Discretion as Policy: RBI’s Strategic Sovereignty and New Foreign Banking Framework

[Shivanshu is a student at Chanakya National Law University.]

On 7 June 2025, the Reserve Bank of India (RBI) signaled an important shift in India's financial regulatory framework. At the post-monetary policy press conference, RBI Governor Sanjay Malhotra stressed that, while the 15% restriction on foreign ownership in private sector banks remains actually in place, the RBI reserves the right to approve exceptions “on a case-by-case basis.” He explained that, “There is no change in this anytime soon,” yet “we need owners and managers who are trustworthy.” This seemingly benign comment signaled a change from rule-bound regulation to judgment-based governance, which is both subtle and significant.

In essence, the RBI is now wanting to select the best partners to be involved in India’s foreign policy. As a result, the central bank can consider both the numbers involved and the level of foreign capital’s reliability, compatibility with local rules, and its influence on the whole economy. With this model, the country governs the industry and allows international partners whose actions help protect the nation’s economy.

The approach is already being used in daily activities. Within weeks of that, the RBI approved a 20% stake in Yes Bank to Sumitomo Mitsui Banking Corporation (SMBC), which exceeds the permitted level. Instead of changing the law, the central bank made the decision and approved RIL’s application using the ‘fit and proper’ rules. The central bank did not change the regulation, but it applied it more carefully and precisely. The way such moves are now made demonstrates a change from simply letting everyone in to selecting who to include.

SMBC–Yes Bank: Strategic Capital, Not Passive Investment

The deal worth INR 13,483 crore (about USD 1.58 billion) from SMBC–Yes Bank shows the direction India’s attracting foreign capital has taken. SMBC got the shares they needed when SBI and other public sector banks sold some of their shares. Since the stake held by SMBC remained below 25%, the company avoided extra requirements, although it kept its strategic significance.

This investment was not accepted only because of the amount of money involved. Besides checking its finances, the RBI looked at SMBC’s worldwide credit rating (receiving an A1 from Moody’s), rules of adherence in the past, performance in various areas, and the way it monitors risks and organizes audits internally. Most importantly, the number of votes investors could use was fixed at 26%, and board representation is conditional, so it is clear the trust is limited.

RBI was careful in its decision because Yes Bank’s past showed that banks needed stronger regulations. Because of issues in 2020, the bank was at risk of collapsing and was rescued by the RBI, which took actions like forcing the bank to increase capital and change the structure of management. At that point, it was obvious that too much promoter authority and a lack of inner controls led to this disaster. Therefore, when SMBC entered, they provided financial help and also took a role in leading the company’s governance. Moody’s and Fitch, among other rating agencies, quickly called the deal “credit positive,” noting that it would affect a bank’s capital, how it manages risks, and how its operations are handled.

And, in this case, what is seen is a pattern, i.e., RBI is employing foreign investments to guide reforms and boost the effectiveness of the institution. Because of the SMBC deal, foreign banks are given opportunities to achieve strong positions in the country if they meet the RBI’s strict requirements.

Related Cases: IDBI Disinvestment, Emirates NBD, and the Growing Pattern

The SMBC-Yes Bank episode is not the only case; it is linked to India’s growing ideas about strategic capital. Many are eagerly awaiting the sale of a 60.72% stake in IDBI Bank by the Government of India and LIC. Emirates NBD (UAE), Fairfax Financial Holdings (Canada), and Sumitomo Mitsui (Japan) are part of the shortlist and wish to take over the majority of its assets.

At the same time, the RBI has approved Emirates NBD to set up a WOS in India according to the 2013 framework that permits foreign banks to operate locally by following Indian banking rules. It means this model bypasses any required limits on branches and leads to banks being fully licensed to follow local rules, keep their cash separate, and be regulated as if from an area.

There are additional examples that show how countries are liberalizing laws only after careful examination of each scenario. Around 2018, Fairfax-CSB Bank gave a foreign investor a majority stake, which was the first of its kind in an Indian private bank. Also, the RBI allowed DBS Bank India to merge with Lakshmi Vilas Bank in 2020, giving DBS total control over a domestic business.

Whenever it dealt with such cases, the RBI exercised its freedom to develop solutions for each transaction rather than change the original statutes. The key conclusion from all the approvals is that foreign investors are allowed as long as they lead to more stability, honesty, and better functioning, and not only for the sake of giving funds.

Comparative Global Models: CFIUS, FIRB, and India’s Discretion Gap

India’s new practice is similar to international recommendations, but also easily points out existing inequalities. In America, the national security of the country is reviewed by the Committee on Committee on Foreign Investment in the United States (CFIUS) for transactions involving foreign investors. CFIUS relies on the federal government’s laws, clear guidelines, and discussions with several departments before making a final decision. Similar to regulators in other countries, Australia’s Foreign Investment Review Board looks after economic and geopolitical factors when overseeing strategic deals.

With the NSIA of 2021, the United Kingdom has added more control, so deals involving banking, AI, and communications must be declared, and deals can be blocked or reversed even months after they are completed.

While the same intent exists in India’s policy as in these frameworks, there is no special institutional framework, and this strengthens the recommendation that India must now seriously consider instituting a Strategic Capital Review Board. Such a body combining members from RBI, Securities and Exchange Board of India, Department for Promotion of Industry and Internal Trade, and the Competition Commission of India, might review things through a group effort and clearly define what is necessary in terms of financial strength, history of governance, level of technology used, and impact on the economy for years to come.

Institutional Risks and the Governance Signaling Effect

A discretionary model, though flexible and adaptive, inevitably invites problems. First of all, uncertainty about regulation is created. Since there are no set standards, pursuing business in India remains unpredictable, and this cuts down on the country’s ability to attract long-term investments. In addition, under Article 14 of the Constitution, discretionary powers can be checked by courts; if any unequal or unfair decisions are made by authorities, then that can be rejected based on the right to equal treatment. 

Being discreet in policy decisions is also a useful way to show that a government wants to govern well. The RBI encourages domestic banks to perform better by making it clear that foreign banks will not take part unless standards are high. When strategic investors invest, they are challenged to improve the way the company is managed and organized as well as to make sure risk is dealt with properly. For this reason, access to foreign money depends on how the company behaves, not on how well the company lobbies the government.

Because the domestic credit to private sector (% of GDP) ratio (as per data available to the World Bank) in India is only 50%, compared to 194.7% in China and 176.1% in South Korea, it is extremely important here. Capital demand is getting stronger, yet the RBI insists on making sure these funds are positive and responsible, instead of speculative. Properly managed foreign investment, from a governance point of view, actually boosts improvements in the country.

Conclusion

The country’s policies for financial liberalization are not based entirely on ideology anymore; they depend on the situation and are carefully planned. How the RBI allows foreign banks to be involved evidences the growth and maturity of the financial system. It is putting in place a filter to invite foreign money if it follows the country’s financial rules, encourages more trust in national politics, and matches what the nation aims to achieve.

SMBC’s acquisition of Yes Bank, the program for selling IDBI shares, and Emirates NBD forming a subsidiary firm are all good examples of this strategy. They show that rule by other nations is still allowed, but it is not guaranteed anymore. It should come from strong results, trustworthy leadership, and proper system resources.

As a result, setting up this approach in institutions is of utmost importance. Trust in the system can be improved by using a multitude of agencies, having crisp procedures, and revealing information after decisions are made. Because India balances its sovereignty with openness and treats all capital the same, it can show emerging economies a good model.