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January 01, 2006
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January 01, 2006

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Home > 2006 Issues > January 01, 2006

Consumer interest
Be careful before depositing your money in co-operative banks

By Nitin Saxena

In our country, virtually any Tom, Dick and Harry can become an investment consultant whether it is a real estate business, fixed deposit business or stock market?because there are no regulatory controls worth the name. The public tends to easily fall for the high-tech advertisements in print and electronic media. It seems like any person can float a company and accept deposits from the public?no other country in the world offers as many opportunities to its citizens to invest their hard-earned money as we do.

The Reserve Bank of India has introduced many guidelines and imposed many restrictions on NBFCs, chit fund companies and co-operatives banks, but in spite of that they are discovering ways to get around the guidelines. In India, bank deposits are insured for up to Rs 1 lakh per depositor, whereas NBFC and chit fund company deposits are not insured. Bank deposits are no doubt secured to a certain extent with good limited returns, whereas NBFC and chit fund company deposits are highly unsecured with good returns. The argument, therefore, goes that one must blame the greedy investor rather than the regulator. If investors exercise a little care and application, they would not invest in fly-by-night companies. But due to poor education, and lack of knowledge, the authorities should visualise such situations and issue strict restrictions after careful analysis. The investor?s greed for more returns cannot absolve the regulators of the responsibility of effectively discharging their duty. The effective enforcement of existing laws will certainly go a long way in preventing scams. Investors in fixed-deposit schemes should always remember that no cooperative bank or NBFC would pay high returns to investors from its coffers. In order to maintain high returns, co-operative banks, NBFCs or chit fund companies have to invest in high-risk areas like, stock market, real estate business, Bollywood projects, etc. It is only natural that if their project/stock market/real estate market fails to take off, they are not in a position to return the investor?s money.

In order to pay higher rates of interest to depositors, commercial banks also tend to lend money at higher rates. Borrowers with genuine credentials, who are engaged in regular business activities, will always be able to raise money at lower rates. Only second rate companies or fly-by-night operators, who can?t get loans elsewhere, raise money from these banks by paying higher rates of interest. Such borrowings are risky. The question then arises: Are FDs of co-operative banks safe, and are they backed by government guarantees? The answer is partly yes and partly no. Co-operative banks are an offshoot of the co-operative movement, and have a strong presence in Maharashtra, Gujarat, Andhra Pradesh, Tamil Nadu, Madhya Pradesh, etc. They were started with the objective of providing financial assistance to needy farmers and also for liberating them from the clutches of money lenders.

Are FDs of co-operative banks safe, and are they backed by government guarantees? The answer is partly yes and partly no.

It is easy to start such banks. Any group of 500 persons, by pooling around Rs 25 lakh, can start a co-operative bank in a town, if its population is around one lakh. If a city/town?s population is more than a lakh, then the minimum capital required is Rs 4 crore and number of members should be at least 3,000. The government has no stake in a co-operative bank. In the case of nationalised banks or financial institutions, the government?s stake is very high. So in case of any problem, the government steps in with a bailout package, as happened in the case of UTI, IFCI, Indian Bank, etc. Fixed deposits of co-operative banks and commercial banks are no doubt covered by Deposit Insurance and Credit Guarantee Corporation (DICGC) up to Rs 1 lakh per individual per bank. The guarantee cover extended by DICGC assures that in case any bank fails to pay the deposit as promised DICGC will step in and make payment up to a maximum of one lakh only.

The assurance will certainly give a kind of comfort to depositors. But one should read between the lines, DICGC would pay only Rs 1 lakh per individual per bank. The Indian stock market has witnessed several scams in its history. The market is touching all-time high and market is crossing unexpected limits. A sort of fear has started gripping the depositors of co-operative banks throughout the country. The reason behind this fear is that on earlier occasions whenever scams in the share market have taken place, the money from these co-operative banks have been found to be invested in the share-market. The Securities and Exchange Board of India has not taken concrete measures to detect the source of finance that is being used in the stock market. Market analysts warned that if immediate steps are not taken to find out the unknown source of the huge financial investment made in the stock market, small investors will soon be trapped again in the event of a stock market crash.

(The writer can be contacted at N-11/3, DLF II, Gurgaon.)

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