By Srinath Sridharan
Regulatory penalties for financial institutions (FIs) serve as a vital tool against infractions of legal and regulatory frameworks, as well as lapses in fiduciary responsibility and compliance. FIs are more than profit-seeking entities; they represent the bedrock of trust essential for a nation’s financial well-being. That is why Indian regulators should shift from passive oversight to assertive enforcement.
Following the global financial crisis, there was a noticeable surge in regulatory fines levied against banks and other FIs. One might question if this uptick was a belated response from regulators, aimed at deflecting scrutiny from their oversight failures during the market turmoil.
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Within the domain of the RBI, the fines imposed on its regulated entities (REs) for breaches are low, insufficient, and a “slap on the wrist”, failing to instill a sense of deterrence. Every quarter witnesses the penalisation of one or more REs, yet the fines imposed are often trivial. It has levied fines of less than `75 crore in a recent 12-month period. It is not a joke that lawyers’ fees to read and advise the RE on regulatory penalty and to give “comfort” to the FI’s board is more than the penalty.
The RBI must demonstrate its resolve, particularly when its REs repeatedly violate fundamental requirements such as anti-money laundering/know your customer processes. Such lapses cannot be treated lightly. To be fair, the RBI is the most agile and active of the Indian financial regulators. It does not earn anything from such penalties that accrue in its balance sheet. Its intent of penalties is to let the entity know of its displeasure and to nudge them into compliance.
A couple of decades ago, the imposition of penalties on banks would have sparked moral outrage among bank leaders and board members. The current paltry penalties levied by regulators can be likened to monopoly money — devoid of real consequence. Inadequate penalties fail to instill a sense of accountability among FIs. However, in today’s hyper-capitalist environment, supposed moral righteousness can easily be painted by various PR strategies funded by hefty marketing budgets.
Here’s a proposal for the RBI: impose hefty fines on REs for violations, ranging in tens and hundreds of crores rather than lakhs, depending on the severity of the infraction. Rather than directing the penalties to the RBI balance sheet, let the REs bring that amount as a special-tier equity capital under a separate category termed “regulatory risk capital”.
This designated tier can be publicly disclosed each quarter, shedding light on the bank’s struggles with compliance. Not only would this bolster the institution’s capital reserves to address deficiencies in regulatory behaviour, but it would also factor in the associated risks. By declaring penalties under this tier, FIs become directly accountable to their shareholders.
Furthermore, in cases of significant breaches, the RBI could implement higher risk weights for deficient products solely for the offending FI. This measure, effective until the next supervisory inspection, would diminish the competitive advantage of the entity in the market, impacting its financial performance and serving as a deterrent against non-compliance.
Presently, FIs readily convene board meetings to acknowledge regulatory correspondence and promptly settle penalties. Depending on the gravity of the transgression, the stock markets may experience a brief reaction lasting one or two days. Numerous investor relations professionals dismiss such penalties as an unavoidable “cost of doing regulated business in India”, a stance deemed unjust but accepted as reality. Compounding matters, the presence of former regulators on the boards and advisory boards of many FIs inadvertently lends tacit validation to these occurrences.
When regulators are compelled to pursue compliance from their REs, it reflects unfavourably on the entities themselves. Without a fundamental shift towards a culture of compliance as a core value and integral aspect of conducting business, the outlook for society appears bleak.
Rarely do consumers complain as the time and process complexities are loaded against them. The RBI and other regulators should reconsider using digital tools to have a “customer is right” model of grievance redress. Again they can impose significantly higher financial penalties for any instances of non-compliance or substantial consumer grievances.
Following fines, FIs typically allocate greater resources towards compliance and monitoring efforts. However, the effectiveness of remedial actions often falls short due to inadequate enforcement and monitoring, both internally and by regulatory authorities. This suggests the necessity for bolstering supervisory teams to enhance oversight capabilities, something that the RBI has been scaling its focus on.
By introducing additional capital requirements as penalties and imposing significant financial consequences on management, regulatory authorities can more effectively incentivise adherence to regulatory standards and foster a culture of compliance within FIs. Significant fines are essential to compel banks, particularly their management and boards, to allocate resources towards bolstering control systems and mitigating unaddressed risks. For FIs, financial performance matters.
But then, concepts like financial inclusion, financial literacy, and consumer protection are the social order of regulators. To ensure that FIs comprehend these social needs folded into regulatory compliance norms and processes, it often requires linking consequences to personal incentives. Call these higher penalties “cost of conduct”. Like a point system in video games, hold these penalties as a way to affect the continued tenure of the management, as well as regulatory nod for any extension or hike in compensation. Bringing in punitive actions that can influence those would be a signboard for better causal behaviour.
The author is a corporate advisor and policy researcher.
Disclaimer: Views expressed are personal and do not reflect the official position or policy of Financial Express Online. Reproducing this content without permission is prohibited.
By Srinath Sridharan
Regulatory penalties for financial institutions (FIs) serve as a vital tool against infractions of legal and regulatory frameworks, as well as lapses in fiduciary responsibility and compliance. FIs are more than profit-seeking entities; they represent the bedrock of trust essential for a nation’s financial well-being. That is why Indian regulators should shift from passive oversight to assertive enforcement.
Following the global financial crisis, there was a noticeable surge in regulatory fines levied against banks and other FIs. One might question if this uptick was a belated response from regulators, aimed at deflecting scrutiny from their oversight failures during the market turmoil.
Within the domain of the RBI, the fines imposed on its regulated entities (REs) for breaches are low, insufficient, and a “slap on the wrist”, failing to instill a sense of deterrence. Every quarter witnesses the penalisation of one or more REs, yet the fines imposed are often trivial. It has levied fines of less than `75 crore in a recent 12-month period. It is not a joke that lawyers’ fees to read and advise the RE on regulatory penalty and to give “comfort” to the FI’s board is more than the penalty.
The RBI must demonstrate its resolve, particularly when its REs repeatedly violate fundamental requirements such as anti-money laundering/know your customer processes. Such lapses cannot be treated lightly. To be fair, the RBI is the most agile and active of the Indian financial regulators. It does not earn anything from such penalties that accrue in its balance sheet. Its intent of penalties is to let the entity know of its displeasure and to nudge them into compliance.
A couple of decades ago, the imposition of penalties on banks would have sparked moral outrage among bank leaders and board members. The current paltry penalties levied by regulators can be likened to monopoly money — devoid of real consequence. Inadequate penalties fail to instill a sense of accountability among FIs. However, in today’s hyper-capitalist environment, supposed moral righteousness can easily be painted by various PR strategies funded by hefty marketing budgets.
Here’s a proposal for the RBI: impose hefty fines on REs for violations, ranging in tens and hundreds of crores rather than lakhs, depending on the severity of the infraction. Rather than directing the penalties to the RBI balance sheet, let the REs bring that amount as a special-tier equity capital under a separate category termed “regulatory risk capital”.
This designated tier can be publicly disclosed each quarter, shedding light on the bank’s struggles with compliance. Not only would this bolster the institution’s capital reserves to address deficiencies in regulatory behaviour, but it would also factor in the associated risks. By declaring penalties under this tier, FIs become directly accountable to their shareholders.
Furthermore, in cases of significant breaches, the RBI could implement higher risk weights for deficient products solely for the offending FI. This measure, effective until the next supervisory inspection, would diminish the competitive advantage of the entity in the market, impacting its financial performance and serving as a deterrent against non-compliance.
Presently, FIs readily convene board meetings to acknowledge regulatory correspondence and promptly settle penalties. Depending on the gravity of the transgression, the stock markets may experience a brief reaction lasting one or two days. Numerous investor relations professionals dismiss such penalties as an unavoidable “cost of doing regulated business in India”, a stance deemed unjust but accepted as reality. Compounding matters, the presence of former regulators on the boards and advisory boards of many FIs inadvertently lends tacit validation to these occurrences.
When regulators are compelled to pursue compliance from their REs, it reflects unfavourably on the entities themselves. Without a fundamental shift towards a culture of compliance as a core value and integral aspect of conducting business, the outlook for society appears bleak.
Rarely do consumers complain as the time and process complexities are loaded against them. The RBI and other regulators should reconsider using digital tools to have a “customer is right” model of grievance redress. Again they can impose significantly higher financial penalties for any instances of non-compliance or substantial consumer grievances.
Following fines, FIs typically allocate greater resources towards compliance and monitoring efforts. However, the effectiveness of remedial actions often falls short due to inadequate enforcement and monitoring, both internally and by regulatory authorities. This suggests the necessity for bolstering supervisory teams to enhance oversight capabilities, something that the RBI has been scaling its focus on.
By introducing additional capital requirements as penalties and imposing significant financial consequences on management, regulatory authorities can more effectively incentivise adherence to regulatory standards and foster a culture of compliance within FIs. Significant fines are essential to compel banks, particularly their management and boards, to allocate resources towards bolstering control systems and mitigating unaddressed risks. For FIs, financial performance matters.
But then, concepts like financial inclusion, financial literacy, and consumer protection are the social order of regulators. To ensure that FIs comprehend these social needs folded into regulatory compliance norms and processes, it often requires linking consequences to personal incentives. Call these higher penalties “cost of conduct”. Like a point system in video games, hold these penalties as a way to affect the continued tenure of the management, as well as regulatory nod for any extension or hike in compensation. Bringing in punitive actions that can influence those would be a signboard for better causal behaviour.
The author is a corporate advisor and policy researcher.
Disclaimer: Views expressed are personal and do not reflect the official position or policy of Financial Express Online. Reproducing this content without permission is prohibited.
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RBI restricts Kotak Mahindra Bank from onboarding new customers through digital channels and issuing fresh credit cards due to significant concerns regarding IT risk and information security governance. The bank is found to be deficient in building necessary operational resilience, resulting in frequent outages and customer inconveniences.
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