Draft norms on new banking license soon to be finalized

The Reserve Bank of India (RBI) is expected to finalize its views on the limit of the Foreign Direct Investment (FDI) and the outlook for the dilution of promoter equity, making way for the introduction of draft rules on setting up new banks.  

The Ministry of Finance and RBI have been negotiating for allowing industrial houses for promoting new banks, and other two issues on which RBI has to take final views i.e. whether to allow FDI of 74% and to finalize time line for diluting the equity of promoters. On the diluting of promoters share, RBI favours the lower limit of 49% in the first 10 years whereas finance ministry wants it to be around 74% which is already allowed in present norms.  As per the government official this is because it reckons that an ongoing effort to nudge foreign banks to convert to a fully-owned subsidiary model would be defeated if higher foreign equity is allowed.

A clear road map for dilution of promoter equity may be in order because of the trouble the RBI has encountered in the past in forcing some of the dominant shareholders to cut their equity holdings. However, the shareholders were able to resist RBI saying that there were no formal rules on divesting of stake and the licensing agreement did not provide for it clearly.

Last week, ministry of finance asked RBI to give its view on many aspects of the proposed rules. The RBI is expected to communicate its views to the ministry of finance, after which the draft norms will be revealed maybe by next week.  But the final banking license is expected to take much longer time, as policymakers want to ensure the Banking Regulation Act is amended to allow RBI to supersede the board of banks and to approve all transfers of share in the banks after a certain limit. Finance Minister Pranab Mukherjee in this year’s budget had said that the RBI would release draft guidelines to license a few private banks.

Eight years ago RBI issued banking license to private banks, the last private bank to start its operation was YES bank, before that RBI had given permission to open banks to few industrial houses and the financial institution-backed firms. These include HDFC Bank, Axis Bank, Indus lnd Bank and IDBI bank, which later got merged with IDBI. As of now, India has 26 state-run banks, 22 private banks and 32 foreign banks. 

By the new banking license, government and RBI are promoting financial inclusion. Few of the top business groups are keen on promoting banks. However, policymakers are expected to introduce strict rules to ensure that tainted firms are denied entry into a sensitive sector. RBI in its discussion paper on the entry of new banks in the private sector had recommended that the new banks must have to open every fourth branch in rural areas with population of less than 10,000. Although, ministry of finance wants these branches in tier-III and tier-IV cities with the population of 50,000, ministry also wants the new banks to get a no-objection certificate from other regulators and agencies like CBI before approving any application.     

RBI is also planning to observe the shadow banking or activities of entities like merchants’ banks and brokerages. As the risks posed by these entities may have adverse impact on the lenders who promote them or banks that lend to them. Globally, regulators have started scanning showdown banking closely after the subprime crisis of 2008.