7 PM Editorial |Regulatory gaps, lax governance have precipitated a crisis in co-operative banking| 9th May 2020

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Regulatory gaps, lax governance have precipitated a crisis in co-operative banking

 What has happened?

The RBI on May 2 has cancelled the license of a Mumbai based ‘The CKP Cooperative Banks Ltd.’

Careless governance and the gaps in regulatory measures are the primary cause of crisis in co-operative banking in India. Both RBI and central government are taking steps to tackle the crisis.

This brings to questions of co-operative banks in India and related issues. In this article we will discuss the following:

• What are Co-operative Banks?
• What are different types of Co-operative Banks?
• How are the Urban Co-operative Banks (UCBs) regulated?
• What is the issue with the Cooperative Banks in India?
• What are the steps taken by RBI?
• What are the steps taken by the Central Government?
• Way Forward

What are Co-operative Banks?

• A co-operative bank is a financial entity which belongs to its members, who are at the same time the owners and the customers of their bank.
• Cooperative banks generally provide their members with a wide range of banking and financial services (loans, deposits, banking accounts, etc.).
• The co-operative banks in India are regulated by the Reserve Bank of India (RBI) and governed by Banking Regulations Act 1949 and Banking Laws (Co-operative Societies) Act, 1955.

What are different types of Co-operative Banks?

The co-operative banking structure in India is divided into following 5 categories:

1. Primary Co-operative Credit Society:The primary co-operative credit society is an association of borrowers and non-borrowers residing in a particular locality.
2. Central Co-operative Banks: These are the federations of primary credit societies in a district and are of two types-those having a membership of primary societies only and those having a membership of societies as well as individuals.
3. State Co-operative Banks: The state co-operative bank is a federation of central co-operative bank and acts as a watchdog of the co-operative banking structure in the state. The state co-operative banks lend money to central co-operative banks and primary societies and not directly to the farmers.
4. Land Development Banks: The Land development banks are organized in 3 tiers namely; state, central, and primary level and they meet the long term credit requirements of the farmers for developmental purposes.
5. Urban Co-operative Banks: The term Urban Co-operative Banks (UCBs), have not been formally defined. It refers to primary co-operative banks located in urban and semi-urban areas.

How are the Urban Co-operative Banks (UCBs) regulated?

• The urban co-operative banks are regulated and supervised by State Registrars of Co-operative Societies and by Reserve Bank of India.
• The regulatory powers of registrar of cooperative societies includes incorporation, registration, management, audit, supersession of board and liquidation and on the other hand, the RBI is responsible for regulatory functions such maintaining cash reserve and capital adequacy, among others.

After the discussing the basics of Co-operative Banks in India, let us focus on the issues in the co-operative banking and steps taken by the RBI and the central government.

What is the issue with the Cooperative Banks in India?

• Operational Problems:The operational problems of urban co-operative banks consist in their loaning policies and practices. It has been noticed that some of these banks are advancing loans which are unproductive. Though these banks are getting their deposits at low rate of interest they advance loans at unreasonably high rates.
• Unsecured Loans: There is a risk in granting the large amount of loans on impersonal relationships. A person’s integrity and character alone cannot constitute a reliable index of credit worthiness. Most of the times, unsecured loans are issued on Ration cards and there are high chances of frauds and irregularities in such cases.
• Neglect of finances to industries:In spite of the facilities extended by the RBI to urban banks like share capital participation, refinance facilities, etc. majority of the urban banks neglected the financing of small scale and cottage industries.
• Political And High Posting Officers Problems:Many a time political interference with the services of urban banks leading to maladministration. Due to these factors there is no proper administration of the urban co-operative banks. Rules and regulations are conveniently violated. As a consequence loans are granted even with the forged documents.
• Administrative Problems: The Board of Director (BoD) of a UCB, performs both executive and supervisory roles, and has the responsibility to oversee the functioning of UCB as a cooperative society. But many a time, BoD mis-use their executive power in granting loan amount exceeding the limits allowed.

What are the steps taken by RBI?

• Creating Board of Management: According to the RBI guidelines, UCBs with deposits of Rs. 100 Crore and more will constitute a Board of Management (BoM). The BoM will comprise expert banking professionals. It will exercise over-sight on banking functions of the UCBs and assist the BoD on formulation of policies.
• Appointment of CEO: UCBs having deposit size of ₹100 crore and above shall obtain prior approval of Reserve Bank for appointment of CEO
• RBI revised supervisory framework for UCBs: According to the RBI, a UCB can be placed under Supervisory Action Framework when:
• Its net NPAs exceed 6% of its net advances.
• If Capital Adequacy Ratio (CAR) falls below 9%.
• If it incurs loses for two consecutive financial years.
• Reporting of large exposures: The RBI issued a notification where it mandated that all UCBs having total assets of Rs. 500 Crore and above of the previous financial year, will have to report large exposures to Central Repository of Information on Large Credits (CRILC) on a quarterly basis.

What are the steps taken by the Central Government?

The central government introduced Banking Regulation (Amendment) Bill, 2020 to amend the Banking Regulation Act, 1949 with respect to cooperative banks.

The silent features of the bill are:

• The bill deals with only Multi-state cooperative banks and Urban Cooperative Banks and not the rural primary cooperatives.
• Additional powers to RBI: The cooperatives banks are currently under the dual control of both RBI and the Registrar of Cooperative Societies. If the bill passed, the RBI will get the superseding powers over the board.
• Auditing: After the bill is passed, the cooperative banks will be audited as per the RBI rules.
• The Section 56 of Banking Regulations Act, 1949 deals with Cooperative Societies. The amendment bill tries to replicate certain other sections like Section 10A (professional BoD), 10B (removal of a whole time chairman) and 30 (audit) under the section 56 of the Act. 

Way Forward:

The RBI’s governance measures and the Banking Regulations (Amendment) Bill, 2020 deals with only the Urban Cooperative banks. There are about 96000 rural cooperatives that constitute about 65% of the total assets of the cooperatives in India. Even Primary Agricultural Credit Societies are outside the purview of the Banking Regulations Act. The Rural cooperatives play an important role in mobilizing the resources in the remotest areas. There is an urgent need to bring reforms regarding the governance of the rural cooperatives similar to urban cooperatives.

Source: Regulatory gaps, lax governance have precipitated a crisis in co-operative banking

Mains Practice Question:

Recently, RBI cancelled the license of a Urban Cooperative Bank. Discuss the issues pertaining to the urban cooperative banking in India and the steps taken by government and the RBI in this regard. (250 words)