Adding more bite: A case for tougher RBI penalties for violations

The amounts lenders are fined for violations are too little and may not deter them

Penalties by Mint Road may need a relook; not a month goes by without some regulated entity (RE) or the other getting rapped. The ‘Report on Trend and Progress of Banking in India (FY22)’ by the Reserve Bank of India (RBI) has it that the major reasons for the imposition of penalties on REs were ­non-compliance with the guidelines on exposure and IRAC (income recognition and asset classification), fraud reporting, and cybersecurity. During this period, there were 189 instances of penalties being imposed involving Rs 65.32 crore, more than double the 61 and Rs 31.36 crore in FY21. The average per instance penalty was the highest for private banks: Up at Rs 29.31 crore in 16 instances from Rs 5.92 crore (3).

What happened in FY23? There’s an improvement: 211 cases involving Rs 40.29 crore, according to RBI’s Annual Report (FY23). But this is not to be taken as an improvement as there’s a technical aspect at play here: Penalties are imposed with a lag; in the sense, it’s for being out of line during a particular supervisory cycle in the past.

But do these amounts act as a deterrent at all?

Compared to fines imposed globally, which can run into millions of dollars, the amounts on our turf are peanuts. There’s also no empirical evidence of REs being “shamed” by such censure as repeat offenders are many; some may even be factoring it in as the cost of doing business.

A key agenda set by Mint Road as part of its enforcement initiatives for FY24 needs to be acted upon quickly – to examine the feasibility of a scale-based approach to the issue. The RBI’s Enforcement Department could weigh linking penalties to the size of REs and how systemically important they are. A case for holding back the payout to key management personnel rather than an RE taking the rap also needs to be examined.

“Another way is to look at penalties like additional capital charge, specific expenditure earmarked by the bank on improving the systems, processes, hiring, which could be in the form of a monitorable action plan with accountability of the board and senior management,” says Ravi Duvvuru, partner at Duvvuru & Reddy LLP; and a member of the second Regulatory Review Authority.

Does the RBI hear out REs in such cases? “The discussions before the panel of executive directors – which is the final court of appeal within the banking regulator – are transparent and due consideration is given to submissions,” adds Duvvuru.

But this should not distract from the fact that penalties must bite as the stakes will only get bigger as the country moves towards a $5-trillion economy and the premium for governance goes up.

RBI Governor Shaktikanta Das, in a speech on May 29, noted that innovative ways to conceal the real status of stressed loans have come to light. The methods include bringing two lenders together to evergreen each other’s loans by sale and buyback of loans or debt instruments; good borrowers being persuaded to enter into structured deals with a stressed borrower to conceal the stress, use of internal or office accounts to adjust a borrower’s repayment obligations, renewal of loans or disbursement of new/additional loans to the stressed borrower or related entities closer to the repayment date of the earlier loans, and similar other methods.

“We have also come across a few examples where one method of evergreening, after being pointed out by the regulator, was replaced by another method. Such practices beg the question as to whose interest such smart methods serve. I have mentioned these instances to sensitise all of you to keep a watch on such practices,” said Das in his speech on ‘Governance in Banks: Driving Sustainable Growth and Stability’.

Surely, the price — at least — for such out-of-line behaviour must be way higher.