RBI allowing corporates in banking is a "bad idea"

The recommendation by Reserve Bank of India's internal working group to allow industrial houses to float banks has kicked up a storm. Especially miffed with the IWG recommendation were former Reserve Bank of India Governor Raghuram Rajan and ex-Deputy Governor Viral Acharya, who expressed their reservations in a three page note. Here are key concerns that they raised. Read on... 

"Many technical rationalisations proposed by RBI's Internal Working Group are worth adopting, while its main recommendation, to allow Indian corporate houses into banking, is best left on the shelf."

"Why now? Have we learnt something that allows us to override all the prior cautions on allowing industrial houses into banking? We would argue no. Indeed, to the contrary, it is even more important today to stick to the tried and tested limits on corporate involvement in banking."

"The history of such connected lending is invariably disastrous -- how can the bank make good loans when it is owned by the borrower? Even an independent committed regulator, with all the information in the world, finds it difficult to be in every nook and corner of the financial system to stop poor lending. Information on loan performance is rarely timely or accurate. Yes Bank managed to conceal its weak exposures for considerable periods."

"Even if banking licenses are allotted fairly, it will give undue advantage to large business houses that already have the initial capital that has to be put up. Moreover, highly indebted and politically connected business houses will have the greatest incentive and ability to push for licenses… That will increase the importance of money power yet more in our politics, and make us more likely to succumb to authoritarian cronyism."

"The rationales for not allowing industrial houses into banking are then primarily two. First, industrial houses need financing, and they can get it easily, with no questions asked, if they have an in-house bank."

"Can the regulator not discriminate between ‘fit and proper’ businesses and shady ones? It can, but it has to be truly independent, with a thoroughly apolitical board. Whether these conditions will always pertain is debatable. Moreover, once the bank license is given, the licensee’s temptation will be to misuse it because of self-lending opportunities."