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RBI Urges Strengthening of Financial Institutions Amid Evolving Risks


The Reserve Bank of India (RBI) recently released its
“Trend and Progress of Banking in India 2022-23” report, highlighting the need for financial institutions, including banks and non-banking financial companies (NBFCs), to bolster their balance sheets and enhance governance and risk management practices. The report emphasizes the importance of mitigating risks associated with fraud, data breaches, and reliance on certain risk models.   

Strengthening Balance Sheets and Governance   

The report commends the sound and resilient state of the Indian banking system and NBFCs, attributing this strength to high capital ratios, improving asset quality, and robust earnings growth. However, it calls for concerted efforts from stakeholders to protect the financial sector from the rising threats of fraud and data breaches, particularly from cyber threats.   

The RBI recommends a broadening of fundraising sources for NBFCs to reduce reliance on banks, thereby diversifying risk exposure. It underscores the necessity for both banks and NBFCs to fortify their balance sheets through robust governance and risk management practices, aligning with the growing aspirations of the Indian economy.   

Caution Against Risk Models from Fintech Collaborations   

The central bank has cautioned against undue reliance on risk models based on pre-set algorithms, especially those emerging from collaborations with fintech companies. It emphasizes the need for the robustness of such models, advocating periodic testing of their resilience.   

To address biases in underwriting algorithms, the RBI suggests that algorithms should be built on accurate and diverse data sets. The regulator stresses the importance of auditing these algorithms to identify minimum underwriting standards and potential discrimination factors.   

Mitigating Risks in AI/ML Outcomes   

Recognizing the risks associated with artificial intelligence (AI) and machine learning (ML) outcomes, the RBI highlights the need for lenders to adopt ethical AI. The report encourages a balance between the benefits and risks, with a focus on strengthening the capacity of regulated entities, updating legal and regulatory frameworks, and engaging stakeholders to identify potential risks.   

Transparency in Fintech Sector 

In a move toward transparency in the fintech sector, the RBI plans to establish a fintech repository by April of the upcoming year. The repository aims to capture information about the activities, products, technology stack, and financial details of fintech companies. Fintechs are encouraged to voluntarily provide relevant information to the repository, promoting best practices within the sector. 

The RBI’s latest report and advisories underscore the central bank’s commitment to ensuring the resilience of the banking and financial sector in India. By focusing on robust governance, risk management practices, and ethical AI adoption, the RBI aims to strike a balance between reaping the benefits of technological advancements and mitigating associated risks. The upcoming fintech repository is expected to further contribute to transparency and informed decision-making in the evolving financial landscape.

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