The Financial Resolution and Deposit Insurance Bill (FRDI), 2017

Context:

The Financial Resolution and Deposit Insurance Bill (FRDI), 2017, which was tabled in Parliament in the last monsoon session is expected to come up for discussion during the current winter session.

Introduction:

• The Bill was referred to a joint parliamentary committee this August after cabinet approval.
• This bill, once becoming a law, would repeals the Deposit Insurance and Credit Guarantee Corporation Act, 1962 to transfer the deposit insurance powers and responsibilities to the proposed Resolution Corporationand will also amend 12 other laws.

What is the Financial Resolution and Deposit Insurance Bill 2017?

• Financial Resolution and Deposit Insurance (FRDI) Bill, 2017 is similar to the Insolvency and Bankruptcy Code, 2016.
• FRDI deals only with the companies that are in the financial sector entities such as banks and insurance companies.
• The insolvency code Act deals with companies in all other sectors.
•  Purpose of the Bill is to create a resolution regime for financial institutions when they face crisis without creating financial burden for the tax payers

What are the key features of the Bill?

• The FRDI Bill seeks to decrease the time and costs involved in resolving distressed financial entities.
• The FRDI will provide a comprehensive resolution framework to deal with bankruptcy situations in financial sector entities such as banks and insurance companies.
• The Bill seeks to protect customers of financial service providers in times of financial distress.
• It also aims to inculcate discipline among financial service providers in the event of financial crisis, by limiting the use of public money to bail out distressed entities.
• The Bill would help in maintaining financial stability in the economy by ensuring adequate preventive measures.
• The Bill aims to strengthen and streamline the current framework of deposit insurance for the benefit of retail depositors.
• The bill seeks to provide for the resolution of certain categories of financial service providers in distress, and the deposit insurance to consumers of certain categories of financial services.
• The bill will pave the way for setting up of the Resolution Corporation for protection of consumers of specified service providers.
• The proposed legislation together with the Insolvency and Bankruptcy Code, 2016 is expected to provide a comprehensive resolution mechanism for the economy.

 ‘Bail’ in clause’

• The Bill also introduces the provision for a “bail-in”, whose purpose is to provide capital to absorb the losses of a bank and ensure its survival.
• The bail-in empowers the proposed Resolution Corporation to cancel a liability owned by the bank or change the form of an existing liability to another security.
• The ‘bail-in’ clause changes the nature of relationship between the customer and the bank.
• It would mean that money is no longer safe in a bank.
• An account would lose its sovereign guarantee and instead become an investment

Importance of the bill

• Presently, there is no specific law in India for resolution of failures of financial services providers.
• The Insolvency and Bankruptcy Code 2016 does not automatically cover financial service providers. Thus, a separate law was needs to address financial service providers.
• The bill also limits the use of public money to bail out distressed entities. This would inculcate discipline among financial service providers in the event of financial crises.
• The Bill ensures adequate preventive measures, and also provides the necessary instruments for dealing with a post-crisis situation thus helps in maintain financial stability in the economy.

Concerns related to the Bill:

• It would erode people’s trust in banking system.
• It could result into financial exclusion when people prefer to avoid formal banking system
• Attempt to expand financial inclusion would have limited utility.
• It could affect current account deficit and exchange change.
• It could affect capital formation in the country thus affect investment, demand and economic growth.

• Public sector bank unions argued that several provisions in the bill are against the interests of depositors.
• It will create an environment of mistrust between the banks and depositors.
• The failure of the bill to quantify the deposits that will come under the insurance scheme has also led to worries among depositors if their interests will actually be protected.
• Once the proposed law sets in, banks, insurers, pension funds, asset management companies, all will have to put in place resolution plansor “living wills”.
• The bill has received flak from various stakeholders for some of its controversial provisions including a ‘bail-in’ clause which suggests that depositor money could be used by failing financial institutions to stay afloat.

Controversy related to ‘Bail-in clause’

• The “bail-in” clause of the Financial Resolution and Deposit Insurance Bill (FRDI) has led to worries about the safety of bank deposits.
• It is different from a traditional bailout in which government’s money helps bank tide over the crisis. In case of a bail-in, it is the bank’s own deposits that are used to rescue the bank or reduce its liabilities.
• According to Section 52 of the proposed Bill, depositors will lose their rightful claim to retrieve their savings in case of liquidation of banks and insurance companies.
• This option will be frequently exploited by the depositors as it will soon be the only option of getting sudden cash since economy is moving towards cash-less.
• Deposit withdrawal will become an option to escape from taxes and government confiscation.
• Banks would be in constant risk of cash crisis which will hamper their credit generation goal in a cash-less society.

Insolvency and Bankruptcy Code Vs FRDI

• A Financial Resolution and Deposit Insurance Act along with the Insolvency and Bankruptcy Code, 2016 is expected to provide a comprehensive resolution mechanism for the Indian economy with the objective of protecting consumers of specific service providers and public funds.
• Both of these are about issues that can arise when companies go bankrupt or insolvent, except that this Bill deals only with the companies that are in the financial sector. The insolvency code Act deals with companies in all other sectors.

Conclusion:

For the sake of justice and fairness to its citizens, the government must take a stand and defy the FSB’s diktat on the ‘bail-in’ clause.