From UPSC perspective, the following things are important :
Prelims level : FRDI Bill
Mains level : DHFL crisis; Resolution
India is struggling to plug a hole in its shadow banking industry that gorged on lending to the real estate sector.
Failure of Financial Corporations
- Insolvency – RBI is expected to refer to Dewan Housing Finance Corp. Ltd (DHFL) for insolvency proceedings that are hastily tailored for financial companies.
- IBC inadequate – India’s bankruptcy mechanism is missing vital components.
- FRDI not passed – The government withdrew the Financial Resolution and Deposit Insurance Bill.
- Depositors’ money – It happened after an outcry over a clause that would have let depositors’ money gets converted into equity in the event of a bank or credit company turning insolvent.
- Deposit insurance – Adequate deposit insurance is the solution. Centre has got back to it after the collapse of Punjab and Maharashtra Co-operative Bank has caused so much distress.
- We have a system that can preserve value for creditors who have lent the company ₹84,000 crores.
- No legislation – There may not be a legislative apparatus in place. But India knows what needs to be done with collapsing financial institutions.
- G20 – The G20 financial stability recommendations were based on the premise that the market must address stress in the system.
- No overarching mechanism – We do not yet have an overarching body like the US Federal Deposit Insurance Corp., which can identify and resolve financial stress expeditiously.
- This job is divided among India’s central bank and other financial sector regulators.
- NCLAT – Such cases can now be referred to the National Company Law Tribunal for resolution.
- Courts – The courts could also back the claims of underinsured depositors. Supreme court upheld the standard hierarchy of claims in bankruptcy proceedings.
- Its loan book looks largely healthy, especially its mortgage lending section.
- Buyers have shown interest in these assets and the insolvency process is expected to draw more.
- Bondholders and banks have their credit secured by underlying assets.
- Fraud – KPMG has flagged fraudulent transactions that could add up to about half the exposure banks have to DHFL.
- Writing off – If these charges are substantiated, banks may have to write off their loans to the mortgage lender. It would complicate any resolution plan involving a swap of debt for equity.
- Possible attachment – DHFL is being investigated by the Enforcement Directorate on charges that could result in the attachment of its assets. This would make it tougher for resolution.
- If its insolvency resolution fails, India may have to subject its shadow banking industry to the same mechanism.
- Moody’s – Recently, the credit rating agency Moody’s Investors Service has flagged stress among non-banking financial companies as a key risk to India’s growth outlook.