Demystifying gaps and testing for convergence in bank regulations impacting the competitive environment: a case of India and its peers in BRICS
| Pages | 15-43 |
| Date | 17 June 2020 |
| Published date | 17 June 2020 |
| DOI | https://doi.org/10.1108/JFRC-01-2020-0005 |
| Subject Matter | Accounting & Finance,Financial risk/company failure,Financial compliance/regulation |
| Author | Rachita Gulati |
Demystifying gaps and testing for
convergence in bank regulations
impacting the competitive
environment: a case of India and
its peers in BRICS
Rachita Gulati
Department of Humanities and Social Sciences,
Indian Institute of Technology Roorkee, Roorkee, India
Abstract
Purpose –This study aims to demystify how the critical regulationsaffecting the bank competition have
instituted, amended and fine-tuned over the years in India and its peers in Brazil, Russia, India, China and
South Africa(BRICS). The gaps in the regulatory practices influencingbank contestability and competitionin
BRICS nations are identified. Also,the regulatory convergence is tested by comparing the policies embraced
in India vis-à-visits peer nations.
Design/methodology/approach –A methodological frameworkby Barth, Caprio and Levine (2013) is
adopted to construct various regulatoryindices. The empirical analysis is based on information availablein
five rounds of the bank regulation and supervisionsurvey conducted in 2000, 2003, 2007, 2011 and 2017 by
the World Bank.
Findings –The empirical findings elucidate that although bank entry regulations have been
liberalized over time, the bankcontestability seems to be low in the BRICS countries, especially in India.
This might be due to the substantial government ownership and the presence of notional powers that
are conferred to bank supervisors. On comparing the bank regulations in India vis-à-vis its pee rs, the
author find a strong convergence in licensing requirements for entry into the banking business, foreign
bank entry mode, restrictions on conglomerate formation and adoption of prompt corrective action
framework.
Practical implications –The study suggests that future policy initiatives in India need to focus on
redesigning the banking structure by reducing the share of state ownership, permitting joint ventures and
liberally allowing the entry of new domestic and foreign banks in the industry. In the years to come,
regulators in India will continuouslyface the challenge of fostering bank contestability withoutjeopardizing
bank efficiencyand overall stability.
Originality/value –This study is perhaps first of itskind, which analyzes the inter-temporal changes in
regulatory indicators to examine the variations in the competitive environment of the banking markets of
BRICS economiesin general and India in particular.
Keywords Banks, Competition, Bank regulation, BRICS, Bank regulation and supervision survey
Paper type Research paper
JEL classification –G18, G21, G28, E58
The author would like to thank anonymous referee(s) and Prof. Ashton, the editor of the journal, for
their valuable comments and critiques which helped to improve the quality of the paper
substantially. However, the usual disclaimers apply.
Case of India
and its peers in
BRICS
15
Received7 January 2020
Revised29 April 2020
Accepted12 May 2020
Journalof Financial Regulation
andCompliance
Vol.29 No. 1, 2021
pp. 15-43
© Emerald Publishing Limited
1358-1988
DOI 10.1108/JFRC-01-2020-0005
The current issue and full text archive of this journal is available on Emerald Insight at:
https://www.emerald.com/insight/1358-1988.htm
1. Introduction
There is hardly any refute of this prevalent notion that higher bank competition leads to
welfare gains through the reduction in monopoly power and creation of an efficient
intermediation process, which is characterized by a lowering of financial intermediation
costs, higher loan quantitiesand a more extensive range of financialservices (Podpiera et al.,
2008;Leon, 2015). In an empirical study, Anginer et al. (2014) find that greater competition
encourages banks to take on more diversified risks, thus, makes the banking system less
fragile to shocks. They also infer that banking systems are more fragile in countrieswhere
regulations restrict bank competition. In light of their argument, a diligent regulatory and
institutional framework is a sine-qua-non for creating and maintaining a competitive
environment within the banking system. The presence of a competitive environment not
only prompts the banks to operate efficiently and reduce intermediation costs but also
facilitates them to innovate. Nevertheless, there is no clear view of what is a standardset of
regulations that is universallyaccepted as an appropriate setting for obtaining an optimum
level of bank competition. In this context, Casu et al. (2016) argue that regulatory measures
that will enhance competition in some countries might not constitute best practice in other
countries that havedifferent institutional settings.
To design an optimal regulatory architecture and foster competition among banks, the
policymakers in India andits peers in Brazil, Russia, India, China and South Africa(BRICS)
have embraced a variety of financial deregulation, prudential regulation and re-regulation
and supervisory measures since the late 1990s. In particular, the regulations that limit the
control on bank entry and exit practices have either amended or introduced over time to
bring a sufficient level of contestability in the market. In addition, the extreme stress on
banking systems of BRICS due to the eruption of the global financial crisis of 2007-2009
compelled the regulators to re-think about the efficacy of the existing regulatory
frameworks. The disruptions caused by the crisis also prompted them to fine-tune the
existing set of regulations with a clear objective of limiting the fragility and creating a
competitive environment in the banking systems. In addition, the strict compliance of
regulations has been stressed to equip the banking systems for weathering any financial
storm in the future.
Against this background, the foremostaim of the present study is to demystify how the
critical regulations affecting the bank competition have instituted, amended and fine-tuned
over the years in India and its peers in BRICS. For meeting this objective, we follow an
approach suggested by Demirgüç-Kunt and Peria (2010), which relies on examining the
changes in the bank entry and exit regulations that can exert a significant impact on
banking sector contestability and competition. In particular, we compute different
regulatory indices using the methodology of Barth et al. (2013) and see the changes in the
values of these indices at five different points of time, i.e. 2000, 2003, 2007, 2011 and 2017.
The data information is culled out from all the five rounds of the bank regulation and
supervision survey (2000, 2003, 2007, 2011 and 2017)conducted by the World Bank (World
Bank, 2019a). The secondary objective of this study is to identify gaps in the regulatory
practices influencing bank contestability and competition in BRICS nations. Also, we focus
on regulatory convergenceacross the banking markets of BRICS.
Our contribution to the existingliterature is three-fold. First, this study is first of its kind,
which analyzes the inter-temporal changes in regulatory indicators to examine the
variations in the competitiveenvironment of the banking markets of emerging economiesin
general and India in particular. Morespecifically, we focus on key bank regulations (such as
entry requirements for a new bank; activity restrictions; the power of supervisor to close,
restructure and declare a bank as insolvent; the extent of government ownershipin a bank;
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