Who Killed India’s Public Sector Bank Balance Sheets?

Public sector bank balance sheets are a mess. Laden with bad loans. Under provisioned. Inadequately capitalised. And now, in one case, a near $2-billion fraud. But it seems no one is accountable. Not the management. Not the board. Not the promoter. And not the regulator.

The nearly $2-billion fraud at Punjab National Bank is a case in point.

The fraud was allegedly perpetrated over a period of seven years. Over this period, the bank has seen three chiefs. KR Kamath was the chairman between 2009 and October 2014. The position lay vacant for about 10 months. Usha Ananthasubramanian took over as CEO in August 2015 and stayed till May 2017. She was moved abruptly and then the current chief Sunil Mehta took over. So over the seven-year period, when the fraud was apparently unfolding, the bank had three chiefs. The top management is expected to ensure that operational risk is kept at bay, various lines of audit are tough enough to catch any discrepancies. Essentially ensure the bank is well run.

It wasn't. So, where does the buck stop? With one chief or with all three?

Also Read: The Nirav Modi Case: How The $1.8 Billion Fraud Detected At PNB Unfolded

Let's move to the board. Like most public sector banks, PNB has one Government of India nominee on its board, one Reserve Bank of India nominee, three shareholder directors and one director in chartered accountant category. A bit of background on public sector bank boards. Governed by the Banking Companies Act, board members of public sector banks are picked under eight sub-categories:

• Whole-time directors (chairman, CEO and executive directors)
• Central Government official directors
• RBI directors
• Workmen employee directors
• Officer employee directors
• Chartered accountant directors
• Central government nominee directors
• Elected shareholder directors

The prescriptive nature of board appointments often means that filing board positions is more a matter of ticking the boxes rather than putting in place the best possible board. The PJ Nayak committee had recommended changing the structure of PSU bank boards to ensure better governance way back in 2014. “The legislatively mandated structural approach to board nominations is not helpful,” the committee had said. But nothing changed.

Irrespective, why shouldn't the board of PNB be held accountable too? Did the board raise a red flag about SWIFT systems not being linked to core banking? Were they presented with nostro account reconciliation statements? Were they aware that the bank was not following mandated employee transfer policies strictly?

Next come the supervisors. Those who conducted concurrent audits and failed to catch the discrepancies between SWIFT messages and core banking. And failed to notice transactions in the nostro accounts, which didn't tally with the number of LoUs officially generated. These supervisors must take a large share of the blame too.

As should the RBI's supervisory department. The banking regulator does both on-site inspections and off-site monitoring. Did it see nothing amiss? At a systemic level, if it was concerned about the safety about SWIFT messaging, why did it not instruct (rather than recommend) that banks must link it to core banking sooner?

Finally and most importantly, the government—the majority owner of the bank— must take a large chunk of the blame. Would you not hold promoters of a private company responsible for a fraud at their firm? Why should the government be treated any differently? The government spent the early years of its term conducting so-called ‘Gyan Sangams' to reform the banking sector. Why did it not follow through on banking sector reforms? We don't mean privatisation here. We mean governance reforms, board reforms, HR reforms. Did it not realise that operational risk at these banks can only be tackled through such measures?

It's Not Just PNB...

Someone may argue that the fraud at PNB is an outlier. A case where systems failed at every level.

But was it? Consider the other problem that the banking sector is facing. That of bad loans. The problem exists across public and private banks and hardly any bank can claim to have remained untouched by the bad loan cycle. But you only need to glance at the bad loan ratios across banks to realise that the problem is more acute in the case of public sector banks.

Again as bad loan ratios surged, all stakeholders were busy pointing fingers at each other.

The current management was pointing the finger at previous managements. The previous managements were pointing a finger at the government. The government was pointing a finger at the regulator and at the previous government. The previous government was pointing a finger the fallout of the global financial crisis. You get the point.

Once again, the blame lies with everyone on that list. The bank managements who choose to toe the government's line and lend heavily to infrastructure. The boards that didn't question the basis of such lending. The previous government that allowed policy risk to derail parts of the economy. The new government (then in the opposition) who didn't raise a stink then if they saw a problem. And the regulator that allowed the ever-greening to continue.

But it looks like no one is wiling to accept their share of the blame. Not for asset quality issues that plague the sector. And not for the recent fraud at PNB.

So should we just say: no one killed India's public sector bank balance sheets?

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