Government of India Volume I: Analysis and Recommendations

THE TASKS OF FINANCIAL LAW
2.5. Ownership neutrality and competition
The Indian financial system has an array of firms: co-operatives, private Indian firms, foreign
firms and public sector firms. The Commission envisages a regulatory framework
where governance standards for regulated entities will not depend on the form of organisation
of the financial firm or its ownership structure. This will yield ‘competitive neutrality’.
In this framework, the regulatory treatment of companies, co-operatives and partnerships;
public and private financial firms; and domestic and foreign firms, will be identical.
2.5.1. Treatment of foreign firms
Whether or not, or the extent to which, participation by foreign firms should be allowed
in the financial sector is a policy matter to be determined by the Government. However,
once a decision to allow foreign participation in a particular financial market has been
made, there should be consistency in the regulatory treatment of foreign and domestic
participants performing similar functions or undertaking similar risks in the market.
For example, if the foreign investment policy for a particular sector permits wholly
owned foreign subsidiaries, the regulator must ensure that the net worth requirements,
capital adequacy norms, investment limits and all other regulatory interventions should
be the same for foreign subsidiaries and domestically owned firms.
Hence, the Commission recommends, under the capital controls framework of the
draft Code, that subject to control restrictions as prescribed, there should be full national
treatment for foreign firms.
2.5.2. Public sector financial institutions
The future of public sector financial firms is an important policy question which will shape
the contours of Indian finance. In coming decades, public sector financial firms are likely
to continue to be with us. The Commission has therefore identified three elements in the
treatment of these firms:
1. Public sector financial firms require effective regulation and supervision. If there are problems
with these firms, they impose costs upon the exchequer. Improvements in regulation and supervision
will reduce the potential problems faced with public sector ownership.
2. At the same time, the draft Code emphasises the principles of equal treatment and a pro-competitive
environment.
3. To the extent that competition concerns in the financial sector arise on account of existing laws
that confer special privileges on state-owned enterprises, the Commission recommends amendments
to the laws to create a level playing field between regulated entities, irrespective of their
ownership structure.
The goal of achieving competitive neutrality in the financial sector necessarily involves
a rethinking of laws such as the State Bank of India Act, 1955 and the Life Insurance
Corporation Act, 1956, that were enacted to create specific financial institutions. These
laws contain provisions that vary or exclude the applicability of general corporate and
financial laws to the institutions created under them. They also confer special privileges
as seen in the case of the explicit Government guarantee under the Life Insurance Corporation
Act, 1956, for all sums assured under LIC policies. The existence of such a provision
in the law despite the entry of private insurers in the market induces an unfair competitive
advantage in favour of LIC as many customers would tend to choose its policies over
those offered by private insurers on account of the Government guarantee.
The Commission therefore recommends the repeal or large scale amendment of all
special legislations that (a) establish statutory financial institutions; or (b) lay down specific
provisions to govern any aspect of the operation or functioning of public sector financial
institutions (see Table 2.1). The undertakings of all statutory institutions should
FINANCIAL SECTOR LEGISLATIVE REFORMS COMMISSION 17