The Supreme Court has reined in the central bank’s power to take large defaulters to the insolvency court, putting a spanner in the Reserve Bank of India’s efforts to clean the rot in beleaguered banks.
The Supreme Court ruling marks a victory for a bunch of big corporate defaulters, notably distressed power companies who had the sympathies of the government. Business tycoons with more than Rs 20 billion outstanding on or after March 1, 2018 will now have more room to negotiate debt repayments after their loans become overdue. The decision will impact about 70 borrowers with outstanding loans worth Rs 3.8 trillion.
Moody’s Investors Service said the judgement was credit negative for banks as it would lengthen the resolution process of some existing soured loans.
Typically, the judiciary doesn’t interfere in matters of banking regulation in deference to the judgement and expertise of regulators, but can look into procedural violations. In this case, the court found that an RBI directive issued last year had violated a recent amendment to the Banking Regulation Act by making it possible to refer large defaulters to the bankruptcy court without the prior consent of the Indian government.
Notwithstanding the legal merits of the case, the judgement is a regressive step for those who believe in the independence of financial regulators. History is replete with examples – from East Asia to Russia, Turkey and Latin America – where political interference in financial sector regulation made a bad situation worse.
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India’s crippled banking sector – weighed down by mounting bad debts – reflects years of political interference, an evergreening of bad loans and a delayed recognition of the crisis at a cost to taxpayers. Cleaning up bank balance sheets started with the Asset Quality Review in 2015 by then RBI governor Raghuram Rajan and was given legal teeth with the adoption of the Insolvency and Bankruptcy Code in 2016.
However, attempts to clean up bank balance sheets and restore the health of the banks were repeatedly put to the test by political interference from the government, which culminated in the resignation of former RBI governor Urjit Patel. The RBI has never been truly independent, given that it is tasked with multiple goals to meet the needs of a developing economy. Multiple goals require trade-offs, which is inherently a political decision. However, just as it is prudent to secure ourselves before helping others, banks have to ensure they are in sound health before they can address specific needs of industry.
The petitioners in this instance – mainly power companies – had argued that their non-performing assets reflected changes in government policy and non-payment of dues by state-owned power distribution companies. They argued that the RBI was wrong to adopt a one-size-fits-all policy and demanded they be given more than 180 days to agree a restructuring deal with all lenders to resolve their outstanding loans. The Supreme Court, however, decided that the RBI was perfectly within its rights to not take a decision on a case-by-case basis. The merit of having one rule for all is that it is transparent and not subject to regulatory capture by powerful industrial lobbies.
Supreme Court. Credit: Wikipedia
Moreover, while it is true that the problems of power companies are deep rooted and don’t necessarily reflect management failure or wilful default – it is also in the national interest to see that bad debts are not rolled over indefinitely. Many of these power companies have assets for which there are no takers – so it is unclear how long banks would have to wait to get these non-performing assets off their books. What are the concrete steps that the government is taking to ensure that these companies are able to pay back their dues to the banks within a reasonable time? In the absence of a clear roadmap, the government is simply kicking the can down the road at a cost to the taxpayer.
Also, some large borrowers may be wilful defaulters – can we then hope that the government will give the RBI the green light to take these companies to the bankruptcy court? If not, there will be reason to suspect foul play. The RBI won’t be able to force large corporate defaulters from power-to-aviation-and real estate, who have the ear of the government to go to the bankruptcy court.
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The RBI has done sterling work in bringing big corporate defaulters to book – notably Videocon Group., which it took to the bankruptcy court. It remains to be seen if the government will allow the RBI to proceed similarly with Jet Airways Ltd., which has racked up debt of more than $1 billion and which would have faced certain bankruptcy proceedings if unable to agree a loan resolution plan by June 30.
Curbing RBI’s legal reach weakens the authority of the financial regulator and makes a mockery of plans to cut the unholy nexus between business and government. Whoever forms the government after the national elections, which begins later this month should scrap the law that requires the RBI to seek government consent before taking defaulting businesses to court.
Indrani Dattagupta is a UK-based business journalist and has previously worked for the Economic Times and the Wall Street Journal.