RBI-Finance Ministry Tussle, What it Means for the Economy

A verbal battle has been going on between the Reserve Bank of India and the NDA government functionaries, where banking regulations especially lending powers are being questioned by the latter. What is happening is that, after RBI deputy governor Viral Acharya's speech over an independent central bank and government intervention went public - both have shown utter disappointment over the happenings in the banking system. Now situation is such that, the Finance Ministry has even written to RBI about invoking section 7 under Banking Regulation Act (RBI). This section simply gives power to government where they can issue directions to RBI on certain important matters that have to be followed.

The government's quarrel with RBI is over the PCA framework where some 11 state-owned banks are, more or less, trapped. The authority, which holds about 70% of banking system, is demanding from RBI to relax the norms in the framework, so that those bank can lend more as there is a liquidity crisis in the system.

These banks are - Allahabad Bank, United Bank of India, Corporation Bank, IDBI Bank, UCO Bank, Central Bank, Indian Overseas Bank, Oriental Bank of Commerce, Bank of Maharashtra, Dena Bank and Bank of India with NPAs ranging from 15% to 31%.

In latest development, it has been revealed that RBI, before tightening the prompt corrective action (PCA) framework in April 2017, had given a presentation to the ministry, where the regulatory framework was broadly in agreement with the central bank.

Well, is RBI's PCA framework very strict, or could central bank have done better? Or should RBI relax the PCA framework? Here'a case for RBI's PCA framework, according to SBI Ecowrap.

RBI has specified certain regulatory trigger points, as a part of prompt corrective action (PCA) Framework, in terms of three parameters, i.e. capital to risk weighted assets ratio (CRAR), net non-performing assets (NPA) and Return on Assets (RoA), for initiation of certain structured and discretionary actions in respect of banks hitting such trigger points.

RBI PCA framework was introduced in December 2002 as a structured early intervention mechanism along the lines of the FDIC’s PCA framework. Subsequently, the framework was reviewed by RBI by adopting the international best practices and was implemented with respect to the bank financials as on March 31, 2017.

Comparing India's PCA framework with US ones, SBI reveals that, the  US has a dual banking system, where Banks or Depository Institutions, may be chartered by either federal or state authorities. The office of the Comptroller of the Currency (OCC) is the federal bank regulator with the power to charter national banks. The OCC is part of the US treasury department. Separately, each state also has a regulatory agency to charter either banks or thrifts. The Federal Depository Insurance Corporation (FDIC) is the primary federal supervisor of state.

In India, a bank needs to make provisions on the  non-performing assets on the basis of classification of assets into prescribed categories, taking into account the time lag between an account becoming doubtful of recovery, its recognition as such, the realization of the security and the erosion over time in the value of security charged to the bank, the banks should make provision against substandard assets, doubtful assets and loss assets.