Banking Sector Reforms

What happens after a Cooperative Bank to shuts down?


From UPSC perspective, the following things are important :

Prelims level : Deposit Insurance Programme, Banking License

Mains level : Not Much

The Reserve Bank of India (RBI) announced it had cancelled the banking licence of a Pune-based Rupee Cooperative Bank, and directed the Registrar of Cooperative Societies to liquidate the bank.

What is a Banking Licence?

  • Financial institutions wishing to carry out banking operations such as accepting deposits or lending have to obtain a licence from India’s central bank.
  • The RBI issues the licence under the Banking Regulation Act of 1949 after carrying out a series of checks about the financial suitability of the applicant institution.
  • Parameters like capital adequacy ratio (CAR) — the ratio of a bank’s available capital to its risk weighted credit exposure — and loan to deposit ratio (LDR) — the ratio of a bank’s total loans to total deposits in the same period — are checked before the licence is granted.
  • The 1949 Act in particular stresses on adequate capital and protection of the public interest before the licence is granted.
  • No company other than one that has been issued a banking licence is allowed to use the word bank in its name while doing business.

Cancelling the licence of a Bank

  • RBI, which issues the licence, has the power to cancel it as well, in case the bank fails to satisfy laid-down conditions.
  • This could mean an increase in bad debts — and if the RBI feels a bank does not have enough capital to cover its exposure and pay its depositors, its licence can be suspended or cancelled.

Why did RBI cancel the licence of Rupee Cooperative Bank?

  • The RBI audits banks every year, and can take action if it notes an increase in bad debts or other suspicious activities in their books.
  • In its press release, the RBI gave the reasons for the cancellation of the bank’s licence:
  1. The bank does not have adequate capital and earning prospects.
  2. The bank has failed to comply with the requirements of certain sections of the Banking Regulation Act, 1949;
  3. The continuance of the bank is prejudicial to the interests of its positions;
  4. The bank with its present financial position would be unable to pay its present depositors in full; and
  5. Public interest would be adversely affected if the bank is allowed to carry on its banking business any further.

Section 22 of the Act deals with “licensing of banking companies”, section 11 is about “requirement as to minimum paid-up capital and reserves”, and section 56 is about the applicability of the Act to cooperative societies, subject to modifications.

Was cancellation of the licence the only option left for RBI?

  • RBI had issued notice to that Cooperative Bank in 2013, and issued directions under the Banking Regulation Act before cancelling its licence.
  • All banking activities like withdrawal were suspended, the then board of directors was superseded.
  • The banker took a number of steps to revive the bank, including filing of criminal cases against defaulting directors, employees, and seizing of their properties.
  • The RBI extended the licence of the bank every three months as these steps were being taken.
  • The administrator also tried to merge the bank with a financially stable bank. But the bad debts scared away most suitors.

What will happen to the depositors’ money in Rupee Cooperative Bank?

  • The limiting of withdrawals by RBI had made things difficult for depositors, especially because cooperative banks are preferred by those from the lower income group.
  • The big question before the over 5.5 lakh depositors now is about the fate of their money.
  • The RBI has said that depositors with Rs 5 lakh or less in the bank, would get back all of their money through the Deposit Insurance and Credit Guarantee Corporation (DICGC).
  • Those who have larger deposits in the bank will not get back their money beyond Rs 5 lakh.
  • In this group are about 4,600 depositors with a total Rs 340 crore in deposits in the bank.
  • These people stand to suffer major losses.

Back2Basics: Deposit Insurance Programme

  • The bank savings are insured under the Deposit Insurance and Credit Guarantee Corporation (DICGC) Act providing full coverage to around 98 per cent of bank accounts.
  • Earlier, account holders had to wait for years till the liquidation or restructuring of a distressed lender to get their deposits that are insured against default.
  • Last year, the government raised the insurance amount to Rs 5 lakh from Rs 1 lakh.
  • Prior to that, the DICGC had revised the deposit insurance cover to Rs 1 lakh on May 1, 1993 — raising it from Rs 30,000, which had been the cover from 1980 onward.

What are new changes?

  • Earlier, out of the amount deposited in the bank, only Rs 50,000 was guaranteed, which was then raised to Rs 1 lakh.
  • Understanding the concern of the poor, understanding the concern of the middle class, we increased this amount to Rs 5 lakh.
  • If a bank is weak or is even about to go bankrupt, depositors will get their money of up to Rs five lakhs within 90 days.



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