Co-operative Banks.

Important Excerpts from The Hindu articles (with inputs):

  • In late September 2019, the Reserve Bank of India (RBI) imposed restrictions on withdrawals from the Punjab and Maharashtra Cooperative (PMC) Bank, one of the largest urban cooperative lenders.
  • Cooperative banks came directly under the RBI’s radar in 1966 but faced the problem of dual regulation. The Registrar of Cooperative Societies (RCS) is in control of management elections and many administrative issues as well as auditing. And the RBI brought them under the Banking Regulation Act as applicable to cooperative societies, which included all the regulatory aspects, namely, the granting of the licence, maintaining cash reserve, statutory liquidity and capital adequacy ratios, and inspection of these banks. So, in a sense, urban cooperative banks have been under the radar of the RBI, but because of dual regulation, one always had a feeling that one did not have as much control over these banks in terms of supercession of boards or removal of directors, as the RBI has over private sector banks.
  • A closure of a big bank would have meant the closure of several other banks too as many small banks have deposits with the big banks.
  • RBI issued a vision document in 2004-05 and stopped all licences of new branches and new bank entities. There was a proliferation of licences issued between 1991 and 1998. Under the vision document, a Memorandum of Agreement was entered into by the RBI with each of the States, where the State accepted an audit by professional auditors, and constituted a Task Force for urban cooperative banks. The TAFCUB was co-chaired by the RCS and the RBI Regional Director and was required to provide a bank-by-bank solution to those banks that were not maintaining minimum capital ratios.
  • In PMC’s case, it is a fraud, total hiding [of the problem] — a huge exposure to a single entity in the real estate sector was camouflaged under a whole lot of dummy accounts. Reporting to RBI and probably the auditors too was false.
  • Should RBI be doing a forensic audit? Is it possible to do this for more than 1,400 urban cooperative banks?
  • Cooperative institutions play a significant role in credit delivery to unbanked segments and financial inclusion. But their role has declined with the expansion of scheduled commercial banks and adoption of technology. Even urban cooperative lenders are facing competition from payment banks, small finance banks, and NBFCs (non-banking finance companies). We have about 1,500 urban cooperatives, but there are nearly 96,000 rural banks, including primary agriculture credit societies. Long-term credit extended by them is declining, but there is still a role in agriculture for rural cooperative societies. On the urban front, however, there is a need for change partly because of some of these scams.
  • There are three problems — major financial irregularities, failure of internal control and systems, and underreporting of exposures.
  • The problem is, of course, dual control by the RBI and the RCS, with the State government also playing a role and politics sometimes entering the space. The management, Board and auditors are responsible. It’s a governance and transparency issue that also affects public sector banks, private banks, and NBFCs.
  • I am in favour of merging and converting some of the cooperative banks to small finance banks. The RBI has announced a scheme for voluntary transition of urban cooperative banks into small finance banks, in line with the recommendations of a high-powered committee chaired by former Deputy Governor of the RBI, R. Gandhi. This would enable them to have most of the products available with commercial banks, and help get a pan-India presence.
  • First, there was a committee under H. Malegam which recommended a board of management of fit and proper persons, other than the board of directors. Directors are elected by members and very often the borrowers get to nominate their own persons, while depositors are not really represented as these banks accept deposits from non-members. So, the idea was to have a board of management in actual control of operations as opposed to elected directors. I think this must be done immediately as an incentive for those who want to continue to grow. We should perhaps tell these banks, you must put this in place, otherwise there will be no more branch licences and we can impose restrictions on your loan book. There must be a push for a fit and proper management, otherwise the elected director can get away with fraud. Then all we can do is cope with the aftermath of his or her actions.
  • Having said that, you will find that a majority of the cooperative banks have been doing a good job — meeting the needs of small businesses and even rural credit — very much what we call inclusive finance. Just about 50 or 60 of these 1,500 banks are large. So the RBI’s supervisory resources have to be really focused on these larger banks mostly operating across the country like commercial banks.
  • The supervision system should be able to catch much more underreporting or false reporting and ensure accountability of the Board and the auditors. Criminal action has been initiated against the managing director, but what about all the directors? Is it possible that the directors or the Board were not aware of the exposure? In any case they are liable.
  • Perhaps it is time to review whether an urban cooperative bank should accept deposits of other urban cooperative banks. Because this means depositors of smaller banks may also suffer.
  • The frequency and intensity of supervision has to be clearly based on the size of the bank and the assessment made of the governance standards in the banks. All banks — small finance banks, cooperative banks and leveraged institutions like NBFCs — are open to the risk of poor governance. There is no option but to look at the fit and proper character of the directors.
  • Many depositors opt for cooperative banks because they give a higher interest rate. Even the RBI’s staff cooperative has deposits parked with PMC. The confidence comes from governance and regulation. RBI has been urging cooperative lenders to act professionally. We need confidence-building for all banks, not just for cooperatives, but even NBFCs. A recent study showed that small cooperatives are doing better in terms of non-performing assets and other aspects, while large urban cooperatives are not doing well. So, we have to look at how to supervise large cooperatives better.
  • Gandhi report who headed a committee to review the cooperative banking sector in 2015.
  • There has been always a concern over the cooperative banks’ governing structure. The board of directors are appointed based on election by the shareholders. The governance structure in banks or in other financial institutions is that it should be professionally managed. And the shareholders’ representation should be minimum. The governance structure in banks or in other financial institutions is that it should be professionally managed.