Yester years they were: Madhavapura Bank in Gujarat, Krushi Bank and Charminar Bank in Andhra Pradesh and many small urban cooperative banks (UCBs) in other states.
Liquidators appointed by the state governments are still to sell the assets for more than two decades. The latest is Punjab and Maharashtra Cooperative Bank (PMC Bank) with thousands of crores rupees down the drain right under the regular watch of the Reserve Bank of India (RBI). Although RBI has appointed a high-level committee headed by Madhava Das, Marathe and Madhava Rao, several of the recommendations are begging implementation.
Urban cooperative banks or UCBs have their origins in the primary cooperative credit societies and sectarian or community interests in having an independent financial assets market that would allow leveraging resources for higher and stable returns to the depositors and investors. The provisions of Section 5 (CCV) of Banking Regulation Act, 1949 defines the UCB as applicable to cooperative societies.
Following the recommendations of the high power committee on UCBs, the RBI revised entry norms for these institutions. The Banking Regulation Act, interestingly, does not recognise the term UCBs and defines them only as primary cooperative banks indicating that they are at the primary level in a three-tier structure. Historically, these sprang up in the semi-urban, urban and metropolitan areas.
It is the level of owned funds that distinguishes the UCB from the primary credit society. Basically, UCB clientele are small- and medium-sized industrialists, traders and professionals and people mostly belonging to middle class.The staff working in these institutions are mostly related to the promoters, directors and sometimes large depositors.These UCBs have to follow the principles of democratic management, voluntary prescription, self-help and mutuality, and equal treatment to all members.
Being cooperative entities, these institutions should comply with the regulatory provisions under the respective State Cooperative Act and after they attain the status of a scheduled bank, those of the Central Registrar of Cooperative Societies. Therefore, these are banking institutions having dual control.
Magnitude of Business
Business volume of these UCBs is close to 10% of the aggregate commercial banking business in the country. About 80% of the UCBs with roughly 75% of total business are in five states: Maharashtra, Gujarat, Karnataka, Tamil Nadu and Andhra Pradesh due to the emergence of strong cooperative leadership in these areas.
These are mostly localised institutions, although a few have opened branches across the states to expand their business by taking advantage of the provisions of the Multi-State Cooperative Societies Act, 1984.
In the financial architecture of Indian banking, UCBs, therefore occupy too significant place to be ignored. As globalisation and weak financial structures can never coexist, the recent failures have become a serious cause of concern. The most plausible way to address this concern is to look at the way they are managed and governed.
CEO, Management and Governance
The chief executive officer (CEO) of an UCB is somewhat different from the CEO of a commercial bank. He has to be watchdog of the systems; comply with the local state cooperative laws with the same alacrity as that of the regulations of the RBI. The CEO should also run business of banking on commercial lines in a highly competitive environment.
UCBs, being cooperative entities, are member-centered, member-administered and member-directed entities. How one defines this member is what that matters. The boards are normally filled as per the will of the promoters. Most of the UCBs are no different from the traditional family run companies where the control rests with the promoter.
Any person or organisation wanting to borrow from the UCB should necessarily become a nominal member without voting rights. Although the board of directors should be elected by the members, in most banks, they are at the will of the ‘promoters’. This, in turn, sacrificed professionalism among the boards.
While some stipulations of RBI will be discussed later regarding the composition of the board, some of the observations of the Madhavarao Committee are worth noting.
“Democratic spirit is the quintessential trait of cooperative societies. But a state, which happens to be a cradle ground for cooperative movement in India, superseded the boards of managements of all cooperative societies, including UCBs, with a stroke of pen on the pretext of reorganising and strengthening the cooperative sector. It is needless to add that the said decision was a fall out of change in political dispensation rather than a desire to bring any substantial improvement in the development of cooperative institutions. …Even after democratic process was restored, the state government appoints cooperative department officials as managing directors (MDs) of the UCBs.”
In many a state, the general body or managing committee cannot perform its legitimate functions without the concurrence of the registrar of cooperative societies whose knowledge and wisdom either in banking or management is suspect. In order that the eligibility for being on the board falls in the hands of proper persons, the quantitative ceilings on the individual shareholdings is sought to be removed with the proviso that no individual member together with his immediate relatives and Hindu undivided family (HUF) in which he is a member or a firm in which he is a partner or a company (in which he and his immediate family holds more than 10% of the capital), should be allowed to hold more than 5% of the capital of the UCB.
While the audit of the UCBs shifted to chartered accountants (CAs) following the recommendations of Madhavarao Committee several of them could be unaware of the state cooperative act provisions that might be having a bearing on the accounting function.
Duality of control is made out as a big issue which according to me is a non-issue. All the new generation private commercial banks have more than one boss like Securities and Exchange Board of India (SEBI), Registrar of Companies (RoC) and the RBI. The players and the umpire should not be the same person.
In so far as the appointment of directors to the board is concerned, it is imperative that these should be cleared by RBI after carrying out the due diligence exercise as is done for a private commercial bank or the local area bank. It is time that RBI reviews its norms for anybody to be on the UCB’s board.
To equalise the director’s positions of all banking entities on the same platform for selection would be not proper. “Good corporate governance is critical to the efficient functioning of an entity and more so for a banking entity. The Committee feels that irrespective of the size of operations, banks need to run on professional lines and UCBs are no exception to this rule. It therefore suggests that at least two directors with suitable banking experience or relevant professional background should be present on the board of UCBs and the promoters should not be defaulters to any financial institution or banks and should not have any association with a chit fund, non-banking finance company (NBFC) or cooperative bank or commercial bank in the capacity of director on the board.”
It is not enough to say that the UCB should have two professional and independent directors. It is equally important to ensure that these professional directors carry worthy enough capabilities and credentials. It is worthwhile to insist on a 300-word write-up on what they would do to the bank after they join the board at the pre-screening stage.
A number of UCBs have cross-holding of deposits artificially boosting the total resource base of the UCB sector. In a sense, the sum of the parts is not equal to the whole. These banks also have poor asset-liability management and risk management. The UCBs should also have on board the asset and liability management (ALM) committee and risk management committee apart from the audit committee whose agenda should be clear.
Clear and unambiguous specification of the role and functions of the regulators and the rights and obligations of the member shareholders carrying voting rights equivalent to the shareholding right would not brook any further delay. Most banks have multiple regulatory compliances to attend. As long as there is clarity of roles of the regulators and the regulators perform their roles effectively there should not be any problem.
While there has been some improvement in coordination between the regulators—the state cooperative registrar and the RBI through state level task force on cooperative urban banks (TAFCUB), vulnerabilities that surfaced in the PMC Bank clearly point the finger to the lapses on the part of RBI and accountability of the regulator cannot go unheeded.
Sacrifice of the 'fit and proper' criteria in directors’ selection, undetected fraud and diverting public funds for private purposes are in the domain of RBI.
When cooperative governance is in the melting pot, mere assurance of the RBI governor in his latest monetary policy statement, that no cooperative bank would be closed, has no assurance to the lakhs of depositors reposing trust in such banks. Moral hazard is not unlikely. Legal and regulatory remedies brook no delay.
(The author is an economist and risk management specialist. He can be accessed at www.yerramraju1.com)