Banking

Humanising Debt Collections – A Fair Practices Code For ARCs

While the depiction of the Indian stressed asset market is often painted to look dismal, global globalization has put the screws on government and regulators to take decisive action. In a similar vein, India’s bad debt headache was alleviated with the inception of the SARFAESI Act, allowing banks to recover monies without judicial intervention. Despite that, the problem of mounting non-performing assets grew multi-fold thereby enhancing the prominence and aggression of Asset Reconstruction Companies (ARC) in financial circles.

Need for Fair Practice Codes

In wake of the mounting NPAs, the banking sector is under immense pressure to get its house in order. Realizing this, banks resorted to offloading bad debts from their loan books onto ARCs thereby leading to a massive reduction in their distressed assets. However, during this exercise banks made no provisions for these bad loans in their books, and bore no losses in case of defaults. This issue led to the intervention by RBI in form of the Fair Practice Code to ensure transparency in form of cash transactions.

Maintaining Transparency

Another reason for the need for the Code was that the sale of assets conducted by ARCs-in spirit-emerged to be no different from the sale of assets by state finance corporations or others vested with similar special powers of recovery. There have been many instances wherein ARCs sold assets through ‘private auctions’, and simply served a notice to the borrower. In this procedure, no account of the sale proceeds, description of the buyer or competing bidders, information on how the asset was sold, or expenses on the sale was provided to borrowers.

At this juncture, the RBIs notification will ensure transparent and non-discriminatory practices in terms of the acquisition of assets. To curb the issues and unclear process of assets being sold to bidders where there is no trace of information of who these individuals are, the invitation to participate in the auction will be made public.

This will also provide transparency in the way how many assets were being sold. The Boards involvement to make sure these rules are being held up is of utmost importance. When dealing with buyers Section 29A of the IBC must guide the process. The inclusion of Section 29A rendered persons contributing to defaults of the corporate debtor or other incapacities or are a related party, declares such parties as ineligible for submission of resolution plan and thereby preventing such persons from gaining control of the corporate debtor under the Code.

Simply put, the provision safeguards creditors of the company against unscrupulous persons whose aim is not a revival of the corporate debtor, but to reward themselves by undermining the objective of the Code. 

Thus, the notification aims to address issues of transparency and borrowers being kept in the dark during such sale of assets while keeping a check on the aggressive sale of assets by the banks and easy purchase by the ARCs. On contrarian grounds, FPC under the new regime would inadvertently restrict the enforcement action taken by ARCs.

Maintaining the spirits of Section 29A of the IBC or delving into investor control diminishes the powers conferred upon the ARC drastically. Moreover, it is pertinent to note that a regulatory directive from the central bank perhaps cannot have an overriding effect on legislations enacted to facilitate debt recovery, under the SARFAESI Act or the RDDB Act. 

Also, the sale of assets was not transparent and was far too commonly done at prices that do not represent fair values. Thus, these malpractices by the ARCs forced the RBI to come up with Fair Practice Codes to ensure transparency in transactions and keep a check on their practices. Under the notification, ARCs are entitled to release all securities on the repayment of dues.

If the right of set-off is exercised, then a notice to the buyer must be sent with information regarding the full particulars of the remaining claim and the conditions under which ARCs are entitled to retain the securities till the relevant claim is settled or paid.

Ethical Recovery Processes

Hereafter, ARCs must ensure adequate training to staff to deal with customer matters appropriately. This will prevent or mitigate unlawful and uncivilized harassment inflicted upon debtors in the name of debt recovery processes. In the spirit of this Code, ARCsmust establishes a code of conduct for Recovery Agents and also holds the company accountable in case of breaches by their Agents.

A compulsory set up of a proper Grievance Redressal within the company should be constituted by ARC. The officer’s name designated for that redressal must be mentioned during the process. Such machinery will prove to be a step towards settlement of issues subsisting between the ARCs and the borrowers or the banks.

In addition to this, initiatives to address the absence of a poor secondary market have been taken up. In the intention to outsource an activity, a suitable outsourcing policy needs to be established, a delegation of authority depending on risks and materiality, and systems to monitor and review the operations of these activities.

Conclusion 

Overall, the RBI’s guidelines reward assertive steps yet ethical recovery practices are strides in the right direction. This move will rationalize recent trends in the industry and prove advantageous to various stakeholders in the stressed asset sector, including defaulting borrowers. In light of the new guidelines, ARCs are likely to change their bidding strategy and cherry-pick deals backed by ‘hard’ assets reducing the number of deals.

At the heart of the ‘Fair Practices Code guidelines is the protection of debtors by humanizing the recovery process while striking an optimum balance between lender-borrower interests in the recovery framework. With an emphasis on compliances, transparent and non-discriminatory practices in the acquisition of assets, and the required release of securities upon repayment of dues, the FPC guidelines may collectively help insulate debtors from the clutches of the sale process.

Adherence to these guidelines will place these bad bank sponges on a game-changing pathway leading to reduced NPAs thereby reviving stressed assets in the banking sector and the Indian economy one step at a time, however not without some enforcement hiccups. 

Tags: fair practices, arc code, the debt collector, debt collections, commercial debt collection, credit collection services, debt recovery, debt management and collections system, debt collection services, commercial debt, credit collection

RBI’s Monetary Policy Committee

Sluggish growth, increasing vulnerability of financial institutions, mounting NPAs, non-convergence working between financial and real sectors, and poor monetary transmission continue to haunt the economy despite the Reserve Bank of India’s (RBI) intensive financial stability measures. With financial and monetary stability being RBI’s core objective, the apex bank is geared towards the restoration of equilibrium in these unprecedented times.

The Monetary Policy Committee (MPC) of RBI announced that interest rates would remain unchanged thereby taking an accommodative stance towards its policies. Amid the recent inflation in retail consumer prices, RBI also said that it would ensure that this rise in inflation remains within its targets and control. The repo rate currently stands at 4.0% and the reverse repo rate at 3.35%.

The decision indicates that MPC would monitor dynamics for a durable reduction in inflation before the policy rates are lowered again and patiently await to use its remaining monetary ammunition. On the surface, this appears to have a balancing effect between financial stability and growth support in light of the current challenges posed by the COVID-19 Pandemic.

The existing disconnect between our economy and the financial market indicates that RBI would be watchful of the current inflation as well as the existing exuberance in the markets. RBI is now prioritizing strain felt by the economy and tackling the challenges to the growth of the economy with the containment of retail inflation.

Central Banks’ MPC could be seen as judicial in their approach, playing it safe while maintaining the status quo of the current rates with the scope of further monetary action even after this apparent pause. Current rates could be accommodating enough to allow for such a break without unwarranted consequences. It also allows them to monitor the existing risks associated with Food Inflation as well as the Cost-Push pressure due to fuel price rises.

MPCs’ approach was a cautious step showing concerns over the evolution of uncertain inflation trajectory while supporting the growth prospects that could be available as and when this trajectory allows. The decision to maintain this status quo could be based upon their short-term outlook towards inflation in the current uncertainty because of cost-push factors and existing supply constraints.

RBIs’ accommodating stance with the current backdrop of diminished growth and subsequent expectation of a reduction in inflation over a medium-term period puts the current policy in congruence with the current market expectations and provides them with further space for easing of monetary measures to revive the economic growth during COVID-19.

RBIs’ step towards allowing some form of restructuring facility to the banks facing trouble in restructuring the loans without classifying them as Non-Performing Assets (NPA), could be seen as a positive step that could further ease the stress on Banking systems.

This new resolution framework could be seen as an additional systematic undertaking to tackle the stress induced by the COVID-19 Pandemic. Additionally, RBI has also recognized the need for this facility for standard accounts facing difficulties while restructuring, and this facility has also been extended to SMEs, corporations, and personal loans providing each segment with proper & necessary safeguards.

Addressing the MSME sector, which has been deeply impacted by this Pandemic, the reasonably anticipated scheme for restructuring this sector could provide them with additional support & relief in this tumultuous time. Addressing the concern regarding liquidity in this Pandemic faced by MSME could facilitate an amended system and platform for the banks.

This restructuring of the loan scheme could be seen as a breather to already liquidity-strapped financial sectors, already facing concerns over the asset quality issue. An expert committee under KV Kamath could overlook and provide recommendations regarding the scheme’s details and restructuring plans. This could give the MSME, companies as well as individuals better safeguard in this liquidity crisis during the Pandemic.

To improve the flow of credit and enhance liquidity additional measures were announced by RBI to accelerate the growth of the economy. RBI also focused on measures that could deepen the digital payment facilities among all others.

These announcements could harmonize market risk associated with capital charge treatment of investment by banks in debt instruments and ETFs as well as Debt Mutual Funds and prediction for improvement in the bond market, as there could be higher participation by banks in the bond markets over a while.

Additionally, a measure relating to increasing the sanctioned loan to value ratio (LTV) for gold loans to 90 percent by March 31, 2021, is an effort to mitigate the impact of COVID-19 on households at a micro-economic level however this move fails to soothe deeper wounds aggravated on account of the virus-induced financial distress.

Additional liquidity facilities provided to NABARD and NHB will further support the credit push in the economy. RBI has continued to focus on also bringing down borrowing costs for all.

In light of India’s sluggish economic growth, uncertain external demand, and rising inflation, the developmental and regulatory measures announced by RBI adopts a prudent approach to upholding the current policy rates in existing circumstances.

Their strategy could be seen to be in perfect conformity with the currently developing state of the economy while keeping enough headroom for future changes. However, it remains to be seen how much relief will be provided, and what will be the take-up for this resolution mechanism.

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How to Normalize Monetary Policy?

Global growth is fragile and uneven. Winds of change are blowing across the world again amidst the pandemic. While some economies are attempting to rise from their ashes, others remain in a fiscal fathomless abyss of misery and debt. Throughout the pandemic, India’s central bank has been making crucial decisions for the economy—trading off between inflation and growth. Additionally, on the foreign exchange front, Asia’s third-largest economy has been the largest recipient of foreign portfolio money, or ‘hot money emanating from developed nations.

This is due to the accommodative monetary policies adopted by the developed nations like the US, European Union, and Japan which has led to the increased inflow of FDI in India. What made India a preferred choice of investment and stand out amongst its peers was its macroeconomic stability as well as its investment-grade sovereign credit rating.

If the object of India’s Central Bank is to be scrutinized, the monetary policy committee (MPC) throughout the pandemic has kept it straightforward: don’t rock the boat. It is no news that the second wave of the pandemic has increased the uncertainty around the near-term growth outlook. But given the latest economic numbers, India has been seen recuperating from the pandemic as various indexes indicate growth. Moreover, given India’s falling infection rate, it can be maintained that the economy would not have to impose yet another stringent lockdown to curb the virulent nature of the pandemic, and hence the economy will be given some space to breathe.

The monetary policy framework in India has undergone fundamental modifications. RBI, throughout the pandemic, has kept an accommodative stance prioritizing growth over inflation. But after one successful year of maintaining such a stance, RBI now finds itself in troubled waters as headline inflation looks likely with burgeoning WPI and CPI numbers.

Moreover, the public has already been feeling the pinch of increasing fuel prices and has been demanding its inclusion in the GST regime. However, RBI is of the stance that India is facing transitory inflation which will much likely recede in the future. But given that CPI, for the month of June, was above RBI’s comfort range and the supply constraint persists in the economy due to crippled capacity and partial lockdowns, inflation is doomed to rise.

Moreover, the output gap is still negative and the recovery has not yet been secured, thus growth measures and RBI’s accommodative stance appears to be the right strategy. Thus, RBI at the moment finds itself at the crossroads of difficult choices—to maintain its accommodative stance at record low rates or to end its accommodative stance at a high rate.

The MPC may choose to give fresh time-based guidance, or one or two additional quarters, to stay accommodative, or shift to state-based guidance but an immediate overhaul to control inflation seems highly unlikely. On the other hand, markets seem to prefer the former choice of an accommodative stance, but given the circumstances, the MPC should opt for the latter to give itself maneuverability over the medium-term for various reasons.

First and foremost is the economic stimulus of Rs. 6.28 lakh that has been recently introduced by the government. Given rising inflation in the economy, economic stimulus just adds to the money supply of the economy and hence inflation. Though it is to be noted that the economic stimulus is a replica with some repeated measures of the last stimulus, its impact is too crucial to be ignored.

Secondly, the economic impact of the second wave will be limited, owing to less stringent lockdowns and as consumers and businesses have adapted to the new normal. To support this claim, high-frequency data has suggested that while mobility and passenger transport have been hit, the goods sector continued to chug along. In addition to this, growth should also be supported by medium-term tailwinds from ongoing vaccinations, a synchronized global growth recovery, and lagged effects of easier financial conditions. Hence, while sequential growth may weaken during April-June but growth, at the moment, doesn’t seem like a far-fetched idea as it did previously.

Thirdly, risks to underlying inflation are burgeoning. It is to be noted that near-term inflation moderation is largely due to the volatile vegetable component. Whereas higher freight costs and a broad-based rise in commodity prices have squeezed manufacturers’ profit margins and resulted in some of these costs being passed to consumers. Though the recent WPI and CPI data show that the producer’s cost has not yet been transferred to consumers but it is only a matter of time before it does. Initially, services inflation was subdued, but there is early evidence of higher prices in categories like recreation.

Lastly, the external environment could turn malevolent for emerging markets in the future. This will be due to the US’s growth outperformance given its higher growth rate and robust vaccination campaign. Higher US yields or the Fed’s plan to taper off its asset purchases could trigger capital outflows. Given more enticing returns in the US or any other country, capital flight in India could be triggered.

On the other hand, India, a developing economy, shouldn’t use ambitious and privileged tips from developed countries’ playbooks as in developed economies, central banks are willing to tolerate higher inflation.
Given such a strategy, the near-term versus the medium-term monetary policy strategy differs. What is meant by this is that, while policy continuity could be the correct strategy in the near term, the medium-term or long-term growth-inflation tradeoff argues for gradual policy normalization. This calls for an effective measure to assign a higher weight to inflation, relative to growth.

It goes without saying that besides the standard tools, unconventional measures to address market dislocations were introduced by RBI like asset purchase schemes, opening up of a special liquidity window for the mutual fund industry, regulatory forbearance, loan moratoriums and restructuring of debt significantly eased the pain in the financial sector.

With the pandemic-induced damage to the economy relatively unknown coupled with RBI’s multi-pronged response, credit growth is muted due to concerns over lending risks, and the sovereign bond market is again on tenterhooks.

Thus, RBI which currently faces a conundrum to make a sagacious choice for the economy will be interesting to see which strategy it prioritizes, whether it will be its long-term stabilization program, or will it be its near-term growth strategy program. As clear communication as possible on the speed, timing, and sequencing of the normalization could help guide expectations.

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