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Provokes thought. Both buckets- regulatory actions leading upto Bank Resolution, and Bank Resolution itself need an overhaul. Will tweet a few additional points from a market discipline standpoint that RBI can leverage. ( Remember that's 3rd pillar) https://www.bloombergquint.com/opinion/from-yes-bank-to-lakshmi-vilas-bank-lessons-from-bank-failures
As Ira points out, the absence of supervision is a key weakness and a common thread that runs thru. To add to that, the RBI should compliment enhanced supervision with enabling better compensation design for Bank management than we presently have.
While enhanced supervision will ensure regulators discover weak lending practices, and fraudulent cases earlier than hitherto, almost definitionally, there is an inherent lag. executive compensation design holds the promise to compliment supervision, but thus far not exploited.
The apparatus that RBI has at its disposal, focuses on the *amount* of executive compensation. They should focus instead on the * structure*. To be sure, we have regulation around clawbacks and equity and variable compensation, but that's * not* geared towards prudence.
The rules around management compensation focus on agency conflict betn management and shareholders. But that's not the key conflict to focus on * for banks and FIs*. Because Bank failures have "externalities", those rules should be geared towards promoting prudence. They aren't.
There is a whole lot of academic research ( See, Bebchuk, Tung) that focuses on leveraging Bank executive compensation and its link with prudence. But in years following GFC , we also see market practice in that regard.
Banks and FIs have implemented high- trigger CoCo's or bonuses linked to tier-1 capital retention ( see Barclays). We need to actively think of organic incentives that put Bank management skin in the game, along the aforementioned lines.
Notice the common thread here is that they are * not* solving for agency conflicts between Shareholder and management. Rather, by injecting incentives , high- powered, to manage the bank prudently, they are solving for agency conflicts between Bank and society
The RBI can especially adopt CoCo's as part of bank compensation rules because it's already enabled bail- in bonds ( a close approximation) to be issued as part of bank cap structure.
So , it's familiar with the prudential benefits of having a callable bond that works counter- cyclically to Capital, in the bank's cap structure. Embedding it in Executive compensation just puts exec wealth and skin directly in the game and contributes organically to prudence
This relatively simple change in exec compensation design ( and change in Regulatory culture from looking at "kisne kitna kamaya" to the design thereof) will complement enhanced supervision.
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