The government has started discussions to put in place a resolution mechanism to deal with the insolvency of companies in the financial sector. An amended version of the Financial Resolution and Deposit Insurance Bill (FRDI) – which was withdrawn in 2018 due to its controversial bail-in provision that was seen to undermine the safety of depositors – is under consideration . The Ministry of Finance recently sought the advice of the Reserve Bank of India (RBI) on drafting the new legislation and discussions are underway to put in place a system to manage the insolvency of financial companies while providing the highest level of security to depositors. sources familiar with the talks said.
Even though the RBI has issued a rapid corrective action framework for NBFCs (non-bank financial corporations), there is a need for legislative support for the entire financial sector. The RBI recently replaced the boards of Reliance Capital, SREI Infrastructure Finance and SREI Equipment Finance, and appointed an additional director at RBL Bank, raising concerns about the creditworthiness of companies in the financial sector.
The decision on the PCA framework came after four large financial firms – IL&FS, DHFL, SREI and Reliance Capital – which raised public funds through term deposits and non-convertible bonds collapsed in the past three years. despite close supervision of the financial sector. They collectively owe investors over Rs 1 lakh crore. DHFL was resolved through the Insolvency and Bankruptcy Code, despite court challenges.
“The DHFL resolution established a kind of resolution model, which can be tried in other cases such as SREI. But it is necessary to have a specific law to resolve the insolvency of FIs (financial institutions). FIs should not be forced to go through IBC given their impact on the financial system and systemic stability. These problems can be solved with the new law being discussed, ”said a senior government official.
Need legislative support
Even though the RBI has issued a rapid corrective action framework for NBFCs (non-bank financial corporations), there is a need for legislative support for the entire financial sector.
The FRDI bill of 2017 was intended to address the problem of the insolvency of companies in the financial sector – so that if a bank, NBFC, insurance company, pension fund or mutual fund managed by an asset management company fails, a solution is available to sell this business, merge it with another business or shut it down, with minimal disruption to the system and other stakeholders.
The bill was withdrawn due to public concerns about the safety of deposits despite assurances from the central government. A key point of the criticism was the so-called bail-in clause in the bill which said that in the event of a bank’s insolvency, depositors will have to bear part of the cost of resolution by a corresponding reduction in their claims. . The government then clarified that the bail-in clause would not apply to public sector banks and that it would be a tool of last resort, when a merger or acquisition is not viable, in the case of banks. from the private sector.
A financial resolution firm has been envisioned by law as an agency that will classify companies according to the risks they present, carry out inspections and, at a later stage, take control. Since then, the government has tried to allay the fears of depositors who would have priority in the event of the liquidation of a financial company. Deposit insurance coverage has also been increased to Rs 5 lakh from Rs 1 lakh per account.
“With the increase in deposit insurance coverage, over 50% of total assessable bank deposits are now insured and this percentage is even higher at around 60% for public sector banks. Attempts have been made to provide maximum security for depositors, and discussions of financial resolution legislation need to be seen from that very perspective, ”a government official said.