What Do You Understand by Term ‘Resolution of Financial Firms’?

The resolution of a financial firm can be defined as a typical category of immediate inability to pay debts ruining the interest of a few creditors instantly and mercilessly. On the other hand, it provides the other (i.e. the bank depositors, a new as well as a jubilant beginning. Resolution is supposed to be carried out before contagion sets into the business and the various parties (like customers, competitors, traders etc.) associated with the business also break down in panic or due to lack of improper risk management strategies. This code is known to provide specific resolution mechanism in order to handle bankruptcy circumstances in banks, insurance companies, and other financial institutions. This Bill received a green go in the Parliament on June 14, 2017.

Resolution Corporation’s Establishment and Its Operations

The draft Bill visions the establishment of a Resolution Corporation with a description from financial sector regulators, like, IRDAI, RBI, SEBI and PFRDA, delegates from the Government (i.e. Central Government) as well as two independent members. There are three major functions of the Resolution Corporation, namely; (a) assessing risks and preparing for the failure of covered service providers (CSPs), (b) resolving failed CSPs with the help of a variety of tools and (c) managing funds for deposit insurance, resolution and administration.

Funds and Accounts

A Resolution Corporation ought to have three kinds of funds:

  • The Corporation Insurance Fund which would be used for payment of deposit insurance;
  • The Corporation Resolution Fund which would be used for covering resolution fees and;
  • A Corporation General Fund which would be used for meeting the administrative expenses of the Resolution Corporation. The covered service providers shall also be needed to pay fees, as specified by the Corporation.

Systemically Important Financial Institutions (“SIFIs”)

The Government (i.e. the Central Government), in deliberation with the appropriate sectoral regulator may entitle certain categories of financial institutions as Systemically Important Financial Institutions. Given their consequences for the economy, the Bill envisages a few other supplementary powers in respect of these Systemically Important Financial Institutions.

Deposit Insurance

After the proclamation of the Bill, the Deposit Insurance as well as Credit Guarantee Corporation would be dispersed and all its functions will be taken over by the Resolution Corporation.

Assessment: Risk v/s Viability

The Resolution Corporation along with the Appropriate Regulator would determine the objective criteria for the classification of covered service providers into five categories, namely

  • Low,
  • Moderate,
  • Material,
  • Imminent and
  • Critical

The categorization of a covered service provider as ‘low’, ‘moderate’ and ‘material’ can only be done by the allocated regulator. The categorization into ‘imminent’ can be done either by the Resolution Corporation or the Appropriate Regulator.

The powers of the Appropriate Regulator at the ‘material’ stage involves preventing the covered service provider from conducting a number of activities, including payment or declaration of dividends, accepting funds and acquiring any interest in any other business. The powers of the Resolution Corporation are restricted until the covered service provider reaches the ‘imminent ‘stage.

The categorization to be at ‘critical’ risk to growth by the Appropriate Regulator or the Resolution Corporation shall only be through a written order that needs to be published in a specified manner.

At this point, the Resolution Corporation shall be chosen to manage the affairs of the covered service provider.

Until the conclusion of the resolution, there will be a stay on legal actions and proceedings.

There will also be a stay on both the payment or acceptance of deposits to the depositors of the covered service provider in a particular manner provided through a written order.