RBI ANNUAL POLICY FOR 2007-08 SUGGESTIONS FROM NAFCUB FOR URBAN COOPERATIVE BANKING SECTOR (Urban Co-operative Banks)

Annual Policy of 2006-07 and the half yearly, quarterly reviews touched upon the following areas in respect of urban cooperatives.

• Widening of scope of TAFCUBs to cover scheduled urban cooperative banks registered in the State concerned and set up a similar forum for regulatory co-ordination in respect of scheduled urban cooperative banks registered under the Multi State Cooperative Societies Act.

•  Modifying guidelines for valuation of securities transferred from AFS to HTM category.

• Setting up of Working Group to explore avenues for augmenting the capital of urban cooperative banks.

• Permitting well-managed scheduled & non-scheduled urban banks to open select offsite/onsite ATMs, based on recommendations of TAFCUBs.

• Incentivising consolidation process by allowing the taking over banks to spread the losses over a period of 5 years and also permitting relocation of branches within the area of operation after merger.

• Setting up of sub-committee of TAFCUB to review progress made by liquidator in settlement of claims, recovery of dues and repayment to DICGC and other creditors, including depositors.

• Permitting urban banks in MoU signed states and those under Multi State Act to convert existing extension counters to full-fledged branches under certain conditions.

• Placing model Fair Practices Code for lenders before TAFCUBs for adoption in respective States.

1. Modifications in the Vision Document
The years 2005-06 and 2006-07 saw some significant steps taken by RBI in providing direction and stability to the urban cooperative banking sector. The road map for the sector was based upon the two broad points that emerged from discussions of RBI with the sector i.e. consultative process and differential prudential regulations for banks of different size and geographical spread. The urban cooperative banks were categorized in Tier-I & Tier-II, broadly on the basis of deposits and certain geographical spread.

There are, as on 31st March, 2006, 220 urban banks with deposits of over Rs.100 crores. Balance 1630 banks have deposits of Rs.100 crores & less. Less than 1200 banks are categorized as Tier-I banks. This means around 430 urban banks have deposits of less than Rs.100 crores but have branches in more than one district.

These banks were categorized as Tier-II banks on the assumption that being spread out more than the single district banks, they are exposed to greater contagion risks and for the safety of the system, they should be subject to normal prudential norms.

Out of the 430 of these banks, there would be very few which are spread out in more than 2 or 3 districts. A majority of them have one or two branches in a town nearest to its district/taluka in the adjacent district. Such banks pose no greater risk to the system than the single district banks. It would be unfair not to extend the same relaxed prudential norms that are available to the Tier-I banks.

RBI may kindly include in forthcoming policy an announcement to modify the tiering system of urban cooperative banks. Tier-I may include all urban cooperative banks with deposits of Rs.100 crores or less that have branches in one district and those which have not more than 3 branches in one of the adjacent districts.

All other banks may be included under Tier-II category.

Generally, the Tier-I banks (< Rs.100 cr. deposits) open branche(s) in a town in the adjacent district purely on account of its proximity and members being from that town or taluka in that adjacent district. For all practical purposes, they are Tier-I banks. It is therefore felt that subjecting such banks to more stringent regulations of Tier-II banks would hurt such banks. Therefore, above proposal is reasonable and may be implemented for healthy and orderly growth of urban cooperative banks in that region.

2. On-site ATMs
At present Approval of onsite/offsite ATMs of urban cooperative banks are to be recommended by TAFCUBs. Onsite ATMs are essentially part of a branch. The cost of establishing onsite ATMs is also coming down. All well managed banks should be permitted to open onsite ATMs without recommendations of TAFCUB and without prior approval of RBI. An onsite ATM only facilitates cash withdrawals at any time and this the banks should be able to decide on their own. Offsite ATMs, could however be permitted on recommendations of the TAFCUB for non-scheduled banks. In case of well managed scheduled urban banks, they may be allowed to open offsite ATMs on their own, only with prior intimation to RBI, as is the case with other scheduled banks.

3. Policy for larger network of grassroots level financial intermediaries like urban cooperative banks and resumption of licenses for organizing new urban cooperative banks

a) An IMF study has revealed that larger share of cooperative banks in a financial system lends to greater stability than otherwise.

b) The higher the number and percentage of such clients that are small, self-employed, lower income salary earners, in an economy, the higher is the requirement of banking institutions that are tailored to serve them better.

Taking the above two factors into account and looking at the woefully inadequate number of urban cooperative banks existing in the Country, as compared to the community based localized institutions in the US and EU countries, or for that matter in many of the emerging economies, there is a need to put in place policy that would encourage formation of new urban banks on sound footing. The policy should also permit a select number of multi state banks that fulfill certain required criterion to spread in other states in order to encourage formation of local urban banks there.

It is over 5 years, since the RBI stopped issuing permission for the formation and licensing of any new urban cooperative bank.

• The existing geographical imbalance continues in respect of urban cooperative banks.

• Concentration of urban cooperative banks are presently in states that are already well banked. However, even in these states, some districts are very thinly banked.

• States which presently are not well served by urban cooperative banks are having high percentage of financially excluded population.

• There is a case for encouraging formation of new urban cooperative banks and for existing banks to open branches in such areas to facilitate financial inclusion.

It is submitted that the Annual Policy make an announcement to the effect that steps would be taken to address the issue of geographical imbalance of urban banking sector by giving permission for formation of new banks on selective basis and for expansion of large well managed existing multi state urban cooperative banks. Modalities of execution of the announcement could be discussed in the Standing Advisory Committee.

4. Widening the scope of functioning of TAFCUBS
A small beginning was made to extend the scope of TAFCUBs to Gr. I & Gr.II banks, by authorizing them to approve the proposals of banks for offsite and on-site ATMs.

i) TAFCUBs in many states which have limited number of banks, may not have much work to do once the issues of the Gr.III & Gr. IV banks there are addressed. In such states, there is scope for developmental aspects of urban banks to be addressed.

It is proposed that terms of reference of TAFCUBs be extended to review the status of urban banks and to study the scope of growth in their respective States. After their recommendations are accepted by RBI, the same may be implemented, with progress being reviewed by TAFCUB at regular intervals. This would ensure orderly growth of the sector in all those states where there are very few urban banks and also in those districts which are not well served by urban cooperative banks of States like Gujarat, Maharashtra & Karnataka.

ii) The inspection reports of RBI in respect of Gr.I and Gr.II banks generally touch upon the potential weak areas of these banks. In order for such of those banks which require closer monitoring so that they are prevented from slipping to Gr.III categories, it is suggested that TAFCUBs be provided with brief notes on the working highlighting potential weak areas, as per Inspection Reports. TAFCUBs could take up those banks for recommending preventive corrections etc.

5. Differential Prudential Norms
60% of loans of urban cooperative banks are to priority sector and 25% of them to weaker sections. A large segment of urban cooperative banks' clients operate in districts & small towns where economies are impacted by the fortunes of agriculture in that area. The banks are therefore exposed to higher risks. Even in cities, most of the urban cooperative banks' clients are from the bottom rung of the economic ladder.

There is a strong case to acknowledge that institutions that have a large percentage of their loan portfolio consisting of clients that naturally come with higher 'risk' but nevertheless have been financed and serviced, the entire system of prudential norms to be recast separately for them.

While formulating income recognition, asset classification and provisioning norms for such institutions, the nature of client base has to be considered.

Relaxed norms for Tier-I banks were thought of for this reason alone. But they were given for a specific period. The nature of clients would not change in 3 years nor will the banks be in a position to make provisioning to the extent required, if the normal prudential norms are applied to their loans. It would take quite some time for the banks (most of which are small) to be in a position to do so.

The relaxed norms for Tier-I banks should, therefore, be continued on an ongoing basis till they are reviewed and a decision taken on the strength of the Tier-I banks at a later date.