Urjit Patel breaks his silence on PNB, says RBI alone can't be held responsible for frauds

Breaking his silence on Niravgate, RBI governor Urjit Patel defended the regulator role, saying it is difficult for it to be present everywhere to contain such instances.

The RBI has been facing severe criticism over the Rs 13,000-crore scam at PNB, which is being billed as India's biggest banking scandal. Patel said the system of dual regulation -- by finance ministry and the RBI -- has led to fissures in the landscape of regulatory terrain.

Patel was speaking Gujarat National Law University. He was responding to the attack that the RBI was not prompt enough on recent cases of fraud.

On the prevention of frauds in the banking system, Patel said that investigations and penalities will serve as deterrance for future.

Drawing a comparison between private and public sector banks, the RBI governor said that the real deterrence in case of private banks arises from market and regulatory discipline whereas such a mechanism is "appreciably weaker" for public sector banks.

Patel also said that banks can keep large buffers in their capital structure to bear the losses which occur due to such frauds. Patel said that the RBI is working to break the nexus of some banks and businesses cleary hinting at the PNB scam where diamantaire Nirav Modi colluded with some bank employees to pull off the massive scam.

RBI Governor Urjit Patel also said that like the 'Neelakantha', the central bank will consume poison and face brickbats, but will persist with endeavour to become better with each trial.

Here's a point by point defence of the RBI governor in relation to its regulatory powers overs Public Sector Banks:

*Banking regulatory powers are not ownership neutral: Pointing towards the legislative reality that has driven a fissure in the banking regulatory terrain, Urjit Patel said that section 51 of the amended Banking Regulation Act of 1949, which grants RBI the power to regulate all commercial banks including the PSBs, has clearly emaciated the RBI powers on corporate governance at PSBs.

*RBI cannot remove directors and management at PSBs as the relevant section of the Banking Regulation Act which provides for the supersession of a Bank Board is not applicable in the case of PSBs.

*Section 10B(6) of the BR Act that provides for removal of the Chairman and Managing Director (MD) of a banking company is also not applicable in the case of PSBs.

*RBI cannot force a merger in the case of PSBs as per Section 45 of the BR Act.

*PSB’s banking activity does not require license from RBI under Section 21 of the BR Act; hence, RBI cannot revoke a license under Section 22(4) of the BR Act as it can in the case of private sector banks.

*RBI cannot trigger liquidation of PSBs as per Section 39 of the BR Act.

*Furthermore, in a remarkable exception of sorts, in some cases there is duality of Managing Director and the Chairman – they are the same – implying the MD is primarily answerable only to himself or herself.

*It is fair to say that in case of private sector banks, the real deterrence arises from market and regulatory discipline, and their confluence.

*A private bank CEO’s primary concern is whether s/he will be able to raise capital when the need arises or even whether s/he will still be running the bank the next day. The point is that they could be readily cautioned through their Boards and even replaced by the RBI in case of large or persistent irregularities.

*In contrast, the market discipline mechanism for public sector banks is appreciably weaker compared to that at private banks. There is implicitly a stronger perceived sovereign guarantee for all creditors of PSBs, and the principal shareholder – the government – has not so far been interested in fundamentally modifying the ownership structure.