Reserve Bank of India calls for demutualisation of co-operative banks

Large Indian co-operative banks may lose their co-operative identity after a Reserve Bank of India (RBI) panel recommended they were converted into regular commercial banks.

This would include banks that have a revenue of over Rs 200m. The panel, led by RBI deputy governor R Gandhi, argued this would enable urban co-operative banks to minimise systemic risks and continue to grow and promote financial inclusion. The conversion would require the amendment of the Multi-State Co-operative Societies Act. “As UCBs form an important vehicle for financial inclusion and facilitate payment and settlement, it may be appropriate to support their growth and proliferation further in the background of the differentiated bank model,” said the report. “However, the question remains whether unrestrained growth can be allowed, and – keeping in view the restricted ability of UCBs to raise capital, lack of level playing field in regulation and supervision and absence of a resolution mechanism at par with commercial banks – in what form this unrestrained growth should be allowed.”

Urban co-operative banks are regulated and supervised by both the state governments, through the Registrars of Co-operative Societies, and RBI. The conversion would not be compulsory and banks could continue to operate in the same way, said the panel. However, they would not be permitted to offer all products and services currently provided by commercial banks unless they convert and obtain commercial banking licences.

RBI’s report proposes that large urban co-operative banks be regulated under the Companies Act rather than under the Multi State Co-operative Societies Act. The Banking Regulation Act, which governs commercial banks, does not currently apply to co-operative banks. This means that RBI does not have the power to intervene in constituting boards of urban co-operative banks, removing directors, auditing them or liquidating them. It can intervene in all of these aspects in the case of commercial banks.

The report notes that the co-operative banking sector is growing and consolidating. Urban co-operative banks have gross non-performing assets of 5% and net non-performing assets of 3%. However, a stress test on liquidity risks carried out by RBI showed that more than half of the 50 urban co-operative banks being assessed would face liquidity problems. Their capital to risk-weighted assets ration has also declined from 12.7% in September 2014 to 12.6% in March 2015, according to the RBI report on the soundness of financial institutions.

Speaking at the 25th anniversary of the National Institute of Rural Banking, Mr Gandhi acknowledged the role played by co-operative banks in financial inclusion but said the banks were losing their co-operative nature. He argued that some large urban co-operative banks had become “too big to be a co-operative”. In his speech he referred to a study conducted by the College of Agricultural Banking, which showed some co-operative banks had low attendance levels in AGMs, restrictive practices in admitting new members and low voting turnout in management elections.

The RBI invited public comments on the panel’s report by 18 September.

Responding to the recommendations made by the RBI’s High Power Committee, the National Federation of Urban Cooperative Banks & Credit Societies said it opposed the proposals.

“The accumulated surplus of a co-operative is the culmination of efforts of members of the co-operative over the years and generations. Present members are bound by co-operative values and principles to pass it on to the next generation with some improvement. It is commonly known as intergenerational capital. Unlike in joint stock companies, the shares held by members of a co-operative do not have a concept of book value or market value as the reserves are not all distributable among members nor are the shares of co-operatives traded like shares of companies. Therefore, the envisaged introduction of provision to convert a multistate co-operative society into a joint stock company or any other form of business entity is unethical and anti-co-operative. It is antithesis of 97 Constitution Amendment that enjoins upon state through a directive principle to endeavor to promote co-operatives,” reads a statement issued by the body.

NAFCUB said it was ironic the High Power Committee Report began with a quote from Mahatma Gandhi, highlighting the virtues of co-operative principles, but ended up recommends conversion of co-operatives into profit seeking joint stock companies.

The organisation also strongly rejects the concept of a co-operative bank starting with a capital base comparable to that of a commercial bank.

“It is irrational that while Malegam Committee and earlier committees recommend Rs 50.00lacs to Rs5.00cr. as share capital depending upon the place, the corresponding own funds requirement for conversion of credit societies into urban cooperative banks as per High Power Committee recommendations is Rs100cr. to Rs25cr. Such a move will ensure that hardly any new urban co-operative banks are licensed in future.”

The sector had also rejected the concept of ‘board of management’ stating that existence of two power centres – a board of directors and a management board, with one being answerable to the general body and the other to the Regulator directly was an impractical proposition.

“It can clearly be seen that this is another way for RBI to deny new branches to the existing urban banks, as constitution of board of management is being made a precondition for getting permission to open branches. The recommendation that the majority of board should consist of representatives from depositors, without suggesting a way to do it makes the suggestion impractical and not acceptable,” reads the statement.