Banks must raise capital well in time to build resilience: RBI Governor

The RBI governor was not in favour of merging failing financial institutions with better ones, as that drags down the balance sheet of the good institution.
The Reserve Bank of India (RBI) wants banks to identify vulnerabilities early and raise capital in time and not wait for when the requirement is due.

"While banks must identify their weaknesses and strengths in how to deal with the current pandemic, such events could be frequent in the coming days and the financial system has to remain prepared. Financial stability is as important as pursuing growth," said Reserve Bank of India (RBI) governor Shaktikanta Das at State Bank of India’s (SBI) annual Economics and Banking Conclave.

“Building buffers and raising capital (for all kind of banks) will be very crucial for credit flow and resilience in financial system,” Das said in his keynote address, adding, every financial institution, especially banks, will have to do Covid-stress test, “identify vulnerability and raise capital in time.”

The minimum capital requirements of banks, which are based on historical loss events, may no longer be considered sufficient enough to absorb the losses. “Meeting the minimum capital requirement is necessary, but not a sufficient condition for financial stability,” the RBI governor said as shocks to the financial system dubbed as ‘once in a lifetime events’ seem to be more frequent than even ‘once in a decade’. Such risk events, such the Covid crisis now, could be more frequent, varied and bigger risk events than in the past.

According to the RBI governor, who was the first government functionary to forecast a contraction in economic growth for 2020-21, “the Indian economy has started showing signs of getting back to normalcy in response to the staggered easing of restrictions.”

It is, however, still uncertain when supply chains will be restored fully; how long will it take for demand conditions to normalise; and what kind of durable effects the pandemic will leave behind on our potential growth, the governor said.

“The need of the hour is to restore confidence, preserve financial stability, revive growth and recover stronger,” he said.

However, after the Covid crisis is over, "a very careful trajectory has to be followed” in orderly unwinding of counter-cyclical regulatory measures and the financial sector should return to normal functioning without relying on the regulatory relaxations as the new norm, according to the RBI governor.

The central bank is upgrading its supervisory framework, and banks and financial intermediaries must be ever vigilant and substantially upgrade their capabilities with respect to governance, assurance functions and risk culture.

India must try to get into the global supply chain, and the focus should be on addressing impediments such as land, labour etc, but it is very important that the companies ensure uniform quality of their products, the RBI governor said in reply to a question posed by SBI chairman Rajnish Kumar.

“While quality is ensured in certain sectors, some are not able to break into the global value chain because of quality issues," the governor said.

However, Indian companies bring out their best during a crisis situation, as the pharmaceutical industry has shown, and therefore, India must try and tap into the global supply chain, the RBI governor said. Large corporate houses must engage closely with their suppliers in small and medium enterprises to enforce a certain standard in quality.

The RBI governor was not in favour of merging failing financial institutions with better ones, as that drags down the balance sheet of the good institution. Therefore, in case of YES Bank, the RBI thought it is a better option that new shareholders must be pooled together to rescue the bank.

There is also a need for legislative backing to have some kind of corporation for resolution and revival of stressed financial firms, but the whole approach of the Reserve Bank now is to flag emerging and incipient risks much earlier than they materialise.

In this respect, the bigger responsibility lies with the bank themselves. They must focus on NPAs, develop their risk management, and raise capital in time, the governor said in response to another question.

On why rate cuts have not spurred investment, the RBI governor said the central bank’s role is to create an enabling environment, to make money more accessible.

"Investment depends on the overall environment. We are enabling conditions, ensuring rates are kept low keeping in mind the inflation trajectory, which is our primary objective,” Das said, adding, “as inflation goes down, we want to ensure there is adequate liquidity in the system.”

“Bond and financial market liquidity shouldn’t get frozen, and the financial market is functional. If a corporate wants to raise money from the market, they should be able to raise it,” the RBI governor said.

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