Double standard

The sordid face-off between the Punjab & Sind Bank (PSB) chairman and managing director (CMD) and the five "non-official" directors reminds us yet again of the huge gap in standards that prevail in the private and public sectors. Even as the corporate sector is being pushed by regulators to attain higher and higher standards of governance, disclosure and risk management, public enterprises appear to be falling deeper into a morass of management by patronage and whim. All five of the bank's non-official directors, who are, in theory, supposed to be independent custodians of the shareholders' interests, are perceived to have been appointed purely on the basis of their connections with the Congress party. This pattern goes beyond PSB; in all, 33 of the 37 directors of public sector banks are apparently there due to political patronage.

The exchange of allegations between the CMD and the directors will presumably be investigated at some level and the truth discovered. But, that will take its time. Meanwhile, there is a larger issue to be considered. The board of a corporation is charged with the responsibility of maintaining alignment between the interests of the various stakeholders in the company. This, according to the current wisdom, is most likely to be achieved when there is a minimum number of independent directors on the board, whose appointment is based on their professional competence and personal integrity. Their views and votes are not influenced by the need to protect the interests of any one stakeholder, particularly the majority or largest shareholder. This standard is embedded in Clause 49 of the listing agreement between companies and stock exchanges, and companies were given until the end of 2005 to meet it. In an ideal world, one might want public enterprises to set an example for the rest by complying with the standard both in letter and spirit. That outcome has long been discounted by cynical citizens. But, at the very least, one could have expected the political class to try and keep pace with the rising standards of governance in the private sector.

Banks are in a particularly sensitive situation when it comes to balancing between commerce and politics. On the one hand, increasingly stringent prudential norms require them to both lend very carefully and provide against potential losses conservatively. Lending based on patronage increases default risk as providing for default eats directly into profits. The financial viability of banks is threatened when the board decisions are motivated by patronage, whether on the part of politically connected directors or the management of the bank.

It is high time the major political parties recognised the damage that could be caused to the banking system by the way in which board members are appointed. A number of alternative mechanisms can be visualised, but they all must satisfy the criteria of identifying people who are qualified to do the job and have clean reputations. This should not, of course, automatically debar active or aspiring politicians. If politicians can act in accordance with the norms of corporate governance, they have every right to be appointed members of boards. But, if they cannot, then the government, by appointing them, is guilty of perpetrating the very fraud on shareholders that it is striving so hard to prevent private companies from doing. A double standard, if there ever was one.