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The Many Financial Regulators in India: Case For A Unified Financial Agency

Quantitative Research Professional
Oct 27, 2017 6:44 AM 4 min read

Seventy years of Independent India has naturally been through a plethora of reforms. The year 1991 was the inflection point, when a freshly paved foundation of liberalisation was laid. The financial sector, then characterized by soaring intermediation costs, low capital base, and lack of competition has unfortunately been a slow adopter of change. Its archaic standing is best illustrated by its regulatory framework.


Owing to a series of piecemeal decisions initially aimed at facilitating efficient price discovery and transparency, role of financial regulators in India orient towards a mix of entity and product-based view. For instance, the Reserve Bank of India (RBI) regulates banks, the Securities and Exchange Board of India (SEBI) supervises the markets, the Insurance Regulatory Development Authority of India (IRDAI) monitors insurance companies and retirement products like pensions are overseen by the Pension Fund Regulatory and Development Authority (PFRDA). All regulators of financial system in India have their own rules of registration, code of conduct, and pricing guidelines to monitor relevant product manufacturers and distributors. RBI, SEBI and IRDA have separate grievance redressal procedures channelized through Ombudsmen services.


As the financial sector continues to grow and evolve, the demarcation between banking, securities, and insurance have begun to blur with the emergence of financial conglomerates and new-age Fintech start-ups. With the presence of multiple regulators of banks and financial institutions, there is a unique two-fold problem of gaps and regulatory overlap in financial sector in India. On one hand, different financial sector regulators in India set rules for the same activity which leads to turf wars. The debate between IRDAI and PFRDA to regulate pension products offered by insurance companies is an example of how jurisdiction can be a malleable subject. On the other, there are activities which do not fall under the direct purview of any regulatory body, thereby exposing governance gaps. Chit-funds surface time and again, continuing to illustrate this lack of oversight and resulting vulnerability of small retail investors.


This also creates a stomping ground for arbitrage as there are activities in the financial sector in India that are either regulated by an agency not technically fit or too many financial regulatory authorities leading to no real accountability. For example, the Registrars of Cooperatives (RoC) is a joint Indian financial regulator with the RBI for cooperative banks. While RoC should play a more direct role in this area, it lacks the requisite expertise to govern deposit-taking institutions.


Another interesting problem that surfaces out of this granular framework is the bizarre administration of financial conglomerates, wherein the business activities of the firm are spread across various regulatory bodies. This not only leads to unnecessary duplication of effort both on the part of the firms and the regulatory bodies but also to a reduced ability to understand the overall risk. When there are overlaps, firms tend to “forum-shop” i.e. position their business towards the most lenient regulatory regime instead of communicating an accurate representation of their business model.


To battle these inconsistencies, the government should not only focus on bringing in reforms to facilitate more coordination between institutions, but also focus on consolidating “similar sector” activities under one supervisory umbrella. This has been the foundation of recommendations presented by The Financial Sector Legislative Reforms Commission (FSLRC) to the Finance Minister in 2013. The FSLRC proposed to merge the roles of SEBI, the Forward Markets Commission, IRDAI, and PFRDA into a single Indian financial regulator called the “Unified Financial Agency” (UFA). Viewed as an extremely progressive measure, the recommendations advocate for a unified regulatory system for all financial businesses, with only banking and payments to be regulated by the RBI.


Financial Regulatory Architecture Envisaged by the Commission


It is argued that such an approach will enable better utilisation of labour and cost synergies arising out of economies of scale. The structure promises more accountability and unification of resources to reduce duplicity of tasks.


The aftermath of the financial crisis in 2007-08 forced a shift in regulatory architecture across the world with some of the most progressive reforms endorsing a "twin peak" structure comprising of two regulators; one focused on micro-prudential regulation and the other on consumer protection. The United Kingdom which formerly had a unified regulator is now governed by such a regulatory structure consisting of the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA). A similar structure exists in Australia, wherein the Australian Prudential Regulation Authority (APRA) governs the financial institutions and the Australian Securities & Investments Commission (ASIC) governs corporate conduct.


Another popular model is characterized by the super regulator phenomenon also known as the umbrella approach. The United States follows this approach to monitor the financial system through the Financial Stability Oversight Council that acts as a consultative council to facilitate communication among financial regulators. 


In the Indian sub-context, as the linkage between banking, insurance, and securities magnifies, a synchronized move towards regulatory co-ordination instead of unified supervision is gaining momentum. Be it Dr. YV Reddy's address on "Issues in choosing between single and multiple regulators of financial system" or the recommendations tabled by the FSLRC, the balance of opinion favours the need for developing more elaborate channels to share information between existing Indian financial regulators by forming an apex body to regulate such an exchange. The establishment of the Financial Stability Development Council (FSDC), which replaced the High-Level Committee on Capital Markets is a clear move in this direction. The FSDC is structured as a council of regulators to resolve inter-agency disputes and regulate financial conglomerates that fall under various regulators’ purview. It aims at strengthening and institutionalizing the mechanism of financial stability and development by monitoring the macro-prudential supervision of the economy.


While it's too soon to assess the impact of FSDC, it must be remembered that simply over-empowering an apex body to regulate the financial sector is not enough. A strong foundation of transparency, structured channels of communication, and well-defined jurisdiction is the only way forward to position the sector well for the future.