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Are private banks heading for inspector Raj in India?

columns Updated: Feb 26, 2016 16:54 IST
Narayanan Madhavan

India’s private sector bank CEOs may be heading for some headaches – and then some more (Shutterstock)

India’s private sector bank CEOs may be heading for some headaches – and then some more.

As if a nearly Rs 400,000-crore backlog of bad loans (mostly in the public sector) was not problem enough, India’s banking sector faces a new challenge, with the Supreme Court declaring this week that managing directors and directors of private sector banks will henceforth be called “public servants” in corruption crackdowns.

It might be as tricky as it can get for CEOs of banks like HDFC Bank, ICICI Bank or IndusInd Bank as this can potentially bring in a host of investigators and inspectors to their doors in addition to the time-tested supervision of the Reserve Bank of India, not to speak of the other side of being a listed entity: accountability to stock exchanges and the Securities and Exchange Board of India.

The landmark by a two-judge verdict came this week after the SC bench weighed the Prevention of Corruption Act (PCA) of 1988 with the Banking Regulation Act of 1949 to overturn a Bombay High Court verdict that said that Ramesh Gelli, chairman and managing director of the now-defunct Global Trust Bank (GTB) could not be tried under the Prevention of Corruption Act because he was not a public servant. Gelli and his executive director had sanctioned higher credit limits to a company, violating regulations. Losses resulted from the deal and the public sector Oriental Bank of Commerce bailed out GTB by merging it in.

Anyone watching the Indian banking sector may recall that the Indian Bank scam of the 1990s had the CBI probing the public sector bank. As a result, public sector bank chiefs developed cold feet in lending to new clients fearing uneasy, difficult times under the prying eyes of sleuths.

Now, private sector banks may feel a similar kind of heat.

Public servants can be tried and punished in India for corruption under the Indian Penal Code, the PCA and other laws including anti-money laundering and benami transactions laws. It gets tricky because a public servant can be punished for taking gratification to influence the public by illegal means or exercising personal influence with another public servant.

Now, what if a private sector bank chiefs legitimately lobbies a government official or takes a corporate gift? Where is the line drawn for corruption?

More questions arise because it has historically been necessary for permission from a state or central government to prosecute a public servant. How will that tie with private bank chiefs being declared public servants? Will this curtail their autonomy or powers in helping customers, partners or serving shareholders?

Above all, as this educative document illustrates, typically anti-corruption probes are conducted by the Central Vigilance Commission, the CBI and state-level anti-corruption bureau. Money-laundering is covered by the Enforcement Directorate.

On the face of it, after this week’s Supreme Court ruling , it seems the number of regulatory and supervisory pinpricks for private banks is bound to increase.

The notable thing is that the 1946 banking regulation law says that bank officials are deemed to be public officials. The SC bench held the provision to be relevant.

For India’s private bank CEOs, this might be a Sarbanes-Oxley moment. In 2002, the US, stung by a series of scandals that hurt shareholders, affecting companies including Enron, Tyco and WorldCom, came up with the Sarbanes Oxley Act (SOX) that aimed to protect investors from fraudulent accounting activities.

A key aspect of it was Section 302 that mandatorily requires senior management officials of a company to personally certify the accuracy of reported financial statements.

As many as 16 listed private sector banks in India sat on bad loans (the loans not repaid or not yielding returns) totalling more than Rs 46,000 crore at the end of last December.

Potentially, any look-in by investigators into these loans will mean not a case of bad business decision by the lender but one that might involve corruption involving the bank. Alternatively, bank chiefs may be cautious upfront in both dealing with policy-makers or with borrowers who may try to please them.

Usually, any loss incurred by a private bank is a loss to its shareholders and possibly, depositors. But, as in the GTB, when a public sector has to bail out the entity, or is “too big to fail,” the burden falls on the taxpayer indirectly if not directly.

The fuzzy grey area between public money and private money has created a new set of burdens. The CEO’s job in a private bank may not be an exciting one in the coming days.