RBI's Working Group Recommendations Cause A Flutter

by Vivek Ananth

On November 20, after trading hours, a Reserve Bank of India internal working group unveiled recommendations on a host of issues relating to licensing of banks. Market participants, industry experts, and former regulators read through the fine print with a tooth comb over the weekend. Since then, the potential repercussions of these recommendations have divided the industry and experts -  particularly the one allowing corporate houses to own banks.

The stock markets, however, seemed enthused. The Bank Nifty rose above 30,000 (last seen in February 2020) when trading started on Monday, and many PSU bank stocks were also on a tear. This is how the Nifty 50, Nifty Bank, and Nifty PSU Bank indices moved after the Working Group draft was made public.

Nifty50, Nifty Bank, Nifty PSU

The suggestions from the Working Group were largely well-received and pushed the needle in the right direction for the banking industry. However, the markets were enthused by three specific ones. The first was an increase in maximum promoter holding in private banks, allowing conversion of well-run large Non-Banking Financial Companies (NBFC) into universal banks. The second was allowing corporate or industrial houses to be promoters of a universal bank.

The third is the one that has led to criticism and consternation among many including a former RBI governor and deputy governor: allowing corporate or industrial houses to own banks.

Let us take a closer look at these. 

Are Corporate-Owned Banks Bad?

It is not as if India expressly disallows corporate houses from owning a universal bank. Even in RBI’s 2013 licensing norms for universal banks, there is no specific exclusion on corporate ownership. It is just that the RBI is careful about who it gives a universal bank license. In the past decade, only Bandhan Bank and IDFC Bank (now IDFC First Bank) received such licenses.

The point of concern is the moral hazard of letting bank borrowers - corporate houses that use bank funds to run their businesses - own a bank. There have been many corporate defaults over the past several years. At the end of 2019-20, 13% of all corporate loans were classified as non-performing assets. Although this is down from 18% at the end of FY18, S&P Global still says that allowing corporate houses to own universal banks is fraught with risks.

The problem with corporate-owned banks is the risk of lending to connected group entities. The RBI has not yet figured out how to use its regulatory powers to deal with the problem of connected lending. In the case of Yes Bank, which went bust and was rescued by a group of banks led by PSU banks, there are still investigations on loans being given to undeserving business owners. Considering the size of India’s NPA problem, the skepticism might be justified.

The recommendation could also allow the government to sell its stake in some PSU banks. This could help it lower the burden of providing capital infusion regularly. In the last five years, the government has provided funds of Rs 3.5 lakh crore to PSU banks to meet their regulatory capital requirements.

One reason the RBI Working Group has mooted corporate-owned banks is that this could pave the way for corporate groups with well-run NBFCs, to enter the sector.

Turning NBFCs Into Universal Banks

We could argue that this recommendation is just old wine in a new bottle. NBFCs are already allowed to apply for universal bank licenses. The working group recommends this for well-run NBFCs, that have been in operation for 10 years, and have an asset size of over Rs 50,000 crore

Many corporate and industrial houses already have an NBFC in their group like Bajaj Group (Bajaj Finance), Mahindra Group with (Mahindra & Mahindra Financial Services), L&T Group (L&T Finance Holdings), and Murugappa Group (Cholamandalam Investment & Finance). The street expects their NBFC arms to be the beneficiary of the recommendation to allow “well-run” NBFCs to convert into banks.

HDFC Securities Institutional Research feels the corporate group most likely to get a unified banking license is the Bajaj Group. As if to underline this point, Bajaj Finance’s stock topped its lifetime high on Friday. Going by the response of the company’s Chairman Sanjiv Bajaj, it looks like it is in pole position to become a bank if the working group’s recommendations are implemented.

Relaxation of Promoter Holding Norms

Another major recommendation of the working group is to increase the minimum promoter holding in banks to 26% from 15% of the paid-up voting capital. At the moment, promoters of banks have to reduce their stake in banks to 40% within 5 years of starting operations, to 20% within 10 years, and 15% within 15 years. The working group suggests that this intermediate target should be done away with.

The raising of the limit for promoter’s minimum shareholding probably stems from the RBI’s tussle with Uday Kotak (promoter of Kotak Mahindra Bank) which eventually led to a dispute in the courts. If implemented, this suggestion bodes well for promoter-driven banks Indusind Bank and DCB Bank, according to a note by Axis Securities. The promoters of these banks can infuse more funds and raise their shareholding without worrying about falling foul with the RBI’s current limits on promoter shareholding.

Prabhudas Lilladhar released a Sector Update report for Banks on 07 Jul, 2025.
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