Every organization requires a practical framework for corporate governance. Similarly, governance for banks is crucial for the development of banking activities. The RBI (Reserve Bank of India) has brought out specific guidelines for corporate governance for banks. A discussion paper was drafted by the RBI, inviting recommendations from market participants.
Before going through the discussion paper for the governance of banks, it is essential to understand the meaning of governance. In every organization, be it government or private organization, requires a practical framework for governance. Added to this, governance in a corporate organization is called corporate governance.
What is Corporate Governance?
Corporate governance can be understood as the relationship between the shareholders, stakeholders, and the organization’s management. For an effective system of corporate governance, there has to be transparency between the shareholders, stakeholders, and management of the organization. Therefore, for an effective corporate governance framework, there must be a seamless transition between the above.
Corporate governance for banks is also required, as banks play a significant role in handling the financial systems of the country. Hence, the RBI brought out the discussion paper for effective corporate governance for banks.
Overview of Indian Finance System
Globalization and Privatisation have affected all businesses in the country. This has also lead to the development of financial structures in the country. With the development of financial technologies, various intricacies are present in the banking system of the country. Due to this, there is a need for a proper framework for Corporate Governance for Banks.
With changes in the banking ecosystem, various businesses have to adopt new technologies to be in line with the current standards.
Boards and authorities have to scrutinize the roles played by the following executives:
Failures in Corporate Governance for Banks
Failures in governance for banks are due to the multiple roles taken by the management of the company. For example- When the CEO takes the role of a Managing Director, or CEO takes the role of a CFO, it leads to a conflict of interest between the roles. Corporate governance for banks does not only depend on the internal framework but also depends on external factors.
The relationship between the bank’s key stakeholders would determine an efficient corporate governance framework. Apart from this, the key management executives of the bank have various duties to implement. Some of these duties form part and parcel of the organization. The primary role played by the management is managing the bank. However, key executives of the bank also have some fiduciary duties to perform in the banking system.
Discussion paper on Governance for Banks
The main aim and objective of this paper is to understand the principles of corporate governance for banks. Apart from this, the paper also speaks about implementing corporate governance practices with international standards of corporate governance. These practices have to be according to the Basel Committee on Banking Supervision (BCBS), the Financial Standards Board (FSB), and the Bank Bureau Business (BBB).
Due to this, banks must place higher standards of governance for banks. The discussion paper emphasizes the ethical principles which apply to banks and also focuses on rule-based policies.
Applicability of Corporate Governance Provisions
The provisions related to corporate governance would apply to the following:
Any branches of foreign banks which are set up for conducting banking business;
Foreign banks which conduct business through branch offices and branch models;
State Bank of India;
National Banks in India; and
Regional Rural Banks in India.
These would not apply to any bank which does not have proper regulation under any authority.
Responsibility of the Board in Governance for Banks
The chairman is the head of the board of directors (BOD). All board meetings are conducted by the chairman, along with the board of directors. Apart from this, the board of directors has specific functions to carry out for the company. These functions do not end at controlling the organization. Board of directors in a bank do not have any functions related to revenue generation. Only managerial roles are carried out by the board of directors.
The following functions are carried out by the board of directors:
Generally, the board of directors has overall responsibility for the governance of banks. The governance framework, which is followed by banks, must continuously be developed and reviewed by the bank.
Framework implementation is essential for the bank. Apart from this, quality assessment has to be carried out by comparing the actual standards to the general rules.
Directors have the responsibility of not only handling the organization but also playing a crucial role in managing the governance of the board.
Apart from the above, some necessary functions which have to be carried out by directors are enumerated below:
The board of directors are responsible for conducting annual general meetings and board meetings for the bank. The directors must ensure that time is recorded for board meetings as per the norms under the Companies’ Act 2013. However, the rules related to the recording of board meetings are developed by the Institute of company secretaries of India (ICSI) from time to time.
A director has to be a leader and bring out effective, ethical structures on the board. These ethical structures have to be implemented throughout the bank.
To ensure that senior management is performing their duties.
The BOD must ensure that values are communicated through the banking channels.
To ensure that all the employees in the bank follow the respective code of conduct.
Ensure that the employees maintain compliance.
To ensure that proper standards related to training are maintained in the bank.
To ensure that the Chief Executive and Whole Time Director (WTD) act as a role model and implement values throughout the bank.
To form a disciplinary committee for the bank and access the disciplinary action carried out for non-compliance with certain norms.
To maintain an effective system of feedback within the banking framework.
Code of Conduct on Governance for Banks
The code of conduct can be understood as a useful framework of rules that have to be followed throughout the bank. The following would come under an active code of conduct:
Standard behavior which has to be followed by employees in a bank. This must also cover the behavior which is not acceptable by the bank.
Practices that are not allowed in the bank such as Economic crimes, online frauds, embezzlement of funds, providing misstatements on the prospectus, and other forms of fraud.
Systematic implementation of policies should be followed in the bank. Apart from this, due diligence must be performed across all hierarchies of the bank.
Crucial Values on Governance for Banks
Some of the values in the bank have to be addressed for effective governance for banks. When specific issues arise in banks, the timely and mannerly discussion will help in resolving such issues. Apart from this, when issues are determined at the lowest level, problems would not arise in the governance framework for a bank.
Whistle Blowing Policy
Like every organization, a bank must also develop an essential whistleblower policy that has to be implemented. However, effective implementation is not just the key; the bank must follow regular auditing of whistleblowers policy.
The whistleblower’s policy for the bank should have the following:
Access the standards of damage that are caused to the bank.
Any form of concern can be addressed by the bank, which relates to disclosures.
Any information provided by the whistleblower must be at all times kept confidential.
The board is responsible for carrying out any form of action under the whistleblower policy.
An informal and thorough investigation must be conducted once information is revealed related to mismanagement.
Material Alterations or Material Considerations
Any form of material alterations or material considerations in the structure of the board must be communicated to the Department of Supervision, RBI.
Responsibilities of the Board
The board has the following responsibilities for handling effective governance for banks:
Conflicts of Interest- Conflict of interest can be understood as an interest in a transaction where the bank has some form of interest or prospective interest. This conflict can be related to some kind of property that is owned by the bank or a contract which the bank is entering into where the director has an interest.
For any form of conflict of interest, an assessment must be carried out. In this assessment, the criteria for reducing the conflict must be considered.
Develop a risk framework for the management and the organization- Under the risk framework, the bank has to develop three forms of lines of defence. The following are the lines of defence under an effective risk framework:
1st Line of Defence- Business Management.
2nd Line of Defence- The Risk Management Function and Independent Compliance is the 2nd line of defence. This must be independent and separate from the first line of defence.
3rd Line of Defence-Internal Audit and Control Function have to be independent and different from the first two lines of defence.
Hence in an effective risk management framework, every bank would have three lines of defense.
Management of the seniors of the company- The board of directors are also responsible for managing the senior management of the company, such as the CEO and the Whole Time Director. This would include all responsibilities, such as managing their work, remuneration, and progression.
Other Responsibilities- Apart from the above responsibilities, the BOD has other responsibilities which they are accountable for. The following responsibilities have to be carried out by the board:
Develop business strategies;
Responsible for the development of the bank;
Report any form of statutory disclosures;
Oversee the financial performance of the bank; and
Inform any form of a material change in the business of the bank.
Duties of Directors on Governance for Banks
The duties of directors are present in the Companies Act 2013. These duties have been included in the governance of banks. The following duties have to be carried out by directors:
Duty to Act in the best interest of the bank;
Duty of Care to the Bank;
No Conflict of Interest in the bank;
Duty to Exercise Independence in all transactions; and
Safeguard the bank.
Apart from the above duties, the board of directors have other duties that have to be followed.
Formation of Committees
For effective governance of banks, the following committees have to be formed:
The audit committee of the board carries out the following functions:
Overview of the procedures carried out by the board.
Internal and External Finance Functions of the bank.
Ensure that effective transparency is maintained.
Risk Management Committee carries out the following functions:
Helps in formulating effective risk governance for banks.
Identifies and mitigates the risk in banks.
The risk management committee helps in developing a risk analysis framework for the bank.
The risk management committee also assists in identifying data that will help the organization.
Nomination and Remuneration Committee carries out the following functions:
Setting the level of nomination for all employees of an organization.
Handling employee grievances.
Stakeholder Relationship Committee carries out the following functions:
To ensure there is transparency between the directors, shareholders, and employees of the organization.
To ensure that stakeholders are interested in transactions offered by the bank.
To handle the grievances of prospective stakeholders.
RBI has brought out the discussion paper on corporate governance for banks. Corporate governance is understood as transparency between the key stakeholders of an organization. The RBI has effectively stressed the importance of following these guidelines to avoid corporate failures within a bank. For an effective governance structure in the bank, the board plays a vital role in managing the bank. They have various responsibilities, right from handling the bank to developing different strategies. The framework of corporate governance is made more effective by mandatorily having committees that help implement governance for banks.
With the above guidelines, the governance for banks can improve if they are effectively followed.
Varun Hariharan has completed the Legal Practice Course from BPP Law School, Manchester. He has a Masters in Commercial and Corporate Law from the Queen Mary University of London and LLB Honours from Bangor University, UK. He specialises in law related to corporate, artificial intelligence and technology law.