Rules before rescue

But the authority to impose losses must flow from enforceable contractual provisions, applicable regulations, and a legally valid resolution process. The judgment does not guarantee AT1 investors protection. Rather, it reinforces the proposition that even extraordinary regulatory interventions must remain within the boundaries of law. The draft reconstruction scheme had contemplated extinguishing the bonds, but the final scheme approved in March 2020 omitted that provision.

The bank’s administrator nevertheless proceeded with the write-off. The Supreme Court upheld the Bombay High Court’s finding that the action exceeded the administrator’s authority. This was a judgment about legal competence and procedure, not an assertion that AT1 instruments cannot be written down. If investors interpret the verdict as an assurance against losses, the purpose of such capital instruments would be defeated.

Banks would face greater difficulties raising genuine loss-absorbing capital, while expectations of judicial protection could weaken market discipline. Equally, regulators cannot invoke financial stability as a substitute for statutory authority. A rescue that succeeds operationally but fails legally merely transfers the crisis into the courts. The financial consequences reveal competing interests.

Yes Bank has indicated that reinstating the bonds could reduce its Common Equity Tier 1 capital ratio by about 250 basis points on a pro forma basis, although its overall Tier 1 ratio would remain unchanged at 14%. The decision therefore creates a capital-management challenge for a bank that has spent years rebuilding its balance sheet. But these costs cannot retrospectively legitimise an unlawful action.

The court’s criticism of supervisory failures preceding the bank’s collapse deserves attention. The Reserve Bank of India’s responsibility extends beyond managing a crisis after confidence evaporates; timely supervision and corrective intervention are essential to preventing one. A regulatory framework that permits weaknesses to accumulate and then relies on exceptional measures during a rescue invites precisely the uncertainty now exposed.

Both regulatory discretion and regulatory accountability must operate within clearly defined boundaries. Rules governing creditor hierarchy, triggers for loss absorption, valuation, allocation of losses, and the powers of resolution authorities should be unambiguous before a bank encounters distress. Investors must know what risks they bear, regulators must know what actions they can lawfully take, and courts should not have to resolve fundamental questions years after a rescue.

Transparent procedures would protect depositors without inadvertently insulating sophisticated investors from legitimate losses. They would also reduce uncertainty for shareholders and potential rescuers, whose willingness to commit fresh capital depends on predictable treatment of existing claims. The Yes Bank episode demonstrates that preserving financial stability and respecting legal rights are not competing objectives.

Both are indispensable to confidence in banking. Protecting contractual rights does not eliminate investment risk; it makes that risk enforceable on known terms. Such clarity is essential to the credibility of resolution. The essential principle is straightforward: Rules must govern rescues, not be rewritten by them.