For years, you thought your money was safe in a savings account of a bank. It is the bank where you have done transactions since you were a child. One fine day, you get to know that you can withdraw up to Rs 10,000 from your account.
You are right. You will feel cheated. You will have sleepless nights about those life savings you have managed over the years.
Depositors with the Punjab and Maharashtra Co-operative Bank (PMC Bank), a small local bank with over 80 branches in and around Mumbai, witnessed an upheaval. They cannot withdraw more than Rs 10,000 of the total balance they held as of September 26, 2019.
The Reserve Bank of India (RBI) said in a statement that it found significant financial irregularities. There was a failure of internal control and systems of the bank and wrong or under-reporting of exposure under various off-site surveillance reports.
Such an action is called superseding the board of directors. It is the most extreme measure RBI takes after a rigorous inspection and an inquiry into the conduct of banks. If the RBI statement says significant financial irregularities, it could mean anything.
From not maintaining enough money as capital adequacy or lending beyond the stated norms to particular sectors. The RBI may have found that internal control mechanisms failed to capture any violation of rules.
In another development, the RBI put Laxmi Vilas Bank under prompt corrective action or PCA. The bank’s capital to risk-weighted average ratio (CRAR) was found to be insufficient. It is the capital adequacy needed for lending. RBI is closely watching developments at the bank. In this situation, there are no restrictions imposed on depositors on withdrawal.
Why it matters?
The central bank has the responsibility to maintain the sanctity of the banking system through supervision. It is a crucial function of the bank besides managing the money supply in the economy.
When banks lend money to us, they set aside a small portion of that amount for capital adequacy. The capital to risk-weighted average ratio (CRAR) is used to measure capital adequacy.
The average CRAR for banks is 13 per cent while for non-banking finance companies is 19 per cent, according to RBI’s latest Financial Stability Report. At all times, banks are expected to maintain that ratio through equity and debt capital.
The ratio deteriorates if the bank classifies more loans as non-performing assets. It means the bank does not expect the interest on the loans given.
Interest income is a primary source of income for a bank. If borrowers do not pay regular interest on loans, then banks have to increase provisioning.
A bank is considered to have failed if the CRAR falls below seven per cent. In the case of public sector banks, the government’s sovereign guarantee ensures that the government will inject the necessary capital to stall any collapse or potential failure. Small private banks are at risk if one large account goes bad.
What does it mean to you
Your deposits up to Rs 1,00,000 are safe. They are protected by the Deposit Insurance and Credit Guarantee Corporation, a subsidiary of the RBI. It means even if your bank fails, the deposit insurance safeguards your savings in the bank and fixed deposits of up to Rs 1,00,000.
For those having more money in bank fixed deposits, it is time to think. You may want to open an account with another bank just to put your eggs in more than one basket.
A lot of you may be tempted to put money into physical gold or real estate. As countries grow, people tend to own fewer physical assets and invest more in financial assets.
There is no need to panic and consider all banks unsafe. There is a constant vigil kept by the RBI and the government on the performance of the banking sector.
If you are an investor in bank stocks, you may want to move your money to banks that have a stronger balance sheet. You may want to consider buying the exchange-traded fund that tracks the performance of the Bank Nifty, an index of bank stocks.