Allowing corporate houses to set up banks a 'bombshell': Raghuram Rajan, Viral Acharya

Former Reserve Bank of India's (RBI) governor Raghuram Rajan and deputy governor Viral Acharya in a joint note posted on the latter's LinkedIn account on Monday stated that it is important to stick to the tried and tested limits on corporate involvement in banking.

Through the article, the duo pointed out that the RBI working group's proposal to allow corporate houses to set up banks is a "bombshell" and at this juncture, it is more important to stick to the tried and tested limits on the involvement of business houses in the banking sector. They also recommended that the proposal is "best left on the shelf."

"The history of… connected lending is invariably disastrous — how can the bank make good loans when it is owned by the borrower? Even an independent committed regulator, with all the information in the world, finds it difficult to be in every nook and corner of the financial system to stop poor lending," the article said.

The article comes days after an Internal Working Group (IWG) of Reserve Bank of India (RBI) recommended allowing large Indian corporates to enter the banking sector. Referring to the group's proposal to allow Indian corporate houses into the banking sector, the article said, "its most important recommendation, couched amidst a number of largely technical regulatory rationalisations, is a bombshell".

"The rationales for not allowing industrial houses into banking are then primarily two...First, industrial houses need financing, and they can get it easily, with no questions asked, if they have an in-house bank."

"...The second reason to prohibit corporate entry into banking is that it will further exacerbate the concentration of economic (and political) power in certain business houses," the duo said.