor “Targeted and comprehensive reform measures already announced by the Government should help in supporting the country’s potential growth. Possibly in a vastly different post-COVID global environment, reallocation of factors of productions within the economy and innovative ways of expanding economic activity could lead to some rebalancing and emergence of new growth drivers.
• The policy measures, i.e., monetary, fiscal, regulatory and structural reforms, provide the enabling conditions for a speedier recovery in economic activity while minimizing near-term disruptions.”
• To meet the financial stability risks, RBI is upgrading its supervisory framework. Banks and other financial intermediaries will have to upgrade their capabilities of governance, assurance functions, and risk culture.
• Due to continued lock-down and anticipated post-compression in economic growth, non-performing assets may increase the eroding the capital structure of banks. Redemption pressure on NBFCs as well as mutual funds may increase. Mutual funds that supported NBFCs in the capital market may face uneasy calm. This may force RBI to have a watch on their performance or any emanating warning signals from the market.

Actions initiated in the recent past by RBI

Guided by the age-old wisdom summarized in Bagehot’s dictum¹ that ascribes the role of Lender of Last Resort (LOLR) to the central bank, the Reserve Bank of India took a number of important historic measures to protect our financial system and support the real economy in the current crisis of pandemic and also the slow down in economy witnessed earlier.

1. “With repo rate cut of unprecedented 135 basis points between February 2019 and the onset of pandemics and food inflation in the second half of 2019-20, liquidity conditions were also kept in ample surplus since June 2019.

2. The fast-changing macroeconomic environment and the deteriorating outlook for growth necessitated off-cycle meetings of the Monetary Policy Committee (MPC) – first in March and then again in May 2020. The MPC decided to cumulatively cut the policy repo rate by 115 basis points over these two meetings, resulting in a total policy rate reduction of 250 basis points since February 2019.

3. The liquidity measures announced by the RBI since February 2020 aggregate to about ₹9.57 lakh crore (equivalent to about 4.7 percent of 2019-20 nominal GDP). Unheard of in the history of RBI, it kept itself aware of the current and looming financial crunch to take these measures. Instead of an ivory tower or lecturing mode, RBI converted itself to take timely actions.

4. The following financial figures may reveal the truth.(Information from his speech)

5. For the five years between 2015-16 and 2019-20, the Government was forced to infuse a total of Rs. 3.08 lakh crores, to improve the capital position of nationalized banks.

6. Following mind-blowing financial information may help us to understand the economy better.

7. “As a result of the efforts by both the Reserve Bank and the Government, the overhang of stressed assets in the banking system had declined and capital position had improved.

8. As per available numbers (some of which are provisional) at this point in time, the overall capital adequacy ratio for scheduled commercial banks (SCBs) stood at 14.8 percent as in March 2020, compared to 14.3 percent in March 2019.

9. The CRAR of PSBs had improved from 12.2 percent in March 2019 to 13.0 percent in March 2020.

10. The gross NPA ratio and net NPA ratio of SCBs stood at 8.3 percent and 2.9 percent in March 2020, compared to 9.1 percent and 3.7 percent as on March 2019, respectively.

11. The Provision Coverage Ratio (PCR) improved from 60.5 percent in March 2019 to 65.4 percent in March 2020, indicating higher resiliency in terms of risk absorption capacity.

12. The profitability of SCBs had also improved during the year. The gross and net NPAs of NBFCs stood at 6.4 percent and 3.2 percent as on March 31, 2020, as against 6.1 percent and 3.3 percent as on March 31, 2019.

13. Their CRAR declined marginally from 20.1 percent to 19.6 percent during 2019-20.”

The above financial information from the most authoritative source, i.e., RBI Governor now has ensured some peace of mind for any keen observer of our Indian economy.

We have known that after the appointment of the present Governor who came at a time when the energy levels of RBI officials and the Finance Department needed much boost to uplift the economy, a large number of supervisory and regulatory measures were initiated.

 Being a brilliant senior bureaucrat with the best basic education from premier institutions, the present Governor had nothing to prove except that he could add more achievements to his cherished past record. I was one among those who wanted him to take up this challenging assignment which has not been a bed of roses for many brilliant professors from the West who ventured ahead to take up the role of RBI Governorship but could not achieve their set goals.

Let me lead you to the supervisory and regulatory initiatives of RBI as explained by the present RBI Governor in his speech.

• Looking at the dangerous direction of vulnerabilities of the financial institutions, RBI established a new holistic approach towards its supervisory and regulatory functions. Being an observant, it was forced to interfere with the basic functions of commercial banking which has deteriorated in the recent past. Questions were rightfully asked about the role of RBI in the massive historic frauds which wrecked the iconic Punjab National Bank at Mumbai itself.
• It was also aimed at effectively addressing potential systemic risks that could arise due to possible supervisory or regulatory arbitrage and information asymmetry. Further, a calibrated approach had been designed to provide the required modularity and scalability to the supervision function to ensure a better focus on the risky institutions and practices; to deploy an appropriate range of tools and technology to achieve the supervisory objectives, and to enhance the capability to conduct horizontal or thematic studies across supervised entities on identified areas of concern. Anyone can question “How is it possible for any commercial bank or its officials openly indulge in frauds of monumental proportion, unheard of in the history of Punjab National Bank, Allahabad Bank or others when regular audits take place by RBI, trained Chartered Accountants?”
• RBI Governor explained that it strengthened its off-site surveillance mechanism to identify emerging risks and assess the vulnerabilities across the supervised entities for timely action. He added that they would be working towards strengthening the supervisory market intelligence capabilities, with the help of both personal and technological intelligence. With no protection for any employee who complained against corrupt management, RBI could not explain how the systematic failure could be caused by simple operations at the branch level.

He complemented SBI which helped in the timely resolution of the looming crisis of Yes Bank with the guidance of RBI to save its depositors setting a new direction of public-private partnership. With regard to the Punjab & Maharashtra Co-operative Bank, the Reserve Bank was engaged with all stakeholders to find out a workable solution, as losses are very high, eroding deposits by more than 50 percent. He further narrated the following steps taken to strengthen NBFCs in their functioning.

• NBFCs with a size of more than ₹5,000 crores had been advised to appoint a functionally independent Chief Risk Officer (CRO) with the clearly specified role and responsibilities.
• Also, government-owned NBFCs were brought under the Reserve Bank’s on-site inspection framework and off-site surveillance. The amendment to the Reserve Bank of India Act, 1934 effective from August 1, 2019, had strengthened the ability of Reserve Bank to better regulate and supervise the NBFCs.
• Moreover, some large NBFCs and NBFCs with certain weaknesses had been monitored closely on an ongoing basis.
• Looking at the emerging risks, risk management, and liquidity management functions had been strengthened at NBFCs.

Case of Urban Co-operative Banks

The Governor explained the following steps which were necessitated by the frequent failure of the above institutions and resultant distress to all stakeholders related to them. Establishing a risk-based and pro-active supervisory approach, establishing an early warning system with a stress-testing framework, formation of an ‘umbrella organization,  to provide liquidity, capital, IT and capacity-building support to UCBs, increasing the exposure limits of the UCBs have been to reduce credit concentration, and up-gradation of the priority sector targets so that UCBs would remain focused on their core segment – i.e., micro and small borrowers were mentioned.

 The recent amendments in the Reserve Bank of India Act, 1934 and the Banking Regulation Act, 1949 to facilitate our supervision processes with respect to NBFCs and UCBs, respectively had its pride of place during his speech.

What was his response to Pandemic?

He chronicled the following steps taken on the onset of the unpredictable Pandemic:

• Right from the onset of the crisis, the policy measures were aimed at operational issues, and in particular, ensuring business continuity and unhindered operations of the financial market infrastructure. (I confirm the continued operations of the commercial banks during this horrible time, in spite of impossible situations to travel by banking employees)
• The Reserve Bank activated an elaborate business continuity plan for its own operations as well as ensured that banks also activate their own business continuity plans.
• It enlightened all banks on 16th March 2020 to take stock of critical processes and revisit their Business Continuity Plan (BCP).
• All entities were also advised to assess the impact of COVID-19 on their balance sheet, asset quality and liquidity, and take immediate contingency measures to manage their financial affairs properly.
• He concluded his observations on Pandemic by emphasizing continued expectation of the impressionable tasks to bravely face the future.

His statement on the conclusion of the Pandemic was touching. “It is true that the pandemic poses a challenge of epic proportions; however, human grit – manifesting through collective efforts, intelligent choices, and innovation – will tremendously help us to come out of the present crisis. Mahatma Gandhi had said, “…the future depends on what you do today”. I have presented a bird’s eye view of the resolutions that the Reserve Bank has taken currently to combat this unprecedented situation. I am confident that these will complement the measures undertaken by the Government in achieving our policy objectives. Along with the tireless efforts of thousands of people and the undying spirit of our populace, I am optimistic that these policy actions will yield desired results.”

Conclusion

Being a great orator and a well-read man of letters with excellent achievements, the Governor’s words as mentioned below is worth considering to conclude this article.

“In the extraordinary circumstances that we face today, history could provide us with some useful guidance with respect to the role of central banks. Guided by the age-old wisdom summarized in Bagehot’s dictum¹ that ascribes the role of Lender of Last Resort (LOLR) to the central bank, the Reserve Bank of India has taken a number of important historic measures to protect our financial system and support the real economy in the current crisis. While the eventual success of our policy responses will be known only after some time, they appear to have worked so far.”

I echo the feelings of the distinguished Governor that the future of India depends upon our hard work today.

Reference

https://www.rbi.org.in/Scripts/BS_SpeechesView.aspx?Id=1097

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