Financial Resolution and Deposit Insurance Bill, 2017

In October, 2017, the Financial Resolution and Deposit Insurance Bill 2017 has been referred to a Joint Parliamentary Committee of 30 members from both the Houses. This bill, once becoming a law, would repeals the Deposit Insurance and Credit Guarantee Corporation Act, 1962 to transfer the deposit insurance powers and responsibilities to the proposed Resolution Corporation and will also amend 12 other laws.

Objectives

The key objectives of this bill are as follows:

• It seeks to create a a frame work for resolving bankruptcy in financial firms such as banks and insurance companies and also aims to instill discipline in financial service providers in the event of a financial crisis by limiting the use of public money to bail out distressed entities.
• It also seeks to regulate financial service providers including banks except cooperative banks, insurance companies, financial market infrastructure, payment systems, and non-banking finance companies so as to comply with the emerging international norms for establishing effective resolution regime for financial sector.

Key Provisions

Some of the important provisions of the bill are as follows:

Resolution Corporation

The bill proposes that a Resolution Corporation will be established by Central Government as an independent regulator; and it will have a Chairperson and representatives from the Finance Ministry, RBI, and SEBI, among others. This would take over the task of resolution of failing financial firms from the Reserve Bank of India (RBI) and other regulators.

Functions of the Corporation will include:

• Providing deposit insurance to banks (to repay deposits to consumers in case of failure),
• To classify service providers like banks and insurance companies based on their risk and undertaking resolution of service providers in case of failure.
• The corporation may also investigate the activities of service providers, or undertake search and seizure operations if provisions of the Bill are being contravened.

In case of bank failure the Resolution Corporation will also take over the task of insuring bank deposits, compensating depositors up to a specified maximum amount at present it is Rs.1 lakh.

Risk based Classification

The Resolution Corporation is mandated to classify service providers based on their risk of failure by consulting with respective regulators like RBI for banks, and IRDA for insurance companies.  Total four categories are proposed based on their risk of failure- Low, Moderate, Material, imminent and critical

• Low: Probability of failure is substantially below acceptable levels
• Moderate: Probability of failure is Marginally below acceptable levels
• Material: Probability of failure is Above acceptable levels
• Imminent- Probability of failure is Substantially above acceptable levels
• Critical: Service providers on the verge of failure

A service provider which is categorized under the ‘imminent’ or ‘critical’ category will submit a restoration plan to the regulator, and a resolution plan to the Corporation.  These plans will contain information, including:

• Details of assets and liabilities.
• Steps to improve risk based categorization.
• Information necessary for resolution of the service provider.

When the service provider is classified as Critical then the management of the service provider will be takeover by the Corporation from the date when it is classified as ‘critical’.  The resolution of service provider classified under the critical category will undertake by the corporation using following options

• Transfer of its assets and liabilities to another person
• merger or acquisition, and
• Liquidation
• Bail-in aid
• Liquidation

The bill also contains certain new methods of resolution such as bail-in and bridge service provider.

Time limit

When a service provider is classified as ‘critical’ the resolution process will be completed within a year from the date.  This time limit may be extended by another year (i.e. maximum limit of two years).

If resolution of service provider is not completed during this time period then the service provider will be liquidated.

Liquidation and distribution of assets

To liquidate the assets of a service provider the Corporation will require the approval of the National Company Law Tribunal.

The Proceeds from the sale of assets will be distributed in the following priority order:

Offences

The Bill specifies penalties for offences such as concealment of property, and destruction or falsification of evidence.  Penalties vary based on the nature of the offence, with the maximum penalty being imprisonment for five years, along with a fine.

Others

The bill also provides to designate certain categories of financial institutions as Systematically Important Financial Institutions (SIFIs).

Importance of the bill

Presently, there is no specific law in India for resolution of failures of financial services providers. The Insolvency and Bankruptcy Code 2016 does not automatically cover financial service providers. Thus, a separate law was neede to address financial service providers. The bill also limits the use of public money to bail out distressed entities. This would inculcate discipline among financial service providers in the event of financial crises. The Bill ensures adequate preventive measures, and also provides the necessary instruments for dealing with a post-crisis situation thus helps in maintaing financial stability in the economy. Further, it seeks to decrease the time and costs involved in resolving distressed financial entities. The bill also seeks to protect customers of financial service providers in times of financial crisis.

Criticism of the Bill

Classifying service providers like “material” or “imminent” category make depositors fearing of failure would want to move out their deposits. Therefore Instead of resolving the problem of vulnerability to failure, the mechanism may actually precipitate failure. The restoration and/or resolution plan, to be acceptable, may “force” a financial firm to accept amalgamation or merger. This would have implications for parties that are not responsible for the state of the firm, including officers, employees, creditors and small shareholders.

Current Status

The bill has been referred to a Joint Parliamentary Committee of both the Houses, under the Chairpersonship of Shri Bhupender Yadav for examination and presenting a Report to the Parliament.

Insolvency and Bankruptcy Code Vs FRDI

A Financial Resolution and Deposit Insurance Act along with the Insolvency and Bankruptcy Code, 2016 is expected to provide a comprehensive resolution mechanism for the Indian economy with the objective of protecting consumers of specific service providers and public funds.

Both of these are about issues that can arise when companies go bankrupt or insolvent, except that this Bill deals only with the companies that are in the financial sector. The insolvency code Act deals with companies in all other sectors.

Exam Topics

Prelims

Salient Features of this bill including the proposed Resolution Corporation.

Mains

How the Insolvency and Bankruptcy Code, 2016 and Financial Resolution and Deposit Insurance Bill together make difference in the life of a common man? How they would affect public policy in financial matters? (GS-III)