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Friday, June 05, 2015

Institution building for FSLRC: MOF has begun on the `Financial Redress Agency'

MOF has just begun the `task force' process for constructing the last brand-new element of the financial regulatory architecture envisaged by FSLRC: The `financial redress agency' (FRA).

What is the Financial Redress Agency?

FRA is intended as a one-stop shop for aggrieved consumers. The consumer should not have to navigate between the RBI Ombudsman or the SEBI Scores or the IRDA Ombudsman, etc. It does not make sense for India to have multiple parallel systems run by sectoral regulators: this drives up cost, reduces the reach of the branch network for the same level of expense, and increases confusion in the eyes of consumers. In the FSLRC world, the consumer would first try to resolve her problem with the financial service provider, and when dissatisfied, approach the FRA. The FRA would have access points all over India. It would be a light weight mediation system, where neither the consumer nor the financial firm would have lawyers.

FRA would produce data about its activities, which would show the problem areas faced by consumers. This would help raise the alarm about products and sales practices which are faulty. The mis-selling of ULIPs that began in 2004 should have been stopped before 2011. If FRA and FDMC had been in place, timely data would have been produced and the scandal would have been stopped earlier.

Where does this fit into the Indian financial reforms?

India's financial reforms are working on three tracks:

  1. The first element is the legislative process that should, at some point in the future, lead to Parliament enacting the Indian Financial Code. The February 2015 Budget Speech by Arun Jaitley said he will table this in Parliament `sooner rather than later'.
  2. The second element is building institutional capacity to enforce the new law. In India, building high performance institutions is difficult. As with SEBI or PFRDA or NSDL, it makes sense to build the institutional capacity ahead of time so that when Parliament passes the law, it can immediately be enforced. When the law is enacted without adequate planning for the institutional capacity, this can lead to difficulties as was seen with the Companies Act, 2013.
  3. The third element is to treat FSLRC as the strategy and chip away at incremental changes within the existing legal framework to move towards this goal. This also builds institutional capacity, and reduces the complexities after the law is passed. It front-loads the gains: why not reap the fruits of improved financial sector policy sooner rather than later? Elements of this include: (1) The FSLRC Handbook, (2) the SEBI-FMC merger (backdrop and then Budget 2015), (3) shifting regulation-making power on non-debt capital controls from RBI to MOF (Budget 2015), (4) inflation targeting as the objective for RBI, (5) Finance SEZs, etc.

State capacity is about well drafted laws and sound institutions that enforce these well drafted laws. The Indian malaise with chronically malfunctioning institutions is as much about badly drafted laws as about badly designed organisations. A quantum leap in the law -- the IFC -- will not solve the problem by itself. A similar quantum leap in the working of financial agencies is also required. In order to do this in a systematic way, MOF has invented a new framework involving `task forces' which lay the foundations for a financial agency before the management team is recruited.

At present, four task forces are in motion -- to build the Financial Sector Appellate Tribunal (FSAT) that will hear appeals against all financial agencies, the Public Debt Management Agency (PDMA), the Resolution Corporation (RC) and the Financial Data Management Centre (FDMC). The Task Force for the Financial Redress Agency is the fifth in the sequence. By virtue of starting out 8 months after the first four, it will benefit from the learning of the last 8 months on how this new process of institution building works.

Each of these five projects would take over three years from start to finish. One one hand, this is frustratingly slow. We need the FRA or the  FSAT or the PDMA or the FDMC or the RC yesterday. But it's not possible to do these things in reduced time. And these horizons are consistent with the time horizons for IFC to go through the parliamentary process.

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