BANKS CAN TAKE AWAY YOUR MONEY.
As a part of a host of banking reforms, the Central government has approved a Bill in June, 2017 to enact a new law framing rules for the resolution of failing banks, whose details that surfaced on social media made all bank depositors a worried lot. If the government goes ahead with this move, it will give enormous 'bail-in' powers to a proposed rescuing body called Resolution Corporation (RC). The corporation will be set up under the Financial Resolution and Deposit Insurance Bill and can invoke bail-in provisions for saving a bank which is on the verge of collapse. For those uninitiated with financial lexicon, the bail-in is method used for rescuing a financial institution, which is on the brink of failure by making its creditors and depositors take a loss on their share holdings or deposits. A bail-in is the opposite of bail-out, which involves the rescue of a financial institution by external parties, typically governments using taxpayers' money.
However, the Narendra Modi government has incorporated the bail-in provision under the proposed The Financial Resolution and Deposit Insurance (FRDI) Bill, 2017. Currently, the Bill is under examination of a select Parliamentary Committee. The government plans to introduce the Bill in the Winter Session of Parliament. Under Section. 52 of the FRDI Bill, the powers of the Resolution Corporation are so extensive that it can cancel a liability of a Bank - which means that it can declare the Bank doesn't owe you any money though you have deposited your hard earned money with it. Under the same section, it can modify or change the form of liability - the import of it is that if you have deposited say Rs. 10 lakh for five years intending to use the money for your child's graduation or marriage, the corporation can convert it into a locked-in deposit of 20-year tenure without your consent. The Bill also has a provision that allows the RC to exempt the failing bank for fufilling its obligations under a contract or an agreement.
In simple words, it means that your savings account balance of Rs. 15 lakh can be reduced to Rs. 1 lakh, the maximum covered by the 1961 Deposit Insurance Law. Or they can convert your SB balance of Rs. 15 lakh to a fixed deposit, repayable after five years, giving you of five percent annual interest. And you can do nothing about it. No courts can intervene into it unless you challenge the very law itself. The bail-in provision was used in Cyprus in 2013. As a result, the uninsured depositors (those with deposits larger than 1,00,000) in the Bank of Cyprus lost almost half of their deposits. In return they received stocks in the bank, however, the value of these stocks were nowhere near most depositor's losses. Uninsured depositors in Laiki, the nation's second largest bank, lost everything as the bank failed.
Typically, banks come under pressure when the economy is in downturn as large corporations do not repay money on time, leading to stress. The problems faced by banks could be due to economic downturn, or lack of regulatory oversight that allowed banks reckless lending, or mismanagement of the bank. Therefore, it is criminal to ask depositors to bail-in a mis-managed bank. As per the normal banking prudence, leaders insist on 150 percent collateral security from the borrower in form of an asset for granting a secured loan. For example, if a borrower wants Rs. 100/- as loan, he has to provide security worth Rs. 150/- before availing the loan. In such a case, the question arises as to why the bank needs the depositor's money for saving itself. If the bank managements know that they would anyway be saved, would that not lead to further corruption and slackness in banks?
If the bail-in is essential, should the government change the wording of the Bill to first countermand the money of big companies in a top-to-botom approach. As the banks tweak rules to lend to big companies, it must be the deposits of the companies that must be used for bail-in. India never had such bail-in provision. The government had established Depositor Insurance and Credit Guarantee Corporation in 1978 to insure at least Rs. 1 lakh of the depositors' money. Though the insured threshold was never raised, Rs. 1 lakh in 1978 equals to the current Rs. 13 lakhs after adjusting the inflation. It is illogical for the government to expect depositors to bail-out the banks, when they don't get any share in profits. This goes against the very norms of Natural Justice whereby Rights and Duties ought to be equal and corresponding.
The Union Cabinet, however, went ahead with approving a Bill having such a monstrous provision. If it is approved by Parliament, people, more so the senior citizens would be left high and dry. Let's hope some sense dawns amongst the powers-that-be and the bail-in provision is thrown into the dust bin.
Explanation of Bail-In mentioned in Section. 52:
(a). "cancelling a liability owed by the specified service provider" includes cancelling a contract under which the specified service provider has a liability;
(b). "modifying a liability owed by specified service provider" includes modifying the terms or the effect of the terms of a contract under which the specified service provider has a liability;
(c). "changing the form of a liability" includes -
--converting an instrument under which the specified service provider owes a liability from one form or class to another;
--replacing such an instrument with another instrument of a different form or class;
--creating a new security of any form or class in connection with the modification of such an instrument.
Bail-In Under Section. 52:
--52(1). Notwithstanding anything in Section. 49, the corporation may, in consultation with the appropriate regulator, if it is satisfied that it is necessary to bail-in a specified service provider to absorb the losses incurred, or reasonably expected to be incurred, by the specified service provider and to provide a measure of capital so as to enable it to carry on business for a reasonable period and maintain market confidence, take an action under this Section by a bail-in instrument or a scheme to be made under Section. 48.
--52(2). The bail-in instrument or scheme referred to in sub-section. (1) shall be in such form and manner as may be specified by regulations made by the corporation, and contain: (a). a bail-in provision; or (b). a provision for the purposes of or in connection with any bail-in provision made by that instrument or by another instrument.
--52(3). Subject to sub-section (5), a bail-in provision means any or a combination of the following, namely:
(a). a provision cancelling a liability owed by a specified service provider;
(b). a provision modifying or changing the form of a liability owed by a specified service provider; and
(c). a provision that a contract or agreement under which a specified service provider has a liability shall have effect as if a specified right had been exercised under it.
It's Crucial To Protect Small Banks: A bank is an institution which accepts deposits and lends money for different purposes. The duty of a bank is to provide required capital for profitable business entities by collecting the deposits from individuals like you and me. As we are not equipped with certain set of skills to determine which business is going to be profitable, we park our money with a bank which guarantees certain percentage of return on the capital we have provided. So, basically even though we are depositing money into out accounts, we are indirectly providing capital to business entities. Most importantly, the moment one deposits money in a bank, he/she will become an unsecured creditor to bank. In simple terms, depositing money into a bank is like lending money to bank without holding any security. So, what happens when a bank refuses to pay back your money? Or more importantly why a bank would refuse to pay your money back?
Generally, the duration (average maturity) of banks' assets (loans and advances) would always be higher than that os average duration of liabilities (deposits from customers). So, when panic hits and every depositor wants to withdraw their money (which is technically called as 'Bank Run'), banks will not be able to give back everybody's money. During the crisis, everybody would try to withdraw their money from banks, resulting in failure of many banks. Due to inter-connectedness of banking systems, an economy can't afford to have a failed bank. Failure of a financial institution, no matter how small a financial institution is, could potentially trigger a domino effect which could turn into a systemic rick. Lehman Brothers will testify to that. Hence, we came up with something called 'too-big-to-fail'. So, no matter how worse they can get, the government will do whatever it takes to keep them afloat. So far, there is no rescue mechanism for a small financial institution which is failing.
To detect financial ailment in earlier stages and to support ailing entity in its revival. Financial Resolution and Deposit Insurance Bill (FRDI Bill) 2017 was approved by the Cabinet. The Bill enables a new regulator Resolution Corporation (RC). If a lender is healthy, role of RC is limited, but it would take active part in tandem with existing regulators in reviving a financial institution in case its health is poor. Appears like an all good deal, after all, saving a financial institution is vital for an economy and to you, isn't it? Well, not so fast. There is something called 'bail-in' provision in the Bill, which could potentially give you nightmares. Technically, if FRDI Bill is enacted and a financial institution is failing, RC can convert our deposits into equity or preference shares. That means, a bank can refuse to pay back your money or bank may issue securities as preference shares without any guarantee of fixed dividends. And, the newly injected capital (your money) will be used for the revival of the institution. There are few categories such as deposits covered under insurance, liabilities by virtue of holding client assets, obligations to central counter party, secure liabilities and liability owed to employees or workmen that can't be bailed-in. And, none of those categories includes your deposits with the bank if you ignore the portion of your deposit covered by first one. So, is or money safe? Yes, with 'almost' certainty. Let me explain.
Under the current law, deposits up to Rs. 1,00,000/- is being insured by The Deposit Insurance and Credit Guarantee Corporation, and there is no security whatsoever for the deposits over and above Rs. 1,00,000/-. Under the proposed law, any amount that was insured can't be bailed-in. But the Bill fails to specify neither amount insured nor an amount depositor would be paid in case of liquidation. We are yet to know whether DICGC will be continued or the amount insured will remain the same. However, there is a safeguard under Section. 55(2)(b) which clearly states "only those liabilities can be bailed-in whose contract says it can be bailed-in". Currently, we don't have any such contracts and our deposits can't be bailed-in. At the same time, Section. 52(b)(i) gives power to RC to modify the terms of a contract for existing liabilities which completely contrasts with Section. 55(2)(b). We are yet to know which one supersedes the other.
Leaving the technical aspects aside, we have not seen a single big financial crisis in the last 70 years, thanks to strong regulatory guidelines. Though there may be failed financial institutions, which by its virtue are different from a bank, depositors never lost money. Bank has to set aside 23.5% of their total deposits in the form of SLR and CRR which are completely secure. Importance of timely resolution can't be stressed enough in case of a failing entity. Though it may seem counter intuitive, bail-in is there to protect depositors' interest. By converting deposits into equity, banks will have sufficient time to smoothen the liquidation process and to pay back depositors.
Bail-In Will Keep People Away From Banks: If the government's proposal to convert the nature of deposits in banks even without the consent of the account holder, it may keep people away from banks. People from sub-urban and rural areas, who are not yet habituated to depositing in banks, will continue to stay away from the formal economy. Using earned money of depositors to bail out a bank amounts to gross interference by the government. It violates the principles of corresponding rights and obligations and infringes upon the consumer rights of the people. The government would be doing a disservice to financial inclusion and depositors by seeking to have a complete control over people's hard earned money and by not permitting them to use their own money. The proposed law will directly impact savings in the country and people will adopt old methods of saving their money in pots and almirahs. The bail-in provision could lead to further corruption as banks could become reckless in lending. This would erode people's trust in the banking system. While the demonetisation has failed and did not yield fruitful results except suffering public, the new Bill will also repeat the similar results with more victims.
During the demonetisation period, the cap imposed on withdrawals did not show any impact on current accounts but saving account holders suffered. If the proposed Bill is passed, the government would be putting common man to great suffering, while the rich will go scot-free.
Overall, the bail-in provision is totally unethical.
-Challapalli Srinivas Chakravarthy-
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--52(2). The bail-in instrument or scheme referred to in sub-section. (1) shall be in such form and manner as may be specified by regulations made by the corporation, and contain: (a). a bail-in provision; or (b). a provision for the purposes of or in connection with any bail-in provision made by that instrument or by another instrument.
--52(3). Subject to sub-section (5), a bail-in provision means any or a combination of the following, namely:
(a). a provision cancelling a liability owed by a specified service provider;
(b). a provision modifying or changing the form of a liability owed by a specified service provider; and
(c). a provision that a contract or agreement under which a specified service provider has a liability shall have effect as if a specified right had been exercised under it.
It's Crucial To Protect Small Banks: A bank is an institution which accepts deposits and lends money for different purposes. The duty of a bank is to provide required capital for profitable business entities by collecting the deposits from individuals like you and me. As we are not equipped with certain set of skills to determine which business is going to be profitable, we park our money with a bank which guarantees certain percentage of return on the capital we have provided. So, basically even though we are depositing money into out accounts, we are indirectly providing capital to business entities. Most importantly, the moment one deposits money in a bank, he/she will become an unsecured creditor to bank. In simple terms, depositing money into a bank is like lending money to bank without holding any security. So, what happens when a bank refuses to pay back your money? Or more importantly why a bank would refuse to pay your money back?
Generally, the duration (average maturity) of banks' assets (loans and advances) would always be higher than that os average duration of liabilities (deposits from customers). So, when panic hits and every depositor wants to withdraw their money (which is technically called as 'Bank Run'), banks will not be able to give back everybody's money. During the crisis, everybody would try to withdraw their money from banks, resulting in failure of many banks. Due to inter-connectedness of banking systems, an economy can't afford to have a failed bank. Failure of a financial institution, no matter how small a financial institution is, could potentially trigger a domino effect which could turn into a systemic rick. Lehman Brothers will testify to that. Hence, we came up with something called 'too-big-to-fail'. So, no matter how worse they can get, the government will do whatever it takes to keep them afloat. So far, there is no rescue mechanism for a small financial institution which is failing.
To detect financial ailment in earlier stages and to support ailing entity in its revival. Financial Resolution and Deposit Insurance Bill (FRDI Bill) 2017 was approved by the Cabinet. The Bill enables a new regulator Resolution Corporation (RC). If a lender is healthy, role of RC is limited, but it would take active part in tandem with existing regulators in reviving a financial institution in case its health is poor. Appears like an all good deal, after all, saving a financial institution is vital for an economy and to you, isn't it? Well, not so fast. There is something called 'bail-in' provision in the Bill, which could potentially give you nightmares. Technically, if FRDI Bill is enacted and a financial institution is failing, RC can convert our deposits into equity or preference shares. That means, a bank can refuse to pay back your money or bank may issue securities as preference shares without any guarantee of fixed dividends. And, the newly injected capital (your money) will be used for the revival of the institution. There are few categories such as deposits covered under insurance, liabilities by virtue of holding client assets, obligations to central counter party, secure liabilities and liability owed to employees or workmen that can't be bailed-in. And, none of those categories includes your deposits with the bank if you ignore the portion of your deposit covered by first one. So, is or money safe? Yes, with 'almost' certainty. Let me explain.
Under the current law, deposits up to Rs. 1,00,000/- is being insured by The Deposit Insurance and Credit Guarantee Corporation, and there is no security whatsoever for the deposits over and above Rs. 1,00,000/-. Under the proposed law, any amount that was insured can't be bailed-in. But the Bill fails to specify neither amount insured nor an amount depositor would be paid in case of liquidation. We are yet to know whether DICGC will be continued or the amount insured will remain the same. However, there is a safeguard under Section. 55(2)(b) which clearly states "only those liabilities can be bailed-in whose contract says it can be bailed-in". Currently, we don't have any such contracts and our deposits can't be bailed-in. At the same time, Section. 52(b)(i) gives power to RC to modify the terms of a contract for existing liabilities which completely contrasts with Section. 55(2)(b). We are yet to know which one supersedes the other.
Leaving the technical aspects aside, we have not seen a single big financial crisis in the last 70 years, thanks to strong regulatory guidelines. Though there may be failed financial institutions, which by its virtue are different from a bank, depositors never lost money. Bank has to set aside 23.5% of their total deposits in the form of SLR and CRR which are completely secure. Importance of timely resolution can't be stressed enough in case of a failing entity. Though it may seem counter intuitive, bail-in is there to protect depositors' interest. By converting deposits into equity, banks will have sufficient time to smoothen the liquidation process and to pay back depositors.
Bail-In Will Keep People Away From Banks: If the government's proposal to convert the nature of deposits in banks even without the consent of the account holder, it may keep people away from banks. People from sub-urban and rural areas, who are not yet habituated to depositing in banks, will continue to stay away from the formal economy. Using earned money of depositors to bail out a bank amounts to gross interference by the government. It violates the principles of corresponding rights and obligations and infringes upon the consumer rights of the people. The government would be doing a disservice to financial inclusion and depositors by seeking to have a complete control over people's hard earned money and by not permitting them to use their own money. The proposed law will directly impact savings in the country and people will adopt old methods of saving their money in pots and almirahs. The bail-in provision could lead to further corruption as banks could become reckless in lending. This would erode people's trust in the banking system. While the demonetisation has failed and did not yield fruitful results except suffering public, the new Bill will also repeat the similar results with more victims.
During the demonetisation period, the cap imposed on withdrawals did not show any impact on current accounts but saving account holders suffered. If the proposed Bill is passed, the government would be putting common man to great suffering, while the rich will go scot-free.
Overall, the bail-in provision is totally unethical.
-Challapalli Srinivas Chakravarthy-
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