How self-regulatory organisations may set their relationship with Mint Road

The risk is that there could be a multiplicity of SROs, leading to pull and push pressures

The Finance Industry Development Council (FIDC) — an association of shadow banks — is set to apply to Mint Road to become a self-regulatory organisation (SRO) even as it hunts for a chief executive officer (CEO). Non-banking financial companies’ (NBFCs) credit to GDP ratio stood at 12.6 per cent in FY23 (and it grew to 18.7 per cent of banking assets from 13 per cent a decade ago). Despite this surge, is it not surprising that little initiative was taken by these firms to set up an SRO in all these years (and Mint Road's nudge was not material to do so)? Pose this question to senior NBFC officials and they will point to the multiplicity of categories with no coherence in either their activities or regulation. At times, within the same business group, there are NBFCs focused on different avenues with a core investment company thrown in. 

“Given the nature of the NBFC business, I cannot predict if there will be more than one SRO. Even in microfinance, which is homogenous, you have more than one SRO,” says Umesh Revankar, chairman of FIDC and the executive vice-chairman of Shriram Finance. It’s an indirect way of putting it across that if microfinance can have two SROs – MicroFinance Institutions Network (MFIN), and Sa-dhan – why should it be any different for NBFCs? There's already chatter of a SRO for NBFCs playing in the priority-sector space (though such a carve-out is only on the books of banks). Their demand: Bank exposures to them should be deemed as priority-sector loans – and it has reached the doorsteps of the Prime Minister’s Office, no less. Early indications are we are going to see a mushrooming of SROs. In fintech, two have lined up: Digital Lenders Association of India and the Fintech Association for Consumer Empowerment (FACE). Even as there are whispers that the Indian Banks' Association and the Payments Council of India are to set up an SRO for digital payments.

The big jostle

“SROs must display their willingness and ability to address concerns beyond the interest of their membership… they must remain neutral and be seen to maintain objectivity,” said M Rajeshwar Rao, deputy governor of Reserve Bank of India (RBI), in March last year. The ‘Omnibus Framework for recognition of SROs for REs’ (regulated entities) released last month is categorical that they are to be an “ally of the Reserve Bank… The SRO is also expected to act as a bridge between REs and the Reserve Bank.” Seven months after Rao flagged the issue, RBI Governor Shaktikanta Das spelt out the bigger picture. “SROs can play an important role in strengthening the compliance culture among their members and also provide a consultative platform for policy making,” he said in his October 6 monetary policy statement. It will lay to rest the peeve that Mint Road acts unilaterally. Paragraph 28 of the policy also breathes life into Finance Minister Nirmala Sitharaman’s statement in Budget FY23 that financial regulators would be requested “to carry out a comprehensive review of existing regulations so as to simplify, ease and reduce cost of compliance.”

But will the multiplicity of SROs lead to pull and push pressures, creating an ineffective framework?

“The credit market is large and diverse, with enough room for sector-specific SROs. They can always deal with cracks or overlapping issues through dialogue and coordination as customer protection and market integrity underpin SROs,” says Sugandh Saxena, CEO of FACE.

Jiji Mammen, executive director (ED) and CEO of Sa-Dhan, feels a (multiplicity of SROs) “may not lead to regulatory arbitrage as each one will be representing different business groups” and they are only a representative of the regulator. “I would say that more eyes in the form of SROs will keep the sector in a more controlled and regulated manner.” Even as it’s an open secret that there’s no love lost between MFIN and Sa-dhan.

Mint Road has it that at least a third of an SRO’s board of directors, including the chairperson, must be independent. They are to have no ties with the category or class of REs it has set up. This will not only up the demand for independent directors (IDs) in financial services, but also leads to the question: How many will raise their hands to be on SRO boards?

A counter view is that the RBI should have made a case for IDs on SRO boards to be at two-thirds. As “this would have cut the room for heavyweights among member entities calling the shots,” says an expert. What’s unsaid: SROs may become captive to vested interests.

‘Mother body’

Rao, too, held forth on vested interests. SROs largely comprise industry members and are, hence, subject to conflicts of interest arising between the latter’s own commercial interests and former’s expected public role. “Such conflicts can lead to weakening of the regulatory structure, and potentially harm the interests of the customers/investors. SROs could also find it hard to prevent collusive behaviour leading to inefficiencies and dissatisfaction among consumers,” he said.

What about coordination between SROs? Will there be a mirror-image of the Financial Stability and Development Council set up in December 2010 – the coordinating agency for regulators – chaired by the finance minister? Given that there will be SROs under other financial regulators as well. Say for insurance companies or investment banks. “There may be issues of coordination. Over time, we may even have a mother body of SROs. As coordination is needed among SROs under various regulators too,” says Uma Shankar Paliwal, secretary general of the Currency Cycle Association and former ED of the RBI.

It does not end here. According to R Gurumurthy, former head - governance at RBL Bank, “if an RE were to become a member of an SRO, it would involve financial costs (recurring); it will also mean subjecting itself to another layer of controls – audits, inspections, etc.” The tangible benefits being potential access to additional training programmes and material or having a larger forum speak from or for it. Who is to say that an SRO will not turn out to be an additional fiduciary burden and be subjected to another layer of (somewhat intrusive) supervision. Depending on the ‘intrusion’, business strategies may get compromised.

The financial topography has undergone a tectonic shift in three decades: Other than banks and NBFCs – what may be broadly termed as legacy REs – you now have small finance banks, payment banks, microfinance institutions and fintech. Even as these REs intersect with firms which originate business for them, and reside relatively low on Mint Road’s oversight hierarchy. Finding common issues and working in step to solve them will be tough.