Disclosing annual inspection reports may drag RBI, banks to court

SC reprimanded RBI on Friday for not disclosing information sought under the RTI citing 'fiduciary relationship' with banks

The Supreme Court’s order to the Reserve Bank of India to reveal confidential annual inspection reports of banks under the Right to Information (RTI) Act may open a Pandora’s box and invite a plethora of litigations, fear bankers and analysts.

The annual inspection report focuses on solvency, liquidity and operational health of a bank. It elaborates on capital adequacy, asset quality, management, earnings, liquidity as well as system and control. If the RBI sees it fit, it can delve deep into a particular account that is causing a hole in the bank’s balance sheet. Therefore, such reports have all the details of customer repayment records and other confidential information as well as observations by the central bank.

The SC reprimanded the RBI on Friday for not disclosing information sought under the RTI citing ‘fiduciary relationship’ with banks. The court said the RBI had no such responsibility towards banks, and is “duty bound to furnish all information relating to inspection reports and other material.” “Any further violation shall be viewed seriously by this court,” the two-judge Bench said.

Banks, however, sign non-disclosure agreements with their clients and any breach of this is a potential legal landmine. Banks’ legal teams will now be getting into a huddle to interpret if disclosure by the central bank absolves them of the liability of releasing client information in public domain.

“One thought is that since it is RBI that would be disclosing the information and so we cannot challenge it in court. But on the other hand, the client will also have knowledge about our observation about the loans, which is only meant for the management,” said a banker with a private bank. 

In this case, the client can drag both the bank and the RBI to a lengthy legal battle. According to senior bankers, the disclosures will be a huge dampener for the banking industry.

RBI’s inspection reports by nature are “negative” as they focus on shortcomings, breach of norms and rules. The report in public domain won’t be beneficial for banking entities, according to two senior public sector bankers.

“The approach of banking sector regulator is akin to what the Comptroller and Auditor General (CAG) does. The system and stakeholders will have to become more mature to look at RBI remarks in a constructive way and give room for course correction,” one of them said.

RBI did not offer a comment on the verdict but a person in knowledge of the working of the central bank said when two provisions of laws seemingly contradict each other, the stronger of the two prevails. In this case, the apex court judgment will have to take precedence.

The judgment also means that the RBI cannot be producing a redacted version of a report, should the entire report be asked for.

Surely, the central bank will not be comfortable with sharing the information.

“Even as the SC observed that the RBI has no fiduciary relationship with banks, the fact remains that the central bank does uphold a client’s confidentiality clause while doing the inspection. The RBI is no way related to these third parties (borrowers) and, therefore, cannot be revealing issues related to these parties. The report is meant for the management which is in a better position to deal with clients,” said a person who works with such reports.

“The relevant portions of disclosure are always there in the quarterly reports. The supervisory part is just not meant for public consumption,” the person said.  

A senior official with a private bank said the reports can easily be taken out of context and be price sensitive. The RBI will likely have to take recourse to some other tricks to advise banks that want to hide from prying eyes. “The relationship among the RBI and banks is a bit like a school headmaster and students. The students don’t protest. If we have any issue with the RBI, we don’t raise them publicly. Similarly, when the RBI has an issue with a bank, it doesn’t say so in public but through the report,” said the official.

There are certain issues such as non-performing asset (NPA) recognition that the RBI has mandated the banks to disclose but the inspection reports also hide many important things. 

A case in hand is that recently a private sector bank was reprimanded for stating that the RBI has not found any issue with asset classification while the bank hid many critical observations of the RBI contained in the report.

RBI’s power to inspect banks come from Section 35 of the Banking Regulation Act. The Act does not specify if the RBI can reveal a report to the public. The Act mentions that the RBI is bound to give a copy of the report to the bank. Further, a copy of the scrutiny of the bank, which is one layer after inspection, can be furnished to the lender, if requested.

However, under the BR Act, the central government has the power to publish a report if an inspection has been started at the behest of the government.

“The central government may, after giving reasonable notice to the banking company, publish the report submitted by the RBI or such portion thereof as may appear necessary,” the Banking Regulation Act said.