Healthy interest margins and lower impairments boosted profitability with return on assets (RoA) and return on equity (RoE) reaching decadal high of 1.2% and 12.9%, respectively. In this larger context, it appears unlikely for the government to announce any major bank privatization in this budget, let alone complete some of the expected ones.

On regulations, last year’s Budget Speech had suggested that financial sector regulators will be requested to carry out a comprehensive review of existing regulations considering suggestions from public and regulated entities. Over the last year, the RBI released multiple draft regulations for public comments and proactively engaged with stakeholders. However, in some critical instances, regulations have been issued without any formal consultation. This created avoidable uncertainty for many stakeholders

Take for instance RBI’s instruction dated December 19, 2023, to its regulated entities including banks and NBFCs to curb evergreening through Alternative Investment Funds (AIFs). The RBI prohibited these lenders from investing in an AIF which has direct or indirect downstream investments in a company in which such lender has a loan or investment exposure.

The instruction also stipulated that lenders who have violated this norm must liquidate their investments in such AIF within 30 days or make 100% provision for the same. Such an important instruction was not put through the public comment phase. Consequently, it took all stakeholders by surprise, especially on account of the immediate reversal requirement, which is quite unprecedented. Such regulatory environment creates uncertainty for all stakeholders.

To make the regulatory regime more stable and predictable, the Budget should consider announcing an administrative procedures statute along the lines of the US Administrative Procedures Act that would be legally binding on all financial regulators. That would provide a tangible and lasting solution to this problem.

On stressed assets, the IBC remains the dominant mode of recovery with a share of 43% in total amount recovered in 2022-23 and the recovery rate has also improved to 23.9%. Yet there remains room for improvement. If the Finance Ministry mandarins are considering announcing reforms in this space through the Budget, they should take inspiration from the RBI Governor’s insightful recent speech on the subject. Governor Das highlighted four aspects in this regard.

First, the dynamics between the creditors and corporate debtors need to be realigned through a nuanced use of the debtor-in-possession model such as in pre-packs. This will help avoid unnecessary adversarial litigation.

Second, the role of financial creditors should be reaffirmed. As Governor Das highlighted, financial creditors take maximum risk and therefore, need to be commensurately compensated. Their priority in the statutory waterfall should be left undisturbed.

Third, a workable framework for group insolvencies needs to be put in place. The appropriate principles should be given statutory status.

Finally, the IBC is a crucial pillar for a vibrant secondary market for stressed assets. But for this market to take off, the pool of prospective resolution applicants needs to widen. In this regard, the introduction of the Special Situation Funds (SSFs) by SEBI has been a promising start. Going forward, policymakers need to make the regulatory regime on SSFs more attractive for stressed asset investors.

Overall, the upcoming Budget being a vote on account is likely to be focused on government expenditure. Announcements on major bank privatization or banking reforms appear unlikely. This may be an important occasion though to signal future reforms to help bring stability in the financial regulatory regime and further develop the stressed assets market.

This article was originally published in Business Today on 30 January 2024 Co-written by: Veena Sivaramakrishnan, Partner; Pratik Datta, Associate Director – Research. Click here for original article

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