The Ministry of Finance recently appealed to the Reserve Bank of India (RBI) for its input in crafting a modified version of the Financial Resolution and Deposit Insurance (FRDI) Bill, with the objective of tackling the insolvency of firms within the financial sector. This development comes after the government retracted the FRDI Bill 2017 due to rising anxieties about the safety of bank deposits.
The Background of FRDI Bill
The original FRDI Bill, proposed in 2017, was designed to handle the cases of insolvency within the financial sector. The bill provided solutions such as selling the insolvent firm, merging it with another firm or closing it down altogether, causing minimal disruptions to the system and stakeholders. It hoped to mitigate the impact of the failure of institutions including banks, insurance companies, non-banking financial companies, pension funds and stock exchanges.
Despite assurances from the Central government regarding deposit safety, public concern forced the withdrawal of the bill. One of the main points of contention was the bail-in clause, which stated that in case of a bank’s insolvency, depositors would have to bear a part of the resolution cost through a reduction in their claims.
Overview of the New Bill
The revised bill is expected to establish a resolution authority that would possess the power to execute prompt resolutions for banks, insurance companies, and systemically significant financial firms. The legislation also stipulates an insurance of up to INR 5 lakh for bank depositors, a provision that already enjoys legal backing.
Why Legislative Backing is Needed
Despite RBI introducing a Prompt Corrective Action framework for Non-Banking Financial Companies (NBFCs), a legislative framework seems essential for the entire financial sector. The present resolution regime is deemed inappropriate for private sector financial firms, particularly because of their expansion and systemic importance in India.
The recommendation for a unified agency to resolve financial firms aligns with the suggestions put forth by the Financial Sector Legislative Reforms Commission (FSLRC) in 2011, led by Justice B N Srikrishna.
Insolvency and Bankruptcy Code
Enacted in 2016, the Insolvency and Bankruptcy Code merged different laws relating to the insolvency resolution of business firms. It established clear and expedient insolvency procedures to assist creditors like banks, recover dues and curb bad loans, a significant burden on the economy.
The code, coupled with the FRDI bill, would have made the process for winding up or reviving a struggling financial sector firm more efficient.
Key Definitions
Insolvency refers to a situation in which individuals or companies cannot repay their outstanding debt. Bankruptcy is a state where a court of competent jurisdiction declares a person or entity insolvent, passing relevant orders to resolve it and safeguard the rights of the creditors. It serves as a formal declaration of one’s inability to discharge debts.
