Corporate Governance in the Banking Sector: Principles, Committees, RBI Rules and Failures for RBI Grade B Finance

Last updated: 2026-11-13 · MockMentor

"Corporate Governance in Banking Sector" is a separate line of the General Topics unit in the RBI Grade B Phase 2 Finance syllabus, and it was flagged as a high-priority objective topic in recent papers. The questions cover the principles of good governance, committees such as Cadbury, Birla, Narayana Murthy, Kotak and P. J. Nayak, and RBI's rules on bank boards, chief executive tenure, pay and auditors. In descriptive papers, governance failures in banks and the case for reforming public sector bank boards are common. This chapter explains why governance matters more for banks than for other companies and how India regulates it.

In one line: corporate governance is the system by which a company is directed and controlled; in banks it matters even more because they use depositors' money and are highly leveraged, so RBI sets strict rules on board composition, independent directors, chief executive tenure, pay, risk management and audit.

Basic concepts

• Corporate governance: the system of rules, practices and processes by which a company is directed and controlled, balancing the interests of shareholders, management, customers, employees, lenders, regulators and society. The Cadbury Committee (1992) defined it as "the system by which companies are directed and controlled".
• Agency problem: the conflict of interest between owners (principals) and managers (agents), who may act in their own interest.
• Independent director: a non-executive director with no material relationship with the company, its promoters or management, who can judge decisions objectively.
• Stakeholders: all those affected by a company's actions, including depositors in the case of banks.
• Fit and proper criteria: standards of integrity, qualifications and experience that directors and owners of financial institutions must meet.
• Malus and clawback: malus lets a bank withhold deferred pay of an executive; clawback lets it recover pay already paid, in cases of misconduct or poor results.

Why in News?

1. In 2025, IndusInd Bank disclosed accounting discrepancies in its derivatives portfolio that hit its net worth, which led to the exit of its chief executive and renewed attention on internal controls and the role of boards and auditors in banks.
2. The Banking Laws (Amendment) Act, 2025 raised the limit for "substantial interest" in a company from ₹5 lakh to ₹2 crore, a threshold relevant to loans to directors and their interests, and allowed public sector banks to decide the pay of their auditors.
3. RBI has continued to enforce its 2021 directions on the governance of commercial banks, including tenure limits and age caps for chief executives and the requirement that board chairs be independent.
4. SEBI's amendments to its Listing Obligations and Disclosure Requirements (LODR) Regulations in 2023 and 2025 tightened disclosure of related-party transactions and material events for listed companies, including listed banks.

Why corporate governance matters more in banks

1. Depositors' money: banks run mainly on deposits, often from small savers, not on shareholders' money.
2. High leverage: a bank's equity is a small part of its assets, so small losses can wipe out capital.
3. Opacity: the quality of a bank's loans is hard for outsiders to judge.
4. Systemic importance: the failure of a bank can spread to others and to the economy.
5. Public safety net: deposit insurance and the central bank's support mean that taxpayers may bear losses.
6. Trust: banking rests on confidence, which governance failures destroy quickly.

Principles of corporate governance

OECD Principles

The Organisation for Economic Co-operation and Development (OECD) issued Principles of Corporate Governance in 1999, revised them in 2004, 2015 (as G20/OECD Principles) and 2023. They cover:

1. A framework that promotes transparent and fair markets.
2. The rights and fair treatment of shareholders.
3. The role of institutional investors and stock markets.
4. Disclosure and transparency.
5. The responsibilities of the board.
6. Sustainability and resilience (added in 2023).

Basel Committee guidelines for banks

The Basel Committee on Banking Supervision issued Corporate Governance Principles for Banks (2015), with 13 principles, including:

• The board's overall responsibility for the bank's strategy, risk appetite and culture.
• Board qualifications and composition, with enough independent directors.
• An independent risk management function led by a Chief Risk Officer.
• Strong compliance and internal audit functions.
• Compensation aligned with long-term risk, not short-term profits.
• Disclosure and transparency.
• The role of supervisors in assessing governance.

Core values

Accountability, transparency, fairness, responsibility and integrity are often summed up as the pillars of good governance.

Committees on corporate governance in India

Companies Act, 2013

The Act made several practices compulsory for companies:

• At least one-third of directors of listed companies must be independent.
• At least one woman director on the boards of listed and certain public companies.
• Audit, nomination and remuneration, and stakeholder relationship committees.
• A code of conduct for independent directors (Schedule IV).
• Rotation of auditors every five or ten years, depending on the type of auditor.
• Corporate social responsibility spending of 2% of average net profit for companies above thresholds.

Banks that are companies follow both the Companies Act and the Banking Regulation Act; where they conflict, the Banking Regulation Act prevails.

RBI's governance rules for banks

Board composition and directors

Board committees

Chief executives

RBI's directions of April 2021 for private sector banks and foreign bank subsidiaries:

• The managing director and chief executive officer (MD&CEO) or whole-time director can hold office for a maximum of 15 years continuously.
• A promoter or major shareholder who is MD&CEO can hold office for 12 years.
• Upper age limit of 70 years.
• After 15 years, a gap of three years before reappointment.

Compensation

RBI's guidelines on compensation (2019) for whole-time directors and key staff:

• At least 50% of total pay should be variable, linked to performance and risk.
• At least 60% of the variable pay should be deferred over at least three years.
• Variable pay can be in cash and share-linked instruments, with limits.
• Malus and clawback clauses must cover all variable pay.
• No guaranteed bonus, except a joining bonus in the first year.

Auditors

RBI's guidelines of 2021 on statutory auditors for banks and large NBFCs require:

• Appointment for a continuous period of three years, with a cooling-off period of six years before reappointment.
• Limits on the number of audits per firm and on non-audit services to the same client.
• Joint audits for large entities.

RBI also requires a Chief Compliance Officer with a fixed tenure and a direct line to the board, and a risk-based internal audit.

Public sector banks

Governance of public sector banks is shaped by their own laws, under which the government appoints the chairperson, executive directors and several directors.

• The Bank Board Bureau (2016), replaced by the Financial Services Institutions Bureau (FSIB) in 2022, recommends appointments of whole-time directors and chairs.
• The roles of chairperson and managing director were separated in 2014, with a non-executive chair.
• The EASE reform agenda has included governance and accountability measures.

Critics point out that government directors sit on boards, the government sets pay and many decisions require ministry approval, which limits board independence.

Ownership and governance

• RBI's ownership rules allow promoters of private banks to hold up to 26% of voting equity after 15 years, and cap voting rights of any shareholder at 26%.
• Acquisition of 5% or more of a bank's shares needs RBI's prior approval.
• Large industrial houses are not allowed to own banks, because of the risk of connected lending.

Case studies of governance failures

Benefits of good governance in banks

1. Protects depositors and maintains trust.
2. Leads to better risk management and fewer bad loans.
3. Lowers the cost of capital, as investors trust the bank.
4. Reduces frauds and misconduct.
5. Supports financial stability.

Challenges

• Government control limits the autonomy of public sector bank boards.
• Shortage of qualified, truly independent directors.
• Pressure for short-term profits and growth.
• Complex group structures that hide risks.
• Weak governance in cooperative banks, partly due to political influence.
• Cyber and conduct risks that boards may not fully understand.

Way forward

• Professionalise boards of public sector banks with independent, skilled directors and longer tenures for chief executives, as the P. J. Nayak Committee suggested.
• Strengthen the role of independent directors, with training and protection from undue liability.
• Align pay with long-term performance and risk.
• Improve the quality and independence of audit.
• Build a strong risk and compliance culture, led by the board.
• Bring cooperative banks under professional boards of management.

Possible exam and interview questions

1. Why is corporate governance more important in banks than in other companies? Discuss with reference to RBI's guidelines. (620 words)
2. What were the main recommendations of the P. J. Nayak Committee on the governance of bank boards? (420 words)
3. Explain RBI's rules on the tenure and pay of chief executives in private sector banks.
4. What lessons do the Yes Bank and PMC Bank cases hold for governance in Indian banking?
5. Interview: Should the roles of chairperson and chief executive always be separate?

Related reading: risk management and Basel norms, banking reforms and developments, and financial regulators.

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• Financial System
• Functions of RBI
• Banking System
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• Financial Institutions

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