Former Reserve Bank of India (RBI) governor Raghuram Rajan questioned the RBI Internal Working Group's recommendation allowing business houses to establish banks as a part of their proposed change. The opinion was also shared by Viral Acharya a former RBI deputy governor. As per a report in the Mint, the economist duo called the proposal a "bad idea" in a note published on Monday on LinkedIn. Criticizing the timing of the proposal they argued that the need for such a proposal is futile when "India is still trying to learn the lessons from failures like IL&FS & Yes Bank."

"Why is there an urgency to change the regulation? After all, committees are rarely set up out of the blue. Is there some dramatic change in perception that it is responding to?" the former RBI officials asked. The note further added, "Many technical rationalizations proposed by RBI's Internal Working Group are worth adopting, while its main recommendation, to allow Indian corporate houses into banking, is best left on the shelf."

Reserve Bank of India, New DelhiCredit: Reuters

Highlighting the whole process of lending if the corporates own banks, they also questioned, "The history of... connected lending is invariably disastrous -- how can the bank make good loans when it is owned by the borrower? Even an independent committed regulator, with all the information in the world, finds it difficult to be in every nook and corner of the financial system to stop poor lending."

Notably, On Monday, S&P Global Ratings also raised doubts over allowing corporate ownership in banks in the midst of major corporate defaults over the past several years, given India's poor corporate governance.

Raghuram Rajan
Former Reserve Bank of India Governor Raghuram Rajan.AFP

What did the RBI panel propose?

Last week an RBI panel indicated that large companies could be allowed to promote banks, as well as raising the ceiling on private sector banks' share of promoters to 26 percent, from the existing15 percent. In order to avoid related loans and exposures between banks and other financial and non-financial community entities, the RBI panel recommended that companies should be permitted to regulate banks after required amendments to the Banking Regulation Act, 1949. The RBI also proposed that it will be permitted to convert to a bank only well-managed NBFCs with over 10 years of experience and Rs. 50,000 crore of assets.