Prof. Jayanth R. Varma’s Financial Markets Blog

A blog on financial markets and their regulation

Indian Financial Stability and Development Council

I wrote a column
in the Financial Express today about the proposal to
create a Financial Stability and Development Council in India as a
potential precursor to an apex regulatory body.

The announcement in the Budget speech this year about the setting
up of a Financial Stability and Development Council (FSDC) has revived
the long-standing debate about an apex regulatory body. Much of the
debate on FSDC has focused on the politically important but
economically trivial question of the chairmanship of the council. I
care little about who heads FSDC—I care more about whether it
has a permanent and independent secretariat. And I care far more about
what the FSDC does.

The global financial crisis has highlighted weaknesses in the
regulatory architecture around the world. Neither the unified
regulator of the UK nor the highly fragmented regulators of the US
came out with flying colours in dealing with the crisis. Everywhere,
the crisis has brought to the fore the problems of regulatory overlap
and underlap. In every country, there are areas where multiple
regulators are fighting turf wars over one set of issues, while more
pressing regulatory issues fall outside the mandate of any
regulator. Regulation and supervision of systemically important
financial conglomerates is an area seen as critical in the aftermath
of the crisis. It is an area that has been highly problematic in

The most important failure (and bail-out) of a systemically
important financial institution in India in recent times was the
rescue of UTI, which did not completely fall under any
regulator’s jurisdiction. The most systemically important
financial institution in India today is probably the LIC, whose
primary regulator has struggled to assert full regulatory jurisdiction
over it. Even the remaining three or four systemically critical
financial conglomerates in India are not subject to adequate
consolidated financial supervision. The global crisis has shown that
the concept of a lead regulator as a substitute for effective
consolidated supervision is a cruel joke. The court examiner’s
report in the Lehman bankruptcy released this month describes in
detail how the ‘consolidated supervision’ by the US SEC of
the non-broker-dealer activities of Lehman descended into a
farce. Even before that we knew what happened when a thrift regulator
supervised the derivative activities of AIG.

Consolidated supervision means a lot more than just taking a
cursory look at the consolidated balance sheet of a financial
conglomerate. An important lesson from the global crisis is that we
must abandon the silly idea that effective supervision can be done
without a good understanding of each of the key businesses of the
conglomerate. High-level consolidated supervision of the top five or
top ten financial conglomerates is, I think, the most important
function that the FSDC should perform drawing on the resources of all
the sectoral regulators as well as the staff of its own permanent

Another important function is that of monitoring regulatory gaps
and taking corrective action at an early stage. Unregulated or
inadequately supervised segments of the financial sector are often the
source of major problems. Globally, we have seen the important role
played by under-regulated mortgage brokers in the sub-prime

In India, we have seen the same phenomenon in the case of
cooperative banks, plantation companies and accounting/auditing
deficiencies in the corporate sector. Cooperative banks were
historically under-regulated because RBI believed that their primary
regulator was the registrar of cooperative societies. The registrar,
of course, did not bother about prudential regulation. Similarly, in
the mid-1990s, plantation companies and other collective investment
schemes were regulated neither as mutual funds nor as depository
institutions. Only after thousands of investors had been defrauded was
the regulatory jurisdiction clarified.

As far as accounting and auditing review is concerned, the
regulatory vacuum has not been filled even after our experience with
Satyam. Neither Sebi nor the registrar of companies undertakes the
important task of reviewing published accounting statements for
conformity with accounting standards. There is an urgent need for a
body like FSDC that systematically identifies these regulatory gaps
and develops legislative, administrative and technical solutions to
these problems. By contrast, I believe that the role of
‘coordination’ between regulators emphasised in the
current title of the high-level coordination committee is the least
important role of an FSDC. Some degree of competition and even turf
war between two regulators is a healthy regulatory dynamic.

At a crunch, I do not see anything wrong in a dispute between two
regulators (or between one regulator and regulatees of another
regulator) being resolved in the courts. After all, the Indian
constitution gives the judiciary the power to resolve disputes even
between two governments!

My favourite example from the US is the court battle between the
SEC and the derivative exchanges (supported by their regulator, the
CFTC) that led to the introduction of index futures in that country. A
truly independent regulator should be able and willing to go to court
against another arm of the government in order to perform its


9 responses to “Indian Financial Stability and Development Council

  1. Vishnubharath M March 31, 2010 at 5:12 am

    Stability is the need of the hour. Financial stability can be effectively addressed by an independent body only when the underlying systems are robust. Technology and social approach to capitalism(the existing structure) seem to be the only solution

    • Harsh Goyal February 18, 2011 at 12:04 pm

      respected sir,
      you are absoulty right here..i would like to ask one more thing and add here..why dont we add Mangment information system in making it rebust.this system would help us in analysising and exploring new ideas and make it effective and efficient while working in all sphere of area specially in country like INDIA where so much area is to be focused at the same time and have to undergo with coordinations and cooperations.we have ample of fields to do but we are lacking an authority while will keep track an eye on mangment information technology and system…all we know that every system has some cons but to make it again on the track is very improtant..everycountry face situations like india earliest or later but they all are emoploying sphisticated MIS system that would make them more i would like to advocate a national mangment system which will govern all sphere of indian sub-continent and work with the same downline with its respective auhtority..i want to be a part of that auhtority..its very appreciable step that has taken by govt to set up FSDC and to bring the UDIAI into picture…that would be more effective.this is wht i think…

      thank you so much for listening me..


  2. harsh goyal February 18, 2011 at 12:06 pm

    this is true….well said..

  3. sagar March 7, 2011 at 11:03 am

    Very well written Jayanth. I was doing some research on FSDC and your article was really helpful

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