This article is occasioned partly by anger, partly by a need to dispel ignorance. A senior executive of a mutual fund, owned by a bank, told me recently he would advise his family and friends to pull deposits out of Yes Bank. I was incensed. Over the past few days, the rumour mills have been churning out “skeletons” every few minutes. In fact, YES Bank has a lodged a complaint against what they believe is a malicious campaign against the bank.
Without getting into the merits of the allegations made, let’s look at history to help make sense of what depositors should think about.
1. No commercial bank in India has defaulted on its deposits. Yes, the Indian government has not extended this umbrella to co-operative banks and many of their depositors have suffered. But no depositor of any commercial bank has to date lost his deposits. 2. A bit of history to illustrate point one: In 2004 when Global Trust Bank was found to have run down 35 percent of its deposits due to overexposure to the K10 stocks, the RBI took over the bank on a Friday night and by Monday morning ensured a new owner: Oriental Bank of Commerce. Likewise, in 2010, the RBI nudged ICICI Bank to take over Bank of Rajasthan, if it made commercial sense to ICICI. United Western, in 2006, was likewise put under directions when it weakened and auctioned away to IDBI Bank. The regulator also mediated to let ICICI Bank buy out Sangli Bank in 2007. In 2008, before the Lehman crisis, ICICI itself was seeing panic withdrawals and RBI stood behind the bank like a rock with word and gesture.
Short point: in the past 20 years RBI and government have never let a commercial bank depositor lose.
3. Incidentally, India is not alone in this. In that citadel of capitalism, the birthplace of Adam Smith - the United Kingdom, a bank called Northern Rock was saved by the regulator and the government. When it comes to protecting the financial system, banks are special, almost anywhere in the world! 4. In case of a weak bank, the RBI has many options. It can take the bank under PCA, something which it hasn't done to Yes Bank clearly because that bank is not so weak. The regulator should know: it has named one of its former deputy governors to be a director on the board. 5. There are options besides PCA. In the case of Catholic Syrian Bank, RBI allowed Fairfax to buy a 51 percent stake in the bank on the promise of bringing enough capital to nurse it back to health. This despite the fact that Fairfax may not exactly fit the RBI's preference for domestic ownership of Indian banks. 6. To clarify: Under the Banking Regulation Act, as amended in 2016, RBI can allow higher-than-the mandated 15 percent ownership in a bank to an institution, if it is widely held. The voting rights would, however, be capped at 26 percent. 7. Now is it conceivable that a foreign fund will be interested in acquiring a 26-30 percent stake in Yes Bank? Three highly respected investment bankers told me that an Indian bank would be a prized possession for many foreign funds.
One explained that in many developed countries interest rates are very low to negative and hence banks get deposits for free but don't find takers for loans even at less than 1 percent. In contrast, he pointed out, an India private bank, at the most, pays 8 percent for deposits and can easily earn 10-11 percent on its advances.
Another investment banker argued that India is an under-banked country, with one of the most respected banking regulators, He said, foreign funds- sovereign wealth, private equity, family offices - yearn to invest in a bank here. If RBI agreed to extend the Catholic Syrian munificence to Yes, there would be a stampede of funds, he opined. Though even without that relaxation, he suspected funds would be interested given the Indian banking story.
8. There are other instruments to help banks, said a former RBI official. RBI can extend liquidity support to a bank if it is convinced the problem is not one of solvency. In the worst case, if it is convinced that a very large part of the book will default, ie, if the bank is on the road to insolvency, RBI can advise the sovereign to nationalize a weak bank. In short, one of the safest instruments in the Indian financial sector today is deposits in a commercial bank. The principal AND coupon, are safe if history is any guide. It's 9. And one final point: Legally, neither the RBI nor the government explicitly guarantees deposits in commercial banks. They cannot and should not, because it will lead to reckless banking. But if history is any guide, both have guaranteed depositors by gesture, not by word. There is always a possibility that one regime chooses to break from this history, but I am not betting the current RBI will do so and I doubt anyone in the financial sector expects this either.