Cooperative banking under supervisionApprox Read Time: 7 minutes
Cooperative sector had some trouble over the last year:
- The PMC Bank (Punjab and Maharashtra Cooperative Bank) fiasco made clear the problems with the cooperative structure in India.
- These cooperative banks had a different kind of regulation from that of the commercial banks.
- Hence, while the PMC problem became an RBI problem, which had to be addressed, the fact remains that co-op banks have very opaque structures.
Urban Cooperative Banks (UCBs) vs Commercial banks:
- The Urban Cooperative Banks (UCBs), 1,544 of them in 2019, accounted for a balance sheet size of Rs 6 lakh crore compared to the Rs 166 lakh crore of commercial banks.
- Of this Rs 4.8 lakh crore were deposits (Rs 129 lakh crore for commercial banks) and net worth of around Rs 0.5 lakh crore (Rs 13.3 lakh crore for commercial banks).
- On the assets side, loans were at Rs 3 lakh crore (Rs 97 lakh crore for commercial banks) and investments Rs 1.57 lakh crore (Rs 43 lakh crore for commercial banks).
Norms for the UCBs:
- SLR: Since 2015, the SLR requirements of UCBs have been reduced progressively in line with the prescription applicable to SCBs.
- Basel norms: Since UCBs are governed by Basel 1 regulatory norms, the liquidity coverage ratio (LCR) requirement is not applicable to them.
- CAMELS: In terms of soundness based on CAMELS, RBI has classified 78% of them in the A and B categories.
- CAMELS rating system is one of the most conventional methods to analyze and evaluate the bank soundness. It consists of six dimensions to measure the performance of the bank.
- CAR: The capital adequacy ratio for them was 9% as they are not supposed to be included under Basel 3 with any capital conservation buffers or higher tier-1 capital; 96% of them had a CAR of over 9%.
Some failures but overall UCBs not in bad shape:
- Gross NPA ratio was 7.1% in 2019, but was up to 10.5% in H1FY20 due to the large failures.
- As of 2019, return on assets was 0.74%, and the return on net worth was 8.66%.
- Hence, the overall picture is not bad, but for the fact that there have been failures.
- There have also been 132 mergers of UCBs in the last decade and a half.
Recent ordinance on cooperative banks:
- The central government recently brought in an ordinance relating to cooperative banks, barring those which lend to farmers. This essentially means that it is for urban cooperative banks and multi-state cooperative banks.
- The ordinance improves regulatory oversight of these banks by putting in place a stronger RBI supervisory structure for them.
- The objective was to provide protection to the deposit-holders.
Two things to note:
- Dual regulation will continue:
- Before the ordinance, the Registrar of Cooperatives (for management) and RBI (for banking) were both the regulators of these cooperative banks.
- Even with the ordinance, the Registrar of Cooperatives does not lose its power and it remains unchanged.
- Therefore, the two regulator model still holds.
- RBI had oversight earlier also but this increases now:
- Even earlier, there was RBI oversight though not to the extent that is being spoken of today.
- Hence, it is not a case of saying that there was no oversight earlier that has been brought in today.
How will things be different now?
- No change in deposit guarantee:
- The deposits of UCBs have always been covered under the deposit guarantee scheme, and hence, nothing much will change as deposits upto Rs 5 lakh would be covered under the same.
- Access to capital improves:
- These banks can, however, now have access to capital in the form of both debt and equity after taking permission from RBI.
- Hence, the due diligence process that has to be followed for raising either equity capital or bond will automatically ensure that they work towards maintaining a very good track record of performance, and, more importantly, governance.
- RBI now has powers to allow mergers:
- The ordinance also gives RBI the power to allow for mergers or amalgamations.
- This means that, if it is observed that some of them are too weak to survive on their own, action can be taken.
- Scope of expansion:
- The cooperative banks have a wide scope to expand their business, which is good for the financial system because these large number of banks has remained at the periphery for too long.
- They have a strong focus on the SME sector, which can benefit a lot.
- In 2019, 44% of their lending was for priority sector, and the two leading segments were MSMEs, with a share of 26.9%, and housing, with 7.5%.
What changes for RBI?
- RBI will also have a say in the appointment of key management positions just as it has for commercial banks, and it can seek changes in case the performance is not up to the mark.
- RBI can, in the public interest, supersede the management of a multi-state cooperative bank for up to five years and appoint an administrator.
- If the bank is registered with the Registrar of Cooperative Societies of a state (single-state UCBs), the regulator will have to consult the state government concerned before issuing an order to supersede the board.
Would be a challenging task:
- From the point of view of RBI, the challenge would be to regulate and supervise these 1,500-odd banks with the same rigour as is accorded to the commercial banks.
- This will require expansion in staff to meet the requirement of maintaining high standards of governance, that are adhered to in the larger banking space.
- Less than 30% of the banks have total advances of above Rs 500 crore. Over half have a credit size of less than Rs 50 crore, which will make the job of supervision even more challenging.
Going ahead, we may see fewer UCBs:
- In the future of the cooperative banking system, as the larger ones expand and diversify their asset portfolio and get into new spaces, it can lead to a wave of merger & acquisition (M&A) activity.
- Presently, the approach has been to remain niche players, and there has been limited incentive to grow as the perimeter of activity has been defined, and the players work within these lines drawn (that is they had certain restrictions on expansion and diversification).
Conclusion: Cooperative banking under supervision
- With some of the bigger cooperative banks enjoying powerful political backing, it would be interesting to see how this new regulatory and supervisory structures change the way in which these banks conduct business.
- Typically, expansion and M&A activities require better governance practices, and it is expected that they would percolate into the functioning of UCBs.
- But, getting this done could be one of the tougher challenges for the new regulatory architecture.