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India's Cooperative Bank Troubles Reflect Governance Deficit

SINGAPORE (S&P Global Ratings) Oct. 7, 2019--The troubles at a large Indian cooperative bank highlight the governance deficit in the country's financial sector. In S&P Global Ratings' view, governance and transparency in India's financial institutions lag larger international peers'.

The Reserve Bank of India (RBI) has appointed an administrator and superseded the board of Punjab and Maharashtra Cooperative Bank Ltd. (PMC), which has US$1.6 billion in deposits. The RBI's action came after it discovered major financial irregularities, failure of internal control and systems, and wrong/under-reporting of PMC's exposures. The bank appears to have exceeded prudential norms in extending loans to a single customer, a distressed real estate company.

Cooperative banks generally have less onerous regulations. The sector itself is fragmented, with 98,163 entities. According to the RBI, cooperative institutions have been losing market share, which declined to 11% of the total assets of scheduled commercial banks at the end of March 2017, from 19% at the end of March 2005. Cooperative bank failures in the past haven't spilled over to the broader banking sector.

In our view, India's financial sector needs to raise its governance standards and restore trust. In the past few years, several instances of fraud and irregularities have emerged. In 2018, fraud at Punjab National Bank involving almost US$2 billion reflected lack of internal controls.

The RBI's assessment of nonperforming loans (NPLs) for a number of banks was higher their own in the past. Such divergence in NPL assessments underscores the poor transparency in India. The RBI has refused the reappointment of some bank CEOs due to these issues. A few years earlier, the chairman and managing director of another public sector bank was charged with taking bribes.

In addition, National Housing Bank, the regulator for housing finance companies, estimated Dewan Housing Finance Ltd.'s capital adequacy ratio at 10.24% as of March 31, 2018, compared to the company's reported figure of 15.3%. The company's auditors had highlighted a number of gaps too.

That said, several financial institutions in India have strong corporate governance and good risk management and underwriting standards. These factors are also reflected in their equity market valuations, which are some of the highest in Asia.

We do not expect the stress in cooperative banks to spill over to the broader banking sector. Nevertheless, contagion risk cannot be ignored in a market when paranoia sets in.

This report does not constitute a rating action.

S&P Global Ratings, part of S&P Global Inc. (NYSE: SPGI), is the world's leading provider of independent credit risk research. We publish more than a million credit ratings on debt issued by sovereign, municipal, corporate and financial sector entities. With over 1,400 credit analysts in 26 countries, and more than 150 years' experience of assessing credit risk, we offer a unique combination of global coverage and local insight. Our research and opinions about relative credit risk provide market participants with information that helps to support the growth of transparent, liquid debt markets worldwide.

Primary Credit Analyst:Geeta Chugh, Mumbai (91) 22-3342-1910;
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Media Contact:Richard J Noonan, Melbourne (61) 3-9631-2152;

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