The final part of a three-piece series on the early challenges confronting RBI Governor Sanjay Malhotra turns to regulation. The IndusInd Bank episode, still unravelling, offers a telling example of how the central bank responds to crises—and what it sometimes overlooks.

Issues in the banking system have recently come to the fore, following the IndusInd Bank quagmire. So, the unravelling of this issue and the way the Reserve Bank of India has dealt with it offers useful insights into the dos and don’ts of regulatory action.

The primary issue stemmed from currency derivative positions being incorrectly valued, resulting in a significant one-time loss estimated at around ₹23 billion. An investigation is currently underway by one of the Big 5 audit firms, though the report is yet to be completed and made public.

The bank also experienced some liquidity strain as anxious depositors began withdrawing funds. To manage this, it raised a substantial amount—₹160 billion, according to one report—largely from public sector banks.

The RBI issued a press release with “alacrity”—a word used by a very senior former regulator—reassuring the public about the bank’s solvency and comfortable liquidity position.

As a result, the RBI successfully contained the situation, preventing more severe consequences such as a run on the bank or a further decline in the bank’s share price, which has already halved from its peak and is yet to recover. Behind the scenes, the RBI directed all major banks to assess and appropriately value their derivative portfolios. These measures helped avert any contagion effect—there’s been no public concern or even a whisper suggesting this could become a systemic issue.

The RBI’s actions carry its familiar stamp: a preference for behind-the-scenes coordination, applying nudges or occasional pressure, rather than overt intervention. This approach aligns with the regulator’s usual operating style—quiet, strategic, and largely invisible to the public eye.

A key part of the RBI’s mandate is to build a safety net against systemic risks that could undermine confidence in the banking system and choke liquidity. Admittedly, this was a single-bank issue and therefore more manageable. Still, the RBI—and most global regulators—have previously faced crises that escalated into far larger problems.

Such examples include the liquidity stress triggered by the 2007–08 subprime mortgage crisis and the “taper tantrum” of 2013. Going further back, there was the 2000 World Trade Center attacks and their fallout, and even the 1992 Harshad Mehta scam, which led to a severe liquidity and confidence crisis.

In each case, the regulator had to step in—whether by injecting liquidity, as in 2007–08, or by supporting the currency, as in 2013. The quicker the response—or at least the signal of intent—the better the chances of containing or even preventing a full-blown crisis.
So yes, one could say: well played, RBI.

Where could it have done better?

To date, there has been no clear explanation of how the derivative positions were incorrectly valued—or how this escaped the notice of the bank’s management, board, auditors, and even the RBI. That clarity was needed early on.

It would also help to know at what level accountability lies. As a regulator, insisting on full transparency and disclosure from the bank’s management could have gone a long way in restoring public confidence.

To maintain credibility, regulators must be seen as taking fair and timely action. Typically, executives directly responsible for a business unit under investigation are asked to step aside or go on leave until the inquiry concludes. That hasn’t happened in this case, and the omission risks undermining trust in the process.

All in all, RBI Governor Sanjay Malhotra has likely had a steep learning curve—facing three separate challenges early in his term, though fortunately in manageable doses. Let’s hope the experience has equipped him well for whatever comes next.

The Part 1 of this series covered domestic interest rate and liquidity issues and Part 2 explored the central bank’s currency management strategy.