If you thought India's financial system is past the stage when you have to worry about things going wrong (for UTI has been fixed, the financial institutions have been made into banks, and the banks made much safer), you may need to think again.
Because some of the fastest-growing segments of the financial system today may end up being the most problematic. The obvious candidates for trouble are the cooperative banks: over the last decade or so, the Reserve Bank of India has issued as many as 1,000 licences to such banks, doubling their total number, and they have been going down one after the other in recent times, starting with Madhavpura.
One result has been a sharp increase in the pay-outs from the Deposit Insurance and Credit Guarantee Corporation, and most of the money is now being paid out on account of the failure of cooperative banks (in the case of some politically sensitive banks the money was apparently paid out even before the bank went into liquidation).
This is only the tip of the iceberg, because scores of cooperative banks that are still functioning have already wiped out their capital, and will either have to be liquidated or merged with stronger cooperative banks.
The latter is of course the Reserve Bank's preference, because liquidation means even more payouts from the DICGC, which may not have enough money. That sounds like the build-up to another financial sector bail-out.
The cooperative banks have deposits of about Rs 60,000 crore (Rs 600 billion), and if even 10 per cent of that has to be made good from outside the system, that totals Rs 6,000 crore (Rs 60 billion).
Fortunately, the Reserve Bank has stopped issuing further licences so that the size of the problem has been capped. But it is an open secret that many of the cooperative banks have flourished because they have strong political backing.
The modus operandi in the case of many such banks seems to be that politicians park their black money in a cooperative bank, using fictitious depositors' names (some banks are said to have picked up names by studying the headstones in a cemetery -- in the safe belief that the dead will not show up to claim the money), and then take the same money back as a loan in the name of some willing relative or associate, thereby laundering black money into white. Naturally, the political class does not want the racket stopped.
Efforts to stop the use of bogus names against deposits have run into a problem because a Supreme Court ruling says that cooperative banks don't need to deduct tax at source (the tax route always provides one route for verifying identity).
Dual control of the cooperative banks, whose accounts are usually audited by the registrar of cooperative societies, has compounded the problem. So while the size of the problem may have been capped, many cooperative banks need to be either liquidated or merged, and politicians' control of these banks ended.
The other issue that has come under the scanner is the non-banking financial companies that survived the great NBFC shake-out seven years ago. Just two of the survivors --Sahara and Peerless -- now account for some 70 per cent of what remains in the sector.
Peerless is already under effective RBI control with the change of its board, and has been on the mend after being in a tight spot.
The fastest-growing and now the largest company in the sector is of course Sahara, and here too the RBI has started putting new conditions on how Sahara can use the money it collects (all non-owned funds have to be deployed in government-approved or rated securities), asking questions about its accounting practices and generally increasing the level of scrutiny and oversight.
The end result is likely to be that both these two lightly regulated sectors will get straightened out over the next few years and one must hope that there will not be a crisis.
However, it seems fairly certain that some kind of bail-out will be required in the case of the cooperative banks -- where politicians have shown that they have the Midas touch in reverse: whatever they touch seems to turn into dross.
