RBI needs to consider changes quickly

Article number 42, Words 600

The recent banking scams has raised concerns on the regulatory framework. A discussion paper by RBI (June 2020) on “Governance in Commercial Banks in India.” shows some hope

The paper begins with a comprehensive statement of the responsibilities of the board of directors of a bank. These include basic functions such as the appointment of whole-time directors, the CEO and other senior management, monitoring their performance, determining their compensation and planning for succession.

There are two ideas in the paper that break fresh ground.

One is the idea of a term limit for CEOs and whole-time directors. The paper suggests that promoter-CEOs and whole-time directors have a term of 10 years. A management professional who is not a promoter may have a term of 15 years. Those who have completed 10 or 15 years at the time of the guidelines that will follow will be given two years in which to plan an orderly succession.

The proposal has evoked much debate. Many contend that it is for boards to decide the term of CEOs and whole-time directors, based on performance. Now, long tenures are not an issue at PSBs. The problem is quite the opposite—CEOs are around for too short a period to make an effective contribution. At private banks, however, tenures can be very long. For instance, the CEO of the largest private bank in India, who is due to depart, will have been at the helm for over a quarter of a century.

It makes little sense to say that the tenure of the CEO should be left to boards. It is the promoter who would have appointed all the other directors on the board. So, it is virtually impossible for a board to dislodge a promoter-CEO. Even dislodging a professional CEO is not easy, given the dynamics of private sector boards. Although nomination committees comprising independent directors appoint other independent directors, the CEO tends to have an important say in their selection and the overall composition of the board.

Unless a CEO’s performance is disastrous or some other crisis has ensued, boards find it difficult to get CEOs to leave.

The second key idea in the paper is insu­lating key management functionaries—Chief Risk Officer (CRO), Chief Com­­pliance Officer (CCO), Head of Internal Audit (HIA) and Chief of Internal Vigilance (CIV)—from the CEO. The Risk Management Committee of the board will have authority over the CRO and CCO. The Audit Committee will have authority over the HIA and CIV.

The RBI would like the selection, oversight, appraisal and removal of these four functionaries to vest with the respective committees of the board. Another key functionary, the company secretary, will report to the chairman of the board and his performance will be assessed by the nomination and remuneration committee of the board.

These proposals mean a considerable dilution in the office of the CEO of a bank. At last four senior persons in the bank would be functioning almost independently of the CEO. They also involve a considerable addition to the responsibilities of the board. The board will be assuming significant operational respon­sibilities in respect of four senior management functionaries.

How desirable are these changes? The RBI clearly thinks that these four key functions at a bank need to be distanced from the CEO if they are to be performed effectively. The CEO drives business. The CRO must ensure that the attendant risks are manageable. The CCO must ensure that the pursuit of business opportunities does not entail breach of laws and regulations and so on.

There is merit in the proposals. However, giving the CEO no role at all in respect of the four persons may not be the answer. The CEO cannot have the sense of being in charge when he has no authority over four senior management persons. The CEO-dominated board is indeed a serious problem. But the answer is not reducing the CEO to a cipher.

The RBI’s proposals need some modifica­tion. Let the CEO make recommendations on the appointment and appraisal of these four persons. The board would have the authority to approve the CEO’s recommendations. The removal of the four functionaries, however, should be the prerogative of the board.

The paper seems to go a little overboard in its effort to distance the CEO from risk management. It suggests, for instance, that the Risk Management Committee (RMC) of the board should have only non-executive directors. The CEO has an overall view of risks at a bank and so do other board-level full-time directors. In managing risk, independent directors on the RMC should not be deprived of the inputs of the bank’s top management.

The paper is silent on remuneration of board members. If banks are to attract people with the necessary skills and commitment, they need to be suitably compensated. It is unrealistic to expect that competent persons would want to shoulder the enormous responsibilities that go with directorship on a bank at the compensation that PSBs now offer. The RBI must specify a minimum compensation for independent directors and the chairman of a bank.

The discussion paper has certainly thrown up radical ideas. The RBI might want to look at some offbeat ideas in other places. The report of the Parliamentary Commission on Banking Standards in the United Kingdom (2013), for instance, threw up several bold ideas that the RBI might consider the following:

(i) The responsibilities of senior management persons may be spelt out in detail so that they can be held responsible for failures.

(ii) Banks above a certain size should be required to advertise the position of independent directors.

(iii) A senior independent director must review the performance of the chairman and explain it to the regulator.

(iv) Require banks to disclose in the annual report the range of measures used to determine executive remuneration.

Governance at banks needs a radical shake-up and this is quite independent of bank ownership. The RBI’s willingness to go beyond the limited framework in which governance reforms have taken place so far is refreshing and welcome



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