Is better governance in banks on the anvil?

P Saravanan/Sumit Banerjee | Updated on June 18, 2020

The RBI’s recent proposals should help reinforce the governance mechanism of banks and ensure that they stay healthy

Structural changes, macroeconomic shifts, and global trends have drastically changed how banking business is being carried out in India over the last few years. Currently, however, , banks are operating under mounting non-performing assets (NPAs). One of the primary reasons cited for the high NPAs is the prevalence of poor corporate governance practices across the banking sector.

In this context, the RBI recently came out with a ‘Discussion Paper’ to help commercial banks raise the bar in terms of governance. Let us discuss certain key suggestions that the RBI has proposed and how they aim to reinforce the governance mechanism of commercial banks in the days to come.

Focus on culture and values: Banks are advised to create a culture which ensures that the work is carried on legally and ethically. Each and every employee needs to be sensitised about the desired work ethics of the bank.

These guidelines ask the top management to push for the desired level of conduct and insist that senior management lead by example in championing behaviour that meets all the criteria of doing business in the desired way, especially in the current times. Since banking business deals with public trust, preference is given to internalising the best of work ethics.

Avoid conflict of interest: The focus here is to manage conflicts of interests in banks. These may arise in dealings between banks, their subsidiaries, joint ventures, and other sister concerns. With banks metamorphosing into financial conglomerates with their insurance, mutual funds and asset management companies, the RBI’s insistence on managing conflict of interest is a welcome step.

Directors’ actions are to be brought under the review of the board to eliminate influencing of any decision where the directors’ personal interests are aligned. The guidelines advise the banks to create a ‘conflict of interest’ policy so that the directors are aware of what activities are desired and what are not, which is a welcome step.

Risk governance frameworks: Banks are asked to clearly communicate to their employees the risk appetite of the bank, and to instruct them to adhere to the norms. In addition, a clear demarcation is to be drawn between the business division, the control and compliance division, and the audit and vigilance division. Segregation of the employees in these three divisions is expected to help create checks and balances for the business transactions carried out.

Role of senior management team: Another major point discussed is the guidelines for senior management in the board. These guidelines emphasise that the senior management adheres to the values and risk appetite norms of the bank. Every bank should clearly outline the responsibilities of senior functionaries. The board is given full responsibility to hold members of the senior management accountable for their actions.

Globally, all the economies have been adversely impacted by Covid-19. With the series of lockdowns, the profitability and asset positions of banks are likely to deteriorate. In these turbulent times, strict adherence to best governance practices is needed to ensure banks stay healthy.

Saravanan is Professor and Banerjee is a doctoral candidate in finance & accounting, IIM Tiruchirappalli

Published on June 18, 2020

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