We need a unified financial regulator

The report of the Financial Sector Legislative Reforms Commission (FSLRC) has generated lots of comments and reactions. This article looks at the recommendations on the subject of regulatory governance, in general, and, regulator-government interface, in particular.

If acted upon, these can significantly impact overall governance in India and not merely in finance. The recommendations of the FSLRC are mainly contained in chapters 3, 4, 14 &16 of the report. The idea of an independent regulator is relatively new.

Modern regulators of this kind at a country level go back to the Inter-state Commerce Commission (ICC) of the US created in 1887. In India, though a law created the RBI in 1934, it was not designed to be an independent regulator.

The original RBI Act of 1934 was amended many times to convert a private commercial entity into a regulator. Post-independence, in 1953, the Forward Markets Commission (FMC) was created by a parliamentary law but in the mould of a traditional government department.

Therefore, it perhaps cannot be characterised as an independent regulator, though it was and is statutory.

The first really modern regulator in India is the SEBI, created by an executive order in 1988 and sanctified by a parliamentary law in 1992. Subsequently, India has created many regulators in the financial and other sectors, which have come up in many states.

Poor legal design

As a general proposition, it would be fair to say that the Indian experience with regulators is rather mixed. A few have been reasonably successful, but most have been less than optimal in their outcomes. One is of the opinion that much of this is on account of poor legislative design. The major recommendation of FSLRC in this area is that there should be a unified set of provisions on regulatory governance for all areas of finance.

The FSLRC has presented this unified set of provisions and made detailed recommendations on the structure of the regulatory agency, composition of its board, selection of board members, functioning of the board, resource allocation of the regulator, including powers to levy fees, principles of levying fees, and performance assessment and reporting.

Another chapter describes in detail what ought to be the functions and powers of the regulator. There is a good case for extending these principles to sectors beyond finance to all statutory regulators. The practical importance of these recommendations will be apparent if one looks at the actual practice in one just area of government-regulator interface — appointment of regulators.

Systemic problem

As a rule, most present legal provisions in this regard are vague and do not follow any standard principle. The many variations in the terms and processes of the appointments clearly point to a systemic problem.

For example, in the last decade or so, there have been governors of the RBI who were varyingly given a three-year term extended by three years, a single five-year term, and a three-year term extended by two years. There have been Deputy Governors who were given terms of over five years, exactly five years, three years, three+two years and two years and 3 months, extended by nine months!

A major part of the problem is the RBI Act, which prescribes no age limit for Deputy Governor or Governor, no process for appointment and no limits on terms.

Similar is the story with the Securities and Exchange Board of India (SEBI). One chairman was appointed for five years, and extended for another two years, when the law then provided for a three-year term. The term of another was not extended beyond three years when the law provided for a five-year term.

While recently whole time members (WTM) have been given five-year terms, the chairman was given only a three-year term. One WTM was appointed for three years, completed this, demitted office and was then given a fresh term, while the terms of two identically placed WTMs were not renewed.

If all this points to confusion and mindlessness, it also translates into the effective lack of operational autonomy for the regulators, given the uncertainty of tenure and the ability of the government to pick and choose individuals in the regulatory agency who are “fit” for extension and who are “not”.

Lack of autonomy

Contrast this with fixed terms prescribed in the Constitution for election commissioners and the CAG of India and the obvious consequences in terms of institutional effectiveness.

Likewise, there are board members of some regulatory agencies who have been on these boards for over a decade and some who have been given three years.

Boards of some regulatory agencies have no regulatory powers at all with regulatory functions, including the drafting of regulations being done entirely by the staff of the agency without any clearance of the board. In the case of some other agencies, board-level clearance is mandatory for issuing regulations.

Auditing a regulator

Orders passed by some regulatory agencies have no appeal/recourse of any kind. In the financial sector, all regulators are free from resource constraints, but some have been accused of charging excess fees as the law confers powers to levy fees without any guidance or principle.

The CAG of India mandatorily audits some financial sector regulatory agencies in accordance with their statute whereas firms of chartered accountants audit some regulators. Given the enormous powers of the regulators, it will be a brave chartered accountant who actually does a tough audit of a regulator.

It is these and many similar aspects of regulatory governance and accountability that need to be legislatively reformed in India.

The FSLRC recommendations directly address these and will go a long way in remedying this governance deficit in regulatory structure and design.

(The author is at present with the Government of Karnataka. The views are personal.)

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