Tag Archives: RBI

The DIPP and Indian FDI policy – The long road to clarity

24 Jul

This post was first published by Bar and Bench on July 23, 2013. The original article can be accessed here.

 

Recently, the Department of Industrial Policy and Promotion (DIPP) prescribed a comprehensive format allowing investors and businesses to seek formal clarifications in connection with the Indian FDI policy regime. For the vast Indian legal community having an M&A, PE or a general corporate practice, the introduction of such a format is a half-hearted respite. Respite, because they need no longer content themselves with informal clarifications obtained through the interactive DIPP website. Half-hearted, because the format requires the querist to make ample disclosures, including the identity of the foreign investor, the Indian investee and details of the transaction.

Prima facie, the introduction of this format may seem to be just another procedural requirement mandated by the DIPP. However, at a more fundamental level, this format is perhaps the first step towards an organized system, which enables stakeholders and legal advisors to seek formal clarity in the Indian legal regime governing foreign investments. This post analyses how this format replaces a hitherto informal interface between stakeholders, corporate law firms and this policymaker, and argues for the establishment of a robust and institutionalized platform for an efficient lawyer-policymaker interface in this realm.

So, in a practice area equipped with veteran lawyers and experts, why is the need for a formal lawyer-policymaker interface so pressing? The answer to this question can be largely attributed to the trial and error approach adopted by the Indian Government towards foreign investment policymaking. In the backdrop of a constant tug of war between liberalization and protectionism, this regime has witnessed numerous policy flip-flops (case in point being the withdrawal of the policy decision on FDI in multi-brand retail within a month of its introduction in 2011); opposite stands taken by the policymaker and the regulator with respect to the same issue (such as the DIPP-RBI tiff on eligibility of instruments with built-in options for the purposes of FDI) and interpretation-disputes. Moreover, since policies in this field are frequently made without systematic interaction with stakeholders and are not generally preceded by statements of purpose, lawyers are often compelled to hazard a guess of the policymaker’s intent. Whilst FDI policy announcements initially comprised of multiple press notes issued at different times by the DIPP and the RBI, the regime has only recently matured to a point where all policy announcements are compiled in two comprehensive annual circulars issued by the DIPP and the RBI respectively. Sector-specific regulations and multiplicity of regulators (such as the IRDA which is in charge of FDI-policy making in the insurance sector, or SEBI which is in charge of some aspects of FDI policymaking for FIIs) further complicate the regime. Lawyers practicing foreign investment laws have had to navigate their way through these multiple circulars, potential policy U-turns, policymaker-regulator tiffs, and sector-specific regulatory guidelines on foreign investment to ensure that transaction structures are kosher.

In the milieu of a scattered legal and regulatory framework, what mechanisms are available to legal advisors for obtaining clarity on unclear issues in this multi-faceted regime? Common methods adopted by lawyers seeking clarity in this area are the interactive bulletin board and chat service introduced by the DIPP on its website in 2003. Stakeholders and legal advisors regularly post specific queries on the bulletin board to obtain answers within an average response time of 36 business hours. The interactive chat service functional on the DIPP website also allows public access to a DIPP official during office hours. These interactive features on the DIPP website have previously clarified substantive policy issues. For instance, in 2009, DIPP clarified a fundamental issue regarding the lock-in period on FDI in real estate through its informal bulletin board service, long before such clarification was finally crystallized in formal policy announcements. It is also not uncommon for legal advisors and stakeholders to schedule meetings with DIPP officials and obtain oral clarifications on their queries.

Whilst these are convenient methods of interacting with the policymaker and ingenious in their own right, the question regarding the sanctity of informal clarifications issued by the DIPP has always remained open. Can the DIPP reverse its position on views conveyed through the website or during meetings with DIPP officials? The answer is yes, this has been done in the past. Can a complex structure be effectively explained through the interactive guidance section of the DIPP website? Does everyone have the benefit of equal access to the regulator or the policymaker for seeking clarifications? The answer to both these questions is no, which begs the next question – Is there is a way to strengthen the clarity-seeking mechanism in the Indian foreign investment policy and regulatory framework?

The DIPP would do well by taking cue from the SEBI-implemented Informal Guidance Scheme, an institutional mechanism for those seeking clarity in the legal regime for the Indian securities markets. This Scheme allows market participants (including companies intending to get listed) to apply for interpretive or no-action letters from SEBI, sets a timeline within which SEBI may respond, provides for a hearing to the applicant before issuing a clarification, provides for publicizing clarifications issued to the applicant, etc. Although the clarifications and no-action letters issued by SEBI under the Informal Guidance Scheme apply only to the original applicant seeking it, their availability on a public platform has largely benefitted stakeholders in the past. For instance, under this scheme, SEBI has clarified substantive issues such as eligibility criteria for FII registration as also several interpretation issues under the Takeover Code. The Scheme, thus, puts in place a formal, transparent platform for interface, which strengthens the regime by bringing about greater clarity and consequent predictability.

The DIPP has, in the past, made laudable efforts (such as InvestIndia) for facilitating easier interface between stakeholders and itself in this sphere. Having said that, a regime that has witnessed multiple policy U-turns, inconsistencies and interpretation issues warrants an effective clarity-seeking mechanism. In the absence of such a mechanism, lawyers and stakeholders will continue to have to rely on oral or informal clarifications, chance meetings and casual relationships with the regulator or the policymaker for addressing their queries.

A scheme on the lines of the Informal Guidance Scheme introduced by SEBI would go a long way in plugging this lacuna. Of course, the efficiency of such a scheme would depend on the support of all the regulators concerned, the idea being that the scheme operates as a single window for those seeking clarifications on any aspect of the foreign investment policy or regulatory framework in India. Thus, for instance, a potential investor seeking to invest or an Indian promoter seeking foreign investment, in an insurance venture will not require to run from the DIPP to the IRDA seeking clarifications on an unclear aspect of the FDI policy on the insurance sector. With the assistance of an Informal Guidance-like scheme, he will be able to procure, in a time bound manner, formal clarity from the DIPP, IRDA and the RBI on all unresolved queries.

In addition to lending certainty and clarity to a regime widely perceived as complex and unpredictable, the scheme will facilitate equal access to the regulator and the policymaker for all. In the meantime, whilst the format recently introduced by the DIPP is a remarkable development in this space, it is only a small step on the long road to an efficient, resourceful and systematic clarity-seeking mechanism.

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Can’t bank on it

4 Jun

This article was co-authored by me, and appeared in the Indian Express on June 4, 2013. The original may be found here.

According to a recent press release by the Reserve Bank of India, its board met in early May. This was the first board meeting after the Cobrapost exposé, revealing widespread failure by banks in adhering to the RBI’s Know Your Customer (KYC) regulations. What did the RBI board discuss and what decisions did it take?

The first set of Cobrapost exposés happened on March 14, implicating three banks. On April 6, a second set of news stories exposed more banks. The exposés revealed widespread failure by banks in enforcing KYC regulations.

When the RBI central board met in Srinagar on May 9, one would have expected the board to take some decisions to look into the issue of KYC regulations. At the very least, the board might have asked for a report on the enforcement of KYC regulations, or a review of the audits carried out on banks by the regulator. Alternatively, the management of RBI would have informed the board of the steps to be taken to review the working of the KYC regulations. The board might have highlighted the need for better regulatory oversight.

The press release says that the board, however, took “four major decisions”: one, banks are to enhance the Credit Deposit Ratio (CDR) in the state from 36 per cent to 40 per cent by March 31, 2014. Two, the state government should legislate the SARFAESI (Securitisation and Reconstruction of Financial Assets and Enforcement of Securities) Act in the state. Three, the state government and banks are to take up electronic benefit transfer on a pilot basis. Four, banks are to have an active role in skill development for horticulture and other social activities in the state.

There are two important things to note. First, the RBI board did not express a view on the KYC regulations. Second, none of its decisions were about banking regulations or what the regulator may do. All its decisions were about about what the state government and banks will do.

The first decision related to commercial banks is not about risk, safety, or regulatory compliance. Giving more credit to increase the CDR is a commercial decision of a bank. The second decision is an instruction/ suggestion to elected legislatures of the state. While the RBI may assist the legislature on making the laws, it is not within the powers of the RBI board to decide that “The state government [has] to legislate the SARFAESI Act in the state”. Similarly, the decision of the RBI board that the J&K government take up a pilot project or that banks engage in skill development in horticulture are not decisions that the board of a financial regulatory authority should be taking.

None of the four major decisions of the RBI board had anything to do with its regulatory failure. There was no attempt at reviewing why the failure took place. There was no attempt to say what the RBI would do to prevent such failure.

The key function of the board of a regulator is to make regulations, to review the effects of the regulations, enforcement, performance review and cost benefit analysis. The board of any corporate body is created to maintain oversight of the functioning of the corporate body. For example, a company’s board reviews the functioning of the company, orders investigation into serious issues and gives direction to the company. The decisions of the board are actionable orders to the management of the company. For regulators, the main functioning is making regulations. The board of the regulator must exercise control, oversight and review the functioning of the regulator. Many regulatory boards develop modern corporate governance systems like risk committees and audit committees to discharge their duties.

In addition, boards of regulators have a responsibility to the public at large. Companies use funds of shareholders, and therefore, the board’s responsibility is limited to shareholders. For regulators, the entire public is the shareholder of the regulator. The board must also publicly demonstrate that it is discharging its statutory duties. Only issues that are decided to be sensitive may be closed to the public. To complete the cycle of accountability, it is important for the public to be aware of the outcomes of the decision of the board. A review of whether a regulation the board approved was enforced properly, and whether it achieved the purpose for which it was written, must be made public.

The Indian Financial Code, drafted by the Financial Sector Legislative Reforms Commission, addresses some of these issues. It incorporates modern-day developments in governance and oversight mechanisms for public institutions. The code requires every regulation to be approved by the board of the regulator through a resolution. Unlike the present system, the only regulatory instruments the regulator is allowed to issue are regulations. Today, the RBI issues regulations, circulars and master circulars that are not required to be approved by the board.

In contrast, at the RBI board meeting in Srinagar, the issue of the Cobrapost exposé and KYC was not even discussed. No review of the KYC regulations was done. No decision was taken about KYC. The board’s major decisions were ones that the RBI cannot implement. It is not even clear that the RBI board has the constitutional authority to decide what the J&K legislature will legislate, or even whether it can decide if banks should have a role in social activities in the state.

Though the IFC lays down in detail the role and functioning of the board of regulators, it is not necessary for the RBI to wait for adopting these good practices. The current RBI Act, Section 7 (2), says: “Subject to any such directions, the general superintendence and direction of the affairs and business of the bank shall be entrusted to a central board of directors which may exercise all powers and do all acts and things which may be exercised or done by the bank.” Under these powers, the RBI can transform its board from taking decisions advising banks to develop horticulture skills to writing better regulations that prevent money-laundering in India.

The writer, professor at the National Institute of Public Finance and Policy, Delhi, is a consulting editor for ‘The Indian Express’. This article has been co-authored by Shubho Roy.

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