The ostensible reason for the ordinance issued by the Central Government on June 18 was to end an unseemly dispute between two financial sector regulators — the Securities and Exchange Board of India and the Insurance Regulatory and Development Authority.
However, the Finance Minister's intervention, which came earlier, helped in settling the dispute. For about two months before the promulgation of the ordinance, the two regulators had claimed regulatory jurisdiction over unit-linked insurance plans (ULIPs), a highly popular hybrid financial product marketed by the insurance companies.
IRDA's new steps
The SEBI's case that ULIPs with a large investment component were oriented more towards the capital market than to life insurance and, therefore, should be regulated by it and not by the insurance regulator was overruled. The jurisdiction over ULIPs and similar products having an insurance component was entrusted to the IRDA, though the insurance component is much smaller than the investment component.
Subsequently, the IRDA has acted fast to prune the commissions insurance agents get and the practice of front loading them in the first year of the ULIP. The agents will now earn lower commission over a longer period. These steps are part of an overhaul of ULIPs and bring them closer to mutual funds which they closely resemble. SEBI, which regulates mutual funds, had wanted jurisdiction over the ULIPs to bring about a level of uniformity although a full convergence was probably not on, given the sharply varying practices.
ULIPs now a side show
The fracas over ULIPs has become far less topical than the huge controversy over the government moves to deal with similar situations. It is alleged that the government has used the ULIP controversy to effect far reaching changes in India's financial regulatory set up. The ordinance has been the starting point. To pre-empt the occurrence of such disputes and adjudicate if necessary on future ones, the government has proposed a high-level committee comprising all the financial sector regulators and chaired by the Finance Minister. It is this more than any other feature of the ordinance that has become highly controversial.
According to many critics, the government seems to be rearranging the pecking order of financial sector regulators. The Reserve Bank of India, the oldest regulator and also the monetary authority, seems to be placed on a par with other regulators instead of being the pre-eminent regulator, especially in monitoring financial stability. The RBI Governor has apparently recorded his opposition and suggested that the ordinance be allowed to lapse.
At a very basic level it is not clear why a new institutional mechanism to adjudicate regulatory disputes is needed. Instances of high-profile disputes such as the one over ULIPs are rare. If they do occur the existing high-level committee presided over by the RBI should be able to tackle them and prevent them from escalating into a major crisis. Also, as in all developed markets, there are different levels of informal communication between the regulators and the government.
An even more substantial criticism is that the government is trying to effect a regulatory capture by undermining the autonomy of the regulators. The fact that the new body will be chaired by the Finance Minister and have the Finance Secretary as its convenor smacks of a possible bureaucratic take over of the regulatory apparatus. That is not warranted given the worldwide trend toward independence of the regulators. Besides, the set up in India has acquitted itself creditably during the crisis and has been considered worthy of emulation elsewhere in the world.
Recent government clarifications do not go far in allaying what seem to be genuine apprehensions of the central bank. Regulatory disputes will be taken up by the statutory committee only after regulators have failed to find a solution at the existing high-level committee on financial markets headed by the RBI Governor. In any case the committee cannot take up cases suo motu and will only consider those referred to it by one or other of the regulators.
Moreover, the government has claimed that the proposal is in line with the budget announcement to create a new Financial Stability and Development Council that will monitor macro prudential supervision, including the functioning of large conglomerates, and address inter-regulatory concerns. Even at that time, it was feared that the Finance Minister's proposal would lead to a loss of autonomy of the regulators and greater government interference in critical areas.
Rather than set up a new statutory body, the government could have, in consultation with the regulators, provided greater role clarity to the existing high-level committee and, if need be, legislate its powers.
The world over, it is recognised that central banks are the best equipped to address issues of financial stability. Directly or indirectly the government should not do anything to undermine the autonomy of the RBI and other regulators.