23 Oct 2022: UPSC Exam Comprehensive News Analysis

E. Editorials

Category: INTERNATIONAL RELATIONS

1. Why is Pakistan off FATF ‘grey list’?

Syllabus: Important international institutions, agencies, fora – their structure and mandate.

Mains: Pakistan’s status in the Grey list of FATF.

Prelims: Financial Action Task Force.

Context: Pakistan was moved out of the grey list of FATF. 

Details:

• The global watchdog on anti-money laundering(AML) and combating financing terrorism(CFT), the Financial Action Task Force(FATF), announced to take Pakistan out of the “grey list”. The countries that are categorized as grey list are under “enhanced monitoring”.
• Pakistan was grey listed in February 2018.
• FATF said that Pakistan made “significant progress” in this direction and improved legal and governance mechanisms. This can be attributed to the recent diplomatic efforts by Pakistan’s Foreign Minister and Army Chief General, who visited the United States in this regard. 
• In the recent plenary session (October 20-21, 2022), FATF members including India, reviewed the record of about 26 countries and unanimously agreed to take Nicaragua and Pakistan out of the “grey list”. However, Mozambique, The  Democratic Republic of Congo, and Tanzania were added to the “grey list”, whereas Myanmar was moved from the grey list to the black list because of the actions taken by the military junta since the overthrow of the elected government in a coup in February 2021.  

Background Details of FATF:

• The 39-member FATF was established in the year 1989 out of a G-7 meeting of developed nations. It comprises 37 countries and 2 regional organizations- the European Commission, the European Union’s executive body, and the Gulf Cooperation Council. 
• India joined it in 2006 with ‘observer’ status and became a full member in 2010. 
• In accordance with its mission statement, the members meet regularly to monitor various countries.
  • The mission statement is “review money laundering and terrorist financing techniques and counter-measures, and promote the adoption and implementation of the FATF Recommendations globally”. 
  • The decision-making body of the FATF or Plenary meets three times a year (February, June, and October) to review “Mutual Evaluation Reports” (MERs). If there are major deficiencies in the AML/CFT regime of a country, it is put under “jurisdictions under increased monitoring” termed as a grey list. If it further fails to address the concerns of FATF then it is placed on a “high-risk jurisdictions” popularly called as a “black list”. 
  • The countries which are placed on both lists face increasing levels of financial strictures. This listing is similar to global ratings and makes it difficult for the country to procure loans from financial organizations like the IMF, World Bank, Asian Development Bank, etc. Moreover, it is also difficult to invite investment from private companies and other countries.
  • The deliberations of the FATF are made in absolute secrecy, and its decisions should be made strictly on the basis of procedures and technicalities. 

For more information on FATF, read here: Financial Action Task Force (FATF) for the UPSC International Relations Syllabus

Pakistan’s case:

• Pakistan was on the “grey list” earlier from 2012-2015. 
• Pakistan was handed two action plans encompassing 34 points (27+7) since 2018. It recommended the country to formulate laws against money laundering and terror activities in line with international requirements. 
• Islamabad was also asked to maintain a database of terror groups operating on its soil and the actions that were taken against such groups. This has been reiterated from previous decades when terror groups like the Taliban, Al-Qaeda,  and Jaish-e-Mohammad operated freely, and designated terrorists like Hafiz Saeed and Masood Azhar took part in political processes and public rallies.
• Though Pakistan adopted various steps, a major sticking point or last item that remained was addressing by “demonstrating that terror finance investigations and [the] prosecution target senior leaders and commanders of UN-designated groups”. As per UNSC guidelines, member states should ensure that all designated terrorists are unable to access funds, arms, and travel, and such terrorists are duly and effectively prosecuted.
• In 2021 majority of Pakistan’s FATF reporting was about bringing terrorists like Hafiz Saeed, Zakiur Rehman Lakhvi (26/11 commander),  Sajid Mir (26/11 planner),  Rauf Asghar (IC-814 hijacking planner)to court and hold a conviction. However, it was claimed that it couldn’t trace JeM chief Masood Azhar could not be traced. He was wanted in a number of attacks like the 2001 Parliament attack, the J&K legislature bombing, strikes on military camps at Uri, Pathankot, and the Pulwama bombing in 2019. 
• At the June plenary session, the FATF visited Pakistan and reviewed it from August 31-September 2. It concluded that Pakistan’s measures were reflected “on the ground”. After this procedure, it was expected that at the October plenary, the country would receive praise and earn a reprieve for completing the action plans.  

India’s Reaction to the FATF decision:

• All FATF decisions are adopted by consensus. India being a member of the body has agreed to the decision and has conceded in a statement that because of FATF, Pakistan was “forced” to take “some action against well-known terrorists” even including those involved in the 26/11 Mumbai attack. 
• However, it was observed that India wanted more global checks on Pakistan.
• Some unease was also observed because the United States (U.S.), which has been consistently demanding action against Pakistan-sponsored terrorism, has become quite lenient in the last few months.
• The Indian government is preparing for its turn at FATF scrutiny or MER process that will begin in early 2023.

Related Links: Pakistan’s FATF Woes: RSTV Big Picture Analysis for UPSC IAS exam.

Nut Graf: Financial Action Task Force has unanimously taken the decision to take Pakistan out of the “grey list”, owing to the completion of the action plan by Pakistan. India being the party to the organization has agreed to the decision but seems a bit apprehensive.

Category: INDIAN ECONOMY

1. When does RBI step in to monitor a bank?

Syllabus: Mobilization of resources.

Mains: Banking sector- Dhanlaxmi bank issue

Prelims: Capital-adequacy-ratio, Prompt Corrective Action.

Context:  Dhanlaxmi Bank was placed under tight monitoring by the Reserve Bank of India (RBI). 

Details:

• Dhanlaxmi Bank, a Thrissur-based private bank has come under public scrutiny due to its financial position. The RBI has placed it under tight monitoring because of the intense court battle raised by a group of minority shareholders against the management team of the bank owing to a lack of financial disclosures, increasing expenses, and overall mismanagement. 
• It was highlighted that minority shareholders have arranged for an extraordinary general meeting in the upcoming month to curb the spending powers of the current chief executive officer(CEO), as the capital adequacy situation of the bank is deteriorating. 

Background Details:

• The capital-to-risk-weighted assets ratio (CRAR) of the bank reduced to nearly 13% in March 2022 from 14.5% earlier. It thus prompted RBI to take stock of the financial situation of the bank. 
  • According to Basel-III norms, banks are mandated to maintain the CRAR at 9% or above. 
•  It is also observed that the capital adequacy of Dhanlaxmi Bank has dropped below the set standards even in the past and was placed under the prompt corrective action framework (PCA) as a consequence of it.
  • If a bank is placed under the PCA, RBI monitors it closely and places several restrictions including the lending business. 

For more information on Prompt Corrective Action, read here: Prompt Corrective Action (PCA): Functions and Types

Importance of Capital Adequacy ratio:

• The capital adequacy ratio indicates the ability of a bank to survive in case of significant losses in its loan book. 
• A bank is unable to operate if the total asset value drops below the total liabilities value because it would decimate its capital (or net worth) and can make the bank insolvent. 
• The banking regulations like Basel-III norms closely monitor the changes in the capital adequacy of banks so that major bank failures can be prevented and their severe implications on the Indian economy can be mitigated. 
• The capital status of a bank should not be confused with cash held by a bank in its vaults.
• The CRAR is defined as a ratio that compares the value of the capital of the bank with the value of different assets weighted according to their risk. It is used to measure the risk of insolvency faced by a bank. 
• In other words, the CRAR measures the risk posed to the solvency of the bank by the asset quality on the balance sheet of the bank. 
• Considering Dhanlaxmi Bank, the write-down and reclassification of tier-2 bonds(considered equivalent to equity capital) is expected to adversely impact the bank’s capital adequacy ratio in the coming months.

Future course of action:

• Dhanlaxmi Bank is issuing additional shares in the open market using rights issues in order to deal with the situation. As a result, the bank might raise more equity capital from existing shareholders. The rights issue is different from the initial public offering, where the shares are issued to new shareholders. 
• The additional capital generation can help in raising the capital adequacy ratio and will serve as a buffer to absorb losses in case of a future crisis.
• However, the rights issue is getting postponed due to the court case. This might compromise the ability of the bank to follow the stipulated norms of RBI.
• The central bank will closely monitor Dhanlaxmi bank and might even intervene in case the delay of the rights issue threatens the bank’s ability to meet the capital adequacy norms.
• The Bank can also be considered an acquisition target by RBI.

Related Links: Banking Sector Reforms & Acts in India [Download List PDF]

Nut Graf: Dhanlaxmi bank has come under close monitoring by the Central Bank of the country as a consequence of its unmet capital adequacy ratio requirements. The ongoing legal battle between the minority shareholders and the management board of the Bank has further made matters complicated for the bank.