The Banking Regulation Act, of 1949 empowers the Reserve Bank of India to inspect and supervise commercial banks. These powers are exercised through on-site inspection and off-site surveillance.
The Reserve Bank of India (RBI) conducts inspections of commercial banks to ensure that they are adhering to regulations, maintaining financial discipline, and safeguarding depositors’ interests. The RBI’s inspection process includes comprehensive inspection to evaluate the bank’s financial health and operational efficiency. The regulator may also carry out a surprise inspection of any bank at any time at irregular intervals under Section 35 of the Banking Regulation Act. RBI can also scrutinize the affairs of any banking company and report on any inspection or scrutiny to the Central Government.
The Central Bank conducts annual on-site inspections of banks, including their head office, controlling offices, and certain specified branches. RBI inspection of banks includes ‘Annual Financial Inspection (AFI)’ to evaluate the bank’s financial health and operational efficiency. The AFI is based on the CAMELS model, which stands for capital adequacy, asset quality, management, earning, liquidity, and system and control.
‘Risk Based Inspection/Audit (RBIA)’ of RBI provides an independent opinion on whether the bank is properly managing its business processes and risks. The RBIA methodology and procedures are reviewed and developed periodically to ensure that the bank is assessing risks correctly, identifying, monitoring, and reporting significant risks effectively, and mitigating risks through establishing an appropriate risk management framework
‘Thematic inspections’ are conducted when red flags are raised or as follow-ups to earlier inspections. They may cover topics such as fraud, non-performing assets (NPAs), KYC, and money laundering.
Off-site surveillance: The primary objective of off-site surveillance is to monitor the financial health of banks between two on-site inspections, identifying banks that show financial deterioration and would be a source of supervisory concerns. This acts as a trigger for timely remedial action. In December 1995, the first tranche of off-site returns was introduced with five quarterly returns for all commercial banks operating in India and two half-yearly returns each on connected and related lending and profile of ownership, control, and management for domestic banks. The second tranche of four quarterly returns for monitoring asset-liability management covering liquidity and interest rate risk for domestic currency and foreign currencies was introduced in June 1999. The Reserve Bank reduced this periodicity with effect from April 1, 2000.
Corporate Governance:
To strengthen the corporate governance and internal control function in banks, RBI has initiated several steps, such as the introduction of a concurrent audit system, the constitution of an independent audit committee of the board, the appointment of RBI nominees on banks’ boards, and the creation of a compliance officer post. Besides, the Reserve Bank monitors the implementation of recommendations of the Jilani Committee relating to internal control systems in banks on an ongoing basis during the annual financial inspection of banks.
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