India’s financial system is shallow, promoting inequality. This financial system requires reform, increasing access for the under-banked and small and medium enterprises. We require stable policies from independent regulators that promote low inflation, greater financial access and more liquidity. Growth is catalysed by systemic depth.

Our financial regulators desire independence and institutional support. Today, work is allocated between the RBI, Sebi, IRDA, PFRDA, FMC, SAT, DICGC and FSDC, leaving significant gaps, agency overlap and the potential for regulatory capture. As proposed by the Financial Sector Legislative Reforms Commission, the RBI should focus on formulating monetary policy, along with enforcing consumer protection in the deposit banking and payment systems

Leaner Watchdogs

A Unified Financial Authority (UFA), akin to the FSA of Britain, could enforce consumer protection and micro-prudential regulation across the rest of the financial markets, with a Financial Redressal Agency (FRA) protecting consumers from financial fraud and a Financial Securities Appellate Tribunal (FSAT) hearing appeals against regulators. The Financial Stability and Development Council (FSDC) would continue to oversee systemic risk with statutory powers while a Resolution Corporation resolves systemic risk. Government debt could be managed by an appropriate Public Debt Management Agency (PDMA).

Rising inflation stings. Monetary policy must target inflation, providing stability and relief for all. The RBI should also buffer us from risks in the global financial system. Consumer price inflation could also be addressed by supply side measures and inflation linked financial products. Greater competition in the banking sector must be introduced.

Systemic Risks

Systemic bankruptcy due to bad loans is not unimaginable. Regulators must build institutional capacity to identity and mitigate systemic risks. With the rise of offshore rupee banking and p-notes, external threats to our system will have to be carefully monitored. A counter-cyclical capital buffer must be built up across institutions, with capital requirements changing against the grain. Loan criteria should be toughened, with greater acceptability for repossession, restructuring and bankruptcy. Formal coordination with other internal and multilateral agencies must be promoted.

India’s bond markets are anaemic. Comprising just 5.5% of the GDP, they lag behind every major Asian economy. Statutory liquidity ratios (SLR) make government bonds crowd out the market, leaving little for corporates, municipalities or infrastructure.

Interest rate liberalisation for financial institutions could be supported. Secondary bond markets must be encouraged through a gradual relaxation of SLR ratios and cash reserve requirements, diluting the hold-to-maturity bias inherent in public sector banks.

Active, liquid bond futures markets along with short-selling and bond trading by state banks will help improve systemic liquidity, creating a multiplier effect and lowering risk.

Financing The Poor

The poor are financial customers. They save a lot, and require services in deposits, remittances, payments, insurance schemes and credit, along with convenient inflation hedging liquid and safe deposit services. Access for the poor must be a primary duty for any retail bank.

Modernisation of the banking system, through innovation, competition and a policy agenda focused on reducing hidden transaction costs, improving accountability and customer identity through Aadhar, will increase access. Micro-insurance schemes, particularly in disaster, agriculture, health and life should be encouraged, with community group programs by NGOs such as the Dhan Foundation.

Micro-pension schemes, with small monthly payments between Rs 50 to Rs 200 could be expanded. Linkages between the banking system and the grain banks used in tribal areas and the Wadi programmes associated with land reclamation in Gujarat and Maharashtra should be built.

India’s financial system lies at a fork, and required many reforms. With an under-banked population, our savings are exposed to inflation or illiquid in gold and property. Infrastructure and companies lie in wait for financing through crowded bond markets. Limited financial access embeds inequality.

Financial regulation with greater liquidity, bond markets and better access, promoted by stable fiscal and monetary policies through independent regulators, will help promote economic development. For six decades, we have had anaemic growth of financial access, frozen bond markets and a fragment financial system. Our economy cannot afford this anymore.