An easy compendium

Faster economic growth minus financial crises is a policymaker's dream. Sadly, the banking system, which plays an important role in transmitting policy signals and ensuring an efficient allocation of financial resources, also has the potential to spark economic crises and upset the apple cart. Therefore, it has always been under close scrutiny. While there can be no off-the-peg or cookie cutter solutions for various attendant issues, this collection of essays, written by IMF staff with practical experience, provides a unique vantage point from which the IMF has examined the banking sector problems in most of its 184 member countries and has been able to gain a perspective on the effectiveness of crisis management and resolution arrangement in various countries. In a sense, they reflect Best Practices evolved on the basis of experience and specialisation that the IMF has acquired through surveillance and resolution of bank crises, towards building strong banks.

The book is divided into two parts. The first part covers IMF surveillance standards, which serve as a benchmark for assessing financial systems, with the work of the Basel Committee at the core. It examines issues like adequacy and comprehensiveness of rules, on recognition and valuation of assets and liabilities of the banks, together with those for classification and provisioning for impaired assets. Chapters on foreign currency-denominated lending to domestic customers and its impact on financial systems as also risk of illiquidity provide an in-depth analysis of various issues involved. It is particularly relevant to the banking system in this country, which at present is experiencing major maturity transformation, turning short-term liabilities into long term assets.

In this context, the framework for a well-functioning "lender-of-the-last-resort" function, along with a clearly-laid-out policy for liquidity support, both for distressed institutions as also for systemic disruptions, has been brilliantly discussed. This part of the book also examines the institutional structure of regulations, along with the implications of a multiple or single regulatory system, a subject being debated in this country for quite some time.

The second part of the book deliberates on banking system restructuring, not merely for consolidation but for management and resolution of banking sector instability. The theme of the discussions is that in managing and resolving this instability, one should always remember that the best practice in normal times may not represent the best practice in a crisis.

The papers also highlight the need to minimise moral hazard, the notion that "bailouts" or promises of support prompt recklessness among the investors. A very important aspect about mergers of banks has been discussed, particularly keeping in mind anti-trust issues and interactions between competition law and prudential supervision. A chapter on the creation of asset management companies and the out-of-court centralised corporate debt workout framework seeks to develop benchmarks for assessing most effective practices in this area.

Since banking system restructuring generally has involved public funds, there is a concluding essay in this volume, which provides a simple operational framework for quantifying, analysing and reducing the cost involved on an ex-post basis.

The operational flavour of discussion in all these papers makes the book very useful for both policy makers and practitioners. The simple language and lucidity of expression make it an easy read for academics and those interested in understanding the process of economic growth via banking.

The book would have been of even greater use if issues more relevant to developing countries like ours were covered. For instance, what should be the suitable model of loan classification to enable banks to continue financing farmers, if they have not been able to repay their loans in two crop cycles, due to climatic vagaries? Whether the concept of "perpetuality"""which is generally kept in mind while lending to the sovereign""should be adopted in financing agriculture since the land will always be available as an underlying asset? An innovative model will go a long way in reducing the distress of the farming community, which is not able to obtain bank credit now due to crop failures. Similarly, in the context of those public sector banks, which have now become stronger and are in the process of returning the capital funds to the government, what should be the ideal structure for providing the benefit of such capital to the government, without impacting the balance sheet of the bank?

The author is a former chairman of the United Bank of India (UBI) and a former wholetime member of SEBI

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Building Strong Bank
Through Surveillance and Resolution

Charles Enoch, David Marston, and Michael Taylor
IMF; Price: $38; Pages: 389