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Govt, RBI's bank holdings impedes supervision, warns Tarapore

Former Deputy Governor of the Reserve Bank of India and the rupee convertibility committee chairman S S Tarapore last week said that the government and Reserve Bank of India should both dilute their holdings in public sector banks, including the State Bank of India, in order to have effective regulatory control on the banks' operations.

Addressing the Sir Purshottamdas Thakurdas Memorial Lecture 1998, Tarapore said the ownership of the banks in India by the government and RBI impinged on the regulatory and supervisory framework, leading to a situation of "regulatory capture" where the regulators have interests and concerns about the quasi-fiscal impact of appropriate regulations.

The regulatory capture hamstrings the supervisor in implementing supervisory norms while showing a reluctance to acknowledge the seriousness of a problem, thereby only aggravating the matter, he pointed out. If the inherent weaknesses are allowed to fester, the situation could explode into an uncontrollable banking crisis, he warned.

Tarapore insisted that the RBI, as a regulator, should withdraw its directors from the boards of public sector banks since the RBI cannot be both a player and a referee. The RBI would do well to gradually reduce its share in the capital of SBI and to this effect, he called for basic revamping and amendment of the SBI Act.

Emphasising the need for second generation banking sector reforms, Tarapore dealt on issues such as capital adequacy ratio, non-performing assets, asset liability, and risk management and supervisory skill of the Indian banks. The operational efficiency of banks was unsatisfactory and characterised by low profitability, high and growing non-performing assets and relatively low capital base.

Tarapore, who was a member of the Narasimham Committee on financial sector reforms, felt that the minimum capital adequacy requirements should be increased from 8 to 10 per cent in a phased manner over next four years so that banks could get time to undertake internal bank-specific risk management models.

Expressing concern over NPAs, he said that the Indian banks' should bring down their NPAs over the next three to five years to 5 per cent on a gross basis and 2.5 per cent on a net basis. NPA levels higher than these would cause a severe drag on the efficiency of the banking system, he said.

On bank recapitalisation, he said that the government should not put further capital into banks and do away with the minimum stipulated ownership in public sector banks. Even in the case of weak banks, he said, the government should not support directly or indirectly and let the NPAs lodge in the organisation of origin.

On the narrow banking concept, he said that it was the only approach to save a bank from inevitable closure. Insisting on immediate implementation of the narrow banking concept in India, he explained that if a spell of narrow banking cannot restore a bank to health, the logical answer is closure.

UNI