Financial stability, regulatory coordination, financial reforms
On these questions, the Raghuram Rajan report had said:
A Financial Sector Oversight Agency (FSOA) should be set up by statute. The FSOA's focus will be both macro-prudential as well as supervisory; the FSOA will develop periodic assessments of macroeconomic risks, risk concentrations, as well as risk exposures in the economy; it will monitor the functioning of large, systemically important, financial conglomerates; anticipating potential risks, it will initiate balanced supervisory action by the concerned regulators to address those risks; it will address and defuse inter-regulatory conflicts, and look out for the build-up of systemic risks.
The FSOA should be comprised of chiefs of the regulatory bodies (with a chair, typically the senior-most regulator, appointed from amongst them by the government), and should also include the Finance Secretary as a permanent invitee. The FSOA should have a permanent secretariat comprised of staff including those on deputation from the various regulators. There should be a prescribed minimum frequency of meetings of the FSOA. All issues of regulatory co-ordination, and supervision of systemically important financial conglomerates and financial institutions will be taken up by the FSOA.
The discussions of the FSOA with the management of systemically important institutions will be principles-based, and ts will initiatete the process of gradually implementing more principles-based regulation throughout the system. It will be important that the FSOA add value by substituting for some existing processes instead of adding another layer, while bringing collective regulatory views to bear. It is not our intent that the FSOA be a super-regulator displacing existing regulators. Instead it provides needed coordination and fills gaps that current structures have proved inadequate for.
In addition, there is merit in setting up a Working Group on Financial Sector Reforms with the Finance Minister as the Chairman. The main focus of this working group would be to monitor progress on financial sector reforms (such as the proposals of the Patil, Parekh, Mistry, and this committee), and to initiate needed action. The working group's membership would include the regulators, as well as ministries on as-needed basis. The working group would be supported by a secretariat inside the Finance Ministry.There was a contrasting view. After the global financial crisis, we got a strong campaign by RBI, based on the proposition of financial stability. It was claimed that now that financial stability is important, the original role and structure of RBI (as envisaged in the 1934 legislation) is the right one, so all reform proposals should now be shelved. Suggestions were made that the financial stability function should be handed over to RBI, which could ultimately lead to RBI becoming the super-regulator of finance, with the power to give instructions to other regulators such as SEBI based on financial stability considerations. Every bureaucracy likes to stave off change, and to grow its turf, so the arguments put forward by RBI were less than persuasive given its self-interest.
I have been skeptical about the idea of placing financial stability functions at RBI, for a few reasons:
- Crisis management involves utilisation of taxpayer resources, which can only be authorised by the treasury. Indeed, if a banking regulator is given a stability function, he will be inclined to cover up for the failures of banking supervision by utilisation of taxpayer money.
There is a similar problem when a banking regulator who is also a central bank is inclined to cover up for the failures of banking supervision by giving `short-term liquidity support'. This problem is already with us in India. We should not make matters worse.
- The essence of financial stability thinking is to break out of India's silo system, and look at the overall financial system. The inhabitants of any one silo in India are likely to be ill equipped to think about the overall financial system.
- Financial stability thinking repeatedly involves asking any one regulatory agency to question its existing way of thinking. If an existing agency doing a lot of financial regulation is asked to do financial stability, this will not come about. Worse, there is the danger of `regulatory capture' where every regulatory agency tends to adopt the world view and maximisation of its firms. If RBI is asked to do financial stability work, we run the risk that these new levers of power will be used to favour banks at the expense of other kinds of financial firms.
- It is hard to obtain sensible notions of transparency and accountability in the nascent field of financial stability. There is much merit in a principal-agent problem approach in designing the block diagrams of government. When a clear document can be written down specifying a job that has to be done, then it is better for government to contract that out to an external agency, since the clarity of mandate makes possible accountability. But for the things where a clear contract cannot be written down, contracting-out to an external agency is hard, and it is better to in-source these functions.
- New work that we initiate in India should not interfere with our long term goals of establishing a proper central bank.
This debate had simmered for some time. In the budget speech today, the Finance Minister announced the decision taken by government on how this should be handled:
37. The financial crisis of 2008-09 has fundamentally changed the structure of banking and financial markets the world over. With a view to strengthen and institutionalise the mechanism for maintaining financial stability, Government has decided to setup an apex-level Financial Stability and Development Council. Without prejudice to the autonomy of regulators, this Council would monitor macro prudential supervision of the economy, including the functioning of large financial conglomerates, and address inter-regulatory coordination issues. It will also focus on financial literacy and financial inclusion.This seems to be some kind of fusion between the Raghuram Rajan proposals of the FSOA and the Working Group on Financial Sector Reforms. More details are awaited from DEA on how they want to play this.
Financial Sector Legislative Reforms Commission
In today's budget speech, the FM said:
101. Most of our legislations governing the financial sector are very old. Large number of amendments to these Acts made at different points of time has also increased ambiguity and complexity. The Government proposes to set up a Financial Sector Legislative Reforms Commission to rewrite and clean up the financial sector laws to bring them in line with the requirements of the sector.
Large complex IT-intensive projects
In today's budget speech, the FM said:
104. An effective tax administration and financial governance system calls for creation of IT projects which are reliable, secure and efficient. IT projects like Tax Information Network, New Pension Scheme, National Treasury Management Agency, Expenditure Information Network, Goods and Service Tax, are in different stages of roll out. To look into various technological and systemic issues, I propose to set up a Technology Advisory Group for Unique Projects under the Chairmanship of Shri Nandan Nilekani.
Co-contribution for unorganised sector in NPS
90. To encourage the people from the unorganised sector to voluntarily save for their retirement and to lower the cost of operations of the New Pension Scheme (NPS) for such subscribers, Government will contribute Rs.1,000 per year to each NPS account opened in the year 2010-11. This initiative, "Swavalamban" will be available for persons who join NPS, with a minimum contribution of Rs.1,000 and a maximum contribution of Rs.12,000 per annum during the financial year 2010-11. The scheme will be available for another three years. Accordingly, I am making an allocation of Rs.100 crore for the year 2010-11. It will benefit about 10 lakh NPS subscribers of the unorganised sector. The scheme will be managed by the interim Pension Fund Regulatory and Development Authority.
91. I also appeal to the State Governments to contribute a similar amount to the scheme and participate in providing social security to the vulnerable sections of the society.A coherent vision for pension reforms is not yet in place: right alongside this, the government talks about a National Social Security Fund for unorganised sector workers with Rs.1000 crore.
Entry barriers in banking
One of the key mistakes in Indian banking has been the entry barriers: until recently, the rules inhibited placement of ATMs, placement of branches, new private banks, branches by foreign banks, money market mutual funds. There has been some progress on placement of ATMs and branches in recent months. A next step was announced in the budget speech:
38. The Indian banking system has emerged unscathed from the crisis. We need to ensure that the banking system grows in size and sophistication to meet the needs of a modern economy. Besides, there is a need to extend the geographic coverage of banks and improve access to banking services. In this context, I am happy to inform the Honourable Members that the RBI is considering giving some additional banking licenses to private sector players. Non Banking Financial Companies could also be considered, if they meet the RBI's eligibility criteria.A coherent vision for banking policy is not yet in place: right alongside this, the government promises to put Rs.16,500 crore or roughly 0.3% of GDP to increase the equity capital of PSU banks.