Thursday, March 10, 2016

Progress on Financial Sector Legislative Reforms

The FSLRC submitted its recommendations for structural reform of the Indian financial regulatory architecture in 2013. Subsequent budgets have promised implementation of parts of these recommendations. The Union Budget 2016 has proposed to implement a few more of these. This post takes a stock-check of the FSLRC-related promises made in the Budget Speech of 2015-16 and summarises the developments on the recommendations of the FSLRC made in this year's Budget.

FSLRC reforms promised in 2015:

The Budget Speech of 2015-16 had promised to implement the following recommendations made by the FSLRC: (i) Constitution of a monetary policy committee; (ii) Establishment of the Public Debt Management Agency (PDMA) (which was subsequently withdrawn); (iii) Constitution of a task force for setting up a Financial Redress Agency, which is intended to be an adjudicatory body for consumer protection in the financial services sector.
  1. Monetary Policy Committee: The Finance Bill, 2016 provides for a monetary policy committee by amending the RBI Act. However, the composition of the monetary policy committee is not in line with the recommendations of the FSLRC or the instructions subsequently issued by the Central Government on this subject as reflected in the Indian Financial Code1.1.
  2. A snapshot of the differences in the constitution of the MPC is summarised in the chart below:

    Differences in the constitution of the MPC
    Particulars Members appointed by RBI External members appointed by Central Government Members appointed by Central Government, in consultation with RBIGovernor veto
    IFC 1.0232Yes
    IFC 1.1340No
    Finance Bill 2016330No

    The Finance Bill, 2016 requires the Central Government to appoint the external members as per the recommendations of a Search and Selection Committee which will comprise of the Cabinet Secretary, Secretary (DEA), the RBI Governor and three experts in the field of economics, banking, monetary policy or finance, to be nominated by the Central Government.

  3. PDMA: The last year budget had proposed setting up a PDMA which will bring both India's external borrowings and domestic debt under one roof. However, the proposal was later withdrawn. The implementation document merely states that while the Government is committed to setting up the PDMA, it is in the process of preparing a detailed roadmap separating the debt management functions from the RBI in consultation with RBI.

    Accordingly, the Government and corporate bond market continues to be bifurcated between the exchange and NDS-OM platforms. In the absence of an integrated market infrastructure for Government and corporate bonds, the agenda for development of a corporate bond market in India will remain incomplete.
  4. Financial Redress Agency: The budget had proposed to create a Task Force to establish a sector-neutral Financial Redressal Agency that will address grievances against all financial service providers. The budget-implementation document merely states that the Task Force was set up on June 5, 2015.
  5. Capital Account Controls: Last year budget had proposed to amend, through the Finance Bill, Section-6 of FEMA to clearly provide that control on capital flows as equity will be exercised by the Government, in consultation with the RBI. The FSLRC had recommended placing the formulation and implementation of capital controls on a sound footing in terms of public administration and law.

    The implementation document merely notes that the process of consulting Reserve Bank on Debt and Non-debt instruments classifications is on.

Promises in Budget 2016:

  1. Specialised Resolution Regime: The Budget Speech proposes the tabling of a comprehensive law establishing a specialised resolution regime for banks and financial institutions during 2016-17. This Code will provide a specialised resolution mechanism to deal with bankruptcy situations in banks, insurance companies and financial sector entities. This Code, together with the Insolvency and Bankruptcy Code 2015 (now referred to a JPC in December 2015), will provide a comprehensive resolution mechanism.

    This is a welcome move. However, the Government must hit the road running in building the Resolution Corporation so that when the law gets enacted, the resolution machinery actually works as it is intended to.

  2. Financial Data Management Centre (FDMC): The Budget Speech proposes setting up a FDMC under the aegis of the Financial Stability Development Council (FSDC) to facilitate integrated data aggregation and analysis in the financial sector. The speech is, however, conspicuously silent on whether the Data Centre will be supported by a statute.

  3. The FSLRC's vision for this Data Centre was to provide for a nation-wide integrated repository of information relating to the financial sector, which can be used to study systemic indicators in the economy and further research in this field. As a nerve-centre for regulatory data cutting across various segments of the financial sector, the importance of this centre cannot be underestimated. This, and the obligation on regulators to share the information with the Data Centre, underscore the importance of a statutory instrument to make the Data Centre work.

Further developments on FSLRC proposals

  • Merger of SEBI-FMC: One of the fundamental proposals made by the FSLRC was to constitute a unified regulator for financial products and financial services, except for the purposes of banking. As a step towards integration, the FMC was merged into SEBI under the Finance Act, 2015. The merger was effected in September 2015 and SEBI now regulates the commodities and the securities markets.
  • Building other agencies envisaged by FSLRC: In 2014-15, the Government had constituted four task forces for building the institutions envisaged under the Indian Financial Code. This could easily be classified as a first attempt of its kind by the Central Government to build institutional capacity of this scale in India.

    The Task Forces submitted their recommendations in June 2015. The budget-implementation document states that the Central Government is in the process of considering the recommendations made by the Task Forces.
  • Indian Financial Code: In June 2015, the Ministry of Finance released for public comments a version of the Indian Financial Code (IFC1.1) which was refined and revised on the basis of public feedback received from March 2013 onwards. The implementation document states that the Government has consolidated the comments received during Public Consultation in July-August 2015 and the government is in process of responding to public comments, and is assessing the preparatory work involved to gauge a realistic target for introducing IFC1.1 in Parliament.


The FSLRC envisaged creation of a new financial regulatory architecture with each element complementing the other. The recommendations are in danger of being taken up on a piecemeal basis. This should be avoided as it would result in less than optimum outcomes.

It is going to be one year since the four task forces have submitted their recommendations and over six months since public comments were received on IFC 1.1. The Task Force on FRA should submit its recommendations by June, based on its tenure. It would be useful for the government to provide a plan to implement the IFC 1.1 and simultaneously operationalise the agencies recommended.