Former Reserve Bank of India Governor Raghuram Rajan and its former deputy head Viral Acharya on Monday criticised the proposal recommending the entry of corporate entities into the banking sector, pointing out that the central bank had ignored the advice of experts it had consulted.

In a three-page note posted on Rajan’s profile on networking site LinkedIn, the two former RBI officials raised questions on a recent report released by an Internal Working Group of the Reserve Bank of India. In the report released on November 20, the central bank issued guidelines and eligibility criteria for non-banking entities, including “large corporate/industrial houses” to obtain banking licence.

In their note titled “Do we really need Indian corporations in banking?”, Rajan and Acharya pointed out that all but one of the experts consulted by the Internal Working Group were against the idea of allowing corporate houses into banking, and that the central bank itself had mentioned this in the appendix to the report.

“Why is there urgency to change the regulation,” the note asked. “After all committees are rarely set up out of the blue. Is there some dramatic change in perception that it is responding to?”

Risks of bad loans, concentration of power

The note flagged two major risks in the prospect of allowing big corporate houses into banking. It said that in such a scenario, industrial houses would get financing “with no questions asked, if they have an in-house bank.”

“The history of such connected lending is invariably disastrous – how can the bank make good loans when it is owned by the borrower?” Rajan and Acharya questioned.

They cited the example of the recent revelation of misgovernance in Yes Bank and the time it took to be noticed to suggest that even an “independent committed regulator” like the RBI might find it difficult to stop poor lending.

Secondly, the note said that the provision “will further exacerbate the concentration of economic (and political) power in certain business houses”.

The bankers raised concerns about the fact that the arrangement will give “undue advantage” to corporate houses that already have the initial capital mentioned in the Reserve Bank of India’s guidelines. “Highly indebted and politically connected business houses will have the greatest incentive,” the note said. “That will increase the importance of money power yet more in our politics, and make us more likely to succumb to authoritarian cronyism.”

While the note corroborated with the central bank’s view that India needs more banking services, it asserted that the country’s banks “incur huge loan losses”, despite low level of lending, the burden of which eventually falls on the taxpayer. “Is it wise then to induct corporate houses with significant conflicts of interest into banking?” the note said.

On Monday, Rajan tweeted in a similar context, suggesting that the government should keep a check on private entities and not “rush into giving the public assets in the hands of some pocketful of lobbyists”.

“India is still not a capitalist economy. India has high leverage of public sector resources,” he tweeted.

Rahul Gandhi takes ‘chronology’ dig

Congress MP Rahul Gandhi on Tuesday tweeted a snippet of the Reserve Bank of India’s guidelines and a news item on Rajan’s criticism, suggesting that the decision was being taken as part of a “chronology”. He said the chain of actions involved writing off loans for “few big companies”, “huge tax cuts for companies” and giving “people’s savings directly to banks set up by these same companies”.

He took a dig at Union Home Minister Amit Shah’s oft-quoted phrase “Aap chronology samajhiye”, or “understand the chronology”, which he used last year to explain the government’s plans on implementing the Citizenship Amendment Act and the National Register of Citizens.

Meanwhile, ratings agency S&P Global Ratings also flagged its concerns regarding the Reserve Bank of India’s plan on Monday, reported Reuters.

“The working group’s concerns regarding conflict of interest, concentration of economic power, and financial stability in allowing corporates to own banks are potential risks,” the agency said in a note.

It said that corporate ownership of banks raises the risk of inter-group lending, diversion of funds and reputational exposure, pointing out that non-performing assets within the corporate sector in India remain elevated even though they came down from 18% in March 2018 to 13% in March 2020.