Author: Vanshika Mangla, Christ university, Bangalore
ABSTRACT
The article deals with the PNB scam, highlighting its repercussions on the financial stability and reputation of the bank. It deeply analyses the fraudulent activities undertook by the officials of the bank such as issuing Letter of Understanding without keeping collateral as security, etc. The article further discusses the way in which RBI tackled the situation, by bringing into picture stricter regulations to prevent such frauds. It underscores the importance of effective risk management practices and banking oversight to uphold trust in India’s banking sector.
ARTICLE
The PNB scam (Nirav Modi case) is considered to be the biggest fraud case in the history of India’s banking system. The scam was conducted by Nirav Modi and his uncle in collaboration with two bank officials at the Punjab National Bank. The scam was carried on by the Punjab National Bank officials by issuing unauthorized Letter of Understanding (LoU) to Nirav Modi without keeping any collateral security and no credit limit was endorsed. Further, these transactions were not recorded in the Core Banking System (CBS) which is a system for keeping records of transactions of the banks. While making the entry of the transaction, a lower amount was quoted in the records. Although the Letter of Understanding was issued for granting loans related to import purposes, the same was misused by Nirav Modi for settling the previous loans. Moreover, the SWIFT system was used by the officials which is a messaging network used by banks all over the world to correctly and safely send and receive financial information to one another. The SWIFT system has no connection with the CBS system, which was taken advantage of by Nirav Modi to use unauthorized Letter of Understanding to take loans from banks abroad. As the Letter of Understanding stands as a guarantee by the bank issuing it with respect to the settlement of loans by the debtor, the foreign banks issue loans to the debtors based on the Letter of Understanding. The same happened in the Punjab National Bank scam. As the officials of PNB had issued unauthorized Letter of Understanding to Nirav Modi, the foreign banks trusting their Indian counterparts granted loans to Nirav Modi and his firms.
The scam was discovered when one of the corrupt PNB officials retired and a new official was appointed. As per the norms, for granting the Letter of Understanding, he asked Nirav Modi to keep a collateral as security. This is when he discovered that Nirav Modi was being issued the Letter of Understanding for several years without asking for collateral as security. This led to the exposure of the scam carried on for several years by Nirav Modi and the officials of the Punjab National Bank. After this, the foreign banks who had given loans to Nirav Modi on the basis of the Letter of Understanding issued by the Punjab National Bank approached Punjab National Bank. This led to internal investigations but no records of the transactions were found as the officials did not make entries of the same in the CBS.
On 29th January, 2018, Punjab National Bank then filed a police complaint regarding the scam done by its officials. On 5th February, 2018, the bank informed SEBI that it had proceeded with the internal investigation process. Later, CBI took over the investigation proceedings. On 14th February, 2018, the Punjab National Bank announced a fraud of Rs 11, 400 Crores. On 17th February, 2018, CBI issued warrants against the two officials of the Punjab National Bank who were involved in the fraud. Diamonds, gold, etc. were seized from Nirav Modi’s house. On 20th February, 2018, the share prices of PNB took a dip due to fear in the public because of the scam. On 21st February, 2018, CBI initiated to take into custody the officials of the bank who were involved in the scam. Further, on 23rd February, 2018, the independent auditors were appointed by the Institute of Chartered Accountants for looking into the scam. On 1st March, 2018, an internal auditor of the Punjab National Bank was arrested for manipulating the audit system of the bank. On 26th June, 2018, the Mumbai court issued an order against Nirav Modii holding him guilty for offences under Prevention of Money Laundering Act. 2002. As Nirav Modi was not in India at that time, on 3rd August, 2018, the Indian government requested the UK government for the emigration of Nirav Modi back to India to face the trial. On 25th February, 2019, as per the request of the Indian Government, UK court allowed for the deport of Nirav Modi to India to face the trial against him.
Nirav Modi faced the following charges:
Money laundering charges under Section 3 and 4 of Prevention of Money Laundering Act, 2002
Corruption charges under Section 7A and 8 of Prevention of Corruption Act, 1988
Criminal breach of trust under Section 409 0f IPC
Cheating under Section 420 of IPC, etc.
IMPLICATIONS OF THE PNB SCAM-
PNB suffered tremendously due to this scam. Firstly, there was damage to its reputation as the scam raised concerns regarding the risk management practice which was being followed in the bank. Further, there was increased Non-Performing Assets (NPA) of Punjab National Bank. Additionally, there was loss of around Rs. 14,000 Crores to the bank.
RBI came up with stringent regulations with respect to the issuance of the Letter of Understanding by the banks. RBI sent a notice restricting the banks from issuing any Letter of Understanding to the debtors to ensure that such misuse of the facility does not occur again. Further, RBI ordered the connection of the SWIFT system with the CBS system to avoid such frauds in the future. Strengthening risk management framework was one of the recommendations with the mechanism of checks and balances. Enhancing regulatory oversight was the need of the hour which was another implication of the PNB scam case. Further, an expert committee was set up by RBI to investigate into such matters to avoid frauds in the future. Also, Prompt Corrective Action (PCA) was enforced by RBI to encourage banks to not indulge in risky bank practices. Moreover, with respect to the SWIFT system, RBI ordered the banks to tighten the use of the same and ordered banks to provide an added layer of security on transactions of amount which are more than the prescribed amount.
CONCLUSION
The PNB scam highlighted the loopholes which were existing in the banking oversight and risk management practices undertaken by the bank, which resulted in financial losses and damage to its reputation. It highlighted the need for stronger control. This scam led to RBI bringing into picture certain stringent guidelines and regulations to ensure that such frauds do not occur in the future. Some of the measures are setting up of an expert committee, regulations with respect to the issuance of Letter of Understanding, etc. Hence the case underscored the need to ensure regulatory scrutiny to maintain public trust in the banking institutions of the country.
FAQ
Q1. What is the PNB scam?
A1. The PNB scam involving Nirav Modi is the biggest fraud case in the history of India’s banking system. It involved misusing of loopholes present in the bank’s system and issuing unauthorized Letter of Understanding to secure loans from foreign banks without keeping collateral as security.
Q2. What were the consequences of the scam?
A2. The scam resulted in financial losses to PNB, damage to their reputation along with increase in their NPA.
Q3. What actions were taken against Nirav Modi?
A3. Legal proceedings were initiated against him where he was held liable for various charges including money laundering, corruption, cheating, etc.
Q4. How did RBI respond to the scam?
A4. RBI brought strict regulations like connection between SWIFT system and CBS system, ordering the banks not to issue LoU, etc.
Q5. How could the scam have been prevented?
A5. The scam could’ve been prevented if there was an appropriate risk management system and banking oversight.
