Source: The post India needs deep reforms in financial sector has been created, based on the article “India’s financial sector reforms need a shake-up” published in “The Hindu” on 29 May 2025. India needs deep reforms in financial sector.
UPSC Syllabus Topic: GS Paper3- Indian Economy and issues relating to planning, mobilisation, of resources, growth, development and employment.
Context: India’s financial sector faces deep-rooted inefficiencies that limit inclusive growth. Despite years of reform in banking, financial services, and insurance (BFSI), several structural frictions persist. These now demand urgent and comprehensive correction, especially in nomination processes, bond markets, retirement instruments, and shadow banking regulation.
For detailed information on India’s Economic Challenges and Policy Reform Needs read this article here
Inconsistencies in Nomination Rules
- Fragmented Regulations Across BFSI Sectors: Nomination procedures vary widely across banks, mutual funds, and insurance products. Some accounts permit only one nominee, others allow multiple, each with different entitlements. This fragmented system lacks logical and legal consistency.
- Consequences for Investors and Legal Clarity: These contradictions confuse savers and often result in legal disputes. Such ambiguities are exploited, benefiting those who use them for prolonged litigation.
- Urgency of a Unified Framework: A harmonised nomination regime is essential. It must clearly define the difference between nominee rights and legal heir claims. If variations are justified, the government must share supporting evidence or case studies.
Challenges in Corporate Bond Market
- Shallow and Inefficient Market: Despite repeated policy focus, India’s corporate bond market remains small, illiquid, and non-transparent. This raises the cost of capital—the biggest factor in business viability—by 2–3%.
- Failure of Regulatory Implementation: The RBI once directed NSE to create a secondary bond market, but the order was ignored. Equity markets are more profitable due to opaque algorithmic trading, which has even drawn regulatory and journalistic scrutiny.
- Transparency in Capital Flow and FATF Norms: India’s bond market reform is tied to capital flow transparency. As an FATF member, India must enforce Know Your Customer (KYC) norms, including Ultimate Beneficial Owner (UBO) identification, as per 2022 guidelines.
- Disclosure Loopholes: Current UBO disclosure thresholds—10% for companies, 15% for partnerships—let investors avoid scrutiny by structuring stakes below these limits. This undermines market integrity and complicates regulatory oversight, especially with entities based in Mauritius.
Gaps in Retirement Planning Instruments
- High-Cost Annuities: Retirement options largely rely on annuities, which involve high intermediary fees taken by insurance firms, reducing long-term returns.
- Cost-Effective Alternatives Exist: Zero-coupon long-dated government bonds are a cheaper option. Stripping principal and coupon components eliminates the 2% annual cost, resulting in large gains over time.
- Lack of Government Initiative: Despite available technology, neither the RBI nor the government has promoted these instruments. This delays the creation of a credible, low-cost retirement ecosystem backed by sovereign security.
Rising Threat of Shadow Banking
- Unregulated Lending Practices: NBFCs, brokers, and margin lenders offer quasi-bank services without full regulation. Brokers provide loans as margin funding, often charging rates over 20%.
- Hidden Risks to Retail Investors: Brokers lend using the investor’s own money as collateral, charging interest on the total sum. Many investors are unaware of these exploitative terms.
- Need for Transparency and Data: India lacks comprehensive data on shadow banking. The EU has already acted. India must prioritise transparency before effective regulation.
Call for Coherent Structural Reform
- Beyond Cosmetic Changes: India must stop relying on slogans and surface-level amendments. Core systems require structural reform.
- Blueprint for a Stronger Financial System: The path forward includes unified rules, deep bond markets, efficient retirement tools, and regulation of shadow lending. Only then can the financial sector support sustained growth.
