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Another bank failure – The script does not change

By DM Deshpande

Another bank failure-this time not a small player but the fourth largest private bank. Yes Bank struggled for two years. At last it required the government’s intervention and a rescue plan.

When the SBI announced a bailout it looked like a feeble, inadequate and a half-baked plan. But within days the RBI came out with a detailed plan of action that involves equity buying of Yes Bank by LIC and all other major private banks. The SBI will be the principal buyer infusing Rs 7,250 crores for a stake of 49 per cent and all others joining in to provide a total life line to troubled bank to the tune of Rs 11,200 crores. That leaves less than a sixth share of the equity for retail shareholders.

Whether even this amount will prove adequate is a million dollar question. In the December ended quarter, Yes Bank has reported a loss of Rs 18,500 crores as against a profit of Rs 1,000 crores in the corresponding previous year. Failure of the bank is primarily due to massive accumulation of bad loans that were under reported. There is no knowing for sure even now about the extent of bad loans.

Nearly a fifth of all assets, over Rs 40,000 crores, are estimated to be bad and doubtful corporate debt.  As Covid 19 takes it’s toll, NPA’s will only rise. There are also signs of flight of deposits from the bank notwithstanding the appeal by the government and the RBI to the contrary.

In hindsight, Yes Bank has been an overly ambitious entity. Established in 2004, in a little over fifteen years it has grown it’s assets to Rs 4 lakh crores. Even as late as December 2019, it’s CEO would speak confidently of achieving a growth of 25 per cent.  There is no doubt that there is more to Yes Bank than what meets the eye. Otherwise, what does explain a bank which declared 16.5 per cent capital adequacy and NPA’s of just 3.2 per cent on March 31 2019 came to this pass in less than 12 months? Now it is clear that the bank planted media stories and all talk of fresh global investors was an eye wash.

The role of RBI is bound to be questioned. Why was such a long rope given to the CEO? Once it was discovered that the NPA’s were mounting, why was follow up action not taken? The apex bank was either unaware or it just turned a blind eye to massive selling of shares by CEO and possibly other members of inner circle in the management. There are reports that some of the major deposits, too, were withdrawn just in time before the moratorium was placed in the first week of this month.

The fall of Yes Bank comes close on the heels of series of crisis in PMC Bank, DHFL, IL&FS. In addition, two major private banks have been alleged to have resorted to wrong doings. Perpetually some public sector banks are facing problems of rising NPA’s. What went wrong with Yes Bank? Script remains the same; almost everything that should not go wrong went wrong.

Corporate governance including the role of independent directors, auditors both internal and external, dysfunctional boards and above all, nexus between promoters, bankers and politicians allowed things to come to this pass. Add to all this incompetence of RBI that once again failed to keep pace with growing complexities in financial sector.

Rescue plan has been criticized as nationalizing losses while profits are privatized. While this may be true to a large extent, it is also a fact that the government was left with no option. Yes Bank fell in the category of too big to fail. Financial sector is special everywhere because it is prone to high negative externalities. Even one entity’s wrongdoings can cause damage to several others and damage the whole system almost in no time. Bigger the entity greater is the risk of contagion spreading and taking a heavier toll of the whole economy.

  One lesson that has not been learnt is the need to separate the ownership from control. Both Global Trust Bank, which went belly up in 2004, and Yes Bank were promoted by powerful leaders. And they ensured that their authority was never challenged. Capping the promoters’ stake is not enough. Nor is the fit and proper test of promoters which is done only before the grant of license by the RBI. It needs to be continuum and the RBI supervisors need to be alert always.

  Finally, there is also a moral hazard question in this type of bailing out. It leads to inefficient allocation of resources and misuse of tax payers money. It also additionally encourages irrational risk taking by aggressive lending because in the end if risks do not pay off, there will be a bail out for sure. Tighter, effective supervision by the regulator seems to be the only answer. Yes Bank board had some illustrious names. Why they chose to give a free hand to CEO even when things were not on track remains a mystery

till today.    

The author has four decades of experience in higher education teaching and research. He is the former first vice chancellor of ISBM University, Chhattisgarh.

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