Imprudent Financial Resolution

By March 2017, the gross non-performing assets (GNPAs) of scheduled commercial banks (SCBs) taken together stood at around ₹8 trillion, up from ₹2.6 trillion in March 2014. This is despite the generous bad-loan write-offs worth ₹2.4 trillion over the last three financial years. The finance ministry claims that the Insolvency and Bankruptcy Code enacted in May 2016 to expedite the recovery of stressed assets and the proposed Financial Resolution and Deposit Insurance (FRDI) Bill, 2017 to pre-empt any banking or financial institution failures will help resolve the bad loans problem. 

The FRDI Bill proposes to set up a powerful financial resolution authority—a “Resolution Corporation”—to resolve failures of service providers across the financial spectrum. This is distinct from the Insolvency and Bankruptcy Board of India (IBBI), which was set up to recover private corporate sector debt that had long surpassed the tolerable threshold, and was having severe spillover effects on both credit demand and supply at the macroeconomic level. The proposed financial resolution regime attempts to pre-empt any outbreak of a banking or financial crisis by putting in place a new regulatory framework that will ensure the orderly exit of failing financial firms and insulate the larger financial system from possible contagion. There are several reasons, though, as to why the new financial resolution regime proposed in the FRDI Bill may create more problems than it can solve.