Road Map for Bharat’s Banking Reforms, a Work in Progress

In 1969, Bharatiya government nationalized 14 banks followed by another 6 banks in 1980. Along with SBI group, which had 7 banks under its umbrella, the public sector banks number rose to 27 in 1980. Consequent to the recently proposed mergers of the PSBs, the total number of PSBs has come down to 12. The business size of these 12 PSBs post merger is as under.

Source: The Economics Times

One will find there are just two private banks in this list of top ten banks post merger.

Source: The Economics Times

The total market share of the top 10 banks is 75.20%, out of which the share of the three private banks in this elite list is just 17.70%. The proposed merger of the PSBs into few larger banks would certainly enhance their financial strength to absorb the burden of NPAs in addition to a focused approach for effective resolution of these NPAs.

However, the government’s ownership and management control over these banks continue to remain the same. It is expected that the larger balance sheet size of these 12 PSBs will enable them to go for public issue on better terms and valuation in due course of time once the merger formalities are completed.

Hopefully this should lead to gradual dilution of the government’s stake in these PSBs to 33% in order to infuse the much needed functional autonomy in these banks. As the proposed merger ensures that the banks are on the same technology platform and the Finance Minister has assured that there will not be any job losses, integration of these banks is expected to be without any major hiccups.

As these PSBs so far have followed uniform wage structure under the bipartite settlements, the only operational issues one could envisage would be with regard to relocation of the staff members necessitated by closure of certain bank branches that are operationally and logistically unviable. To exhibit its serious commitment in diluting the stake in these PSBs, the government should enter into an MOU with the boards of the banks spelling out the time frame and other broad parameters. 

In line with the above mentioned MOU, the government has to take the following major steps –

  1. Setting up a separate Banking Investment Company to transfer the government’s equity of PSBs and give full functional autonomy to this entity.
  2. To eliminate the dual control in PSBs by government withdrawing its regulatory function and leaving the same to RBI as sole regulator in the banking sector.

The above steps would lead to implementation of the major reform measures recommended by second Narasimham committee in 1998 and Nayak committee’s recommendations in 2014 that are hitherto a work in progress. 

Insurance on Bank Advances

There is a need to deliberate on introducing insurance of industrial and large corporate advances and strengthen the existing insurance/ credit guarantee mechanism for agricultural and MSME loans. In other words, all bank loans have to be covered under insurance. This will also necessitate review in the existing mechanism of insurance of bank deposits.

As the bank advances normally constitute 77.25 percent of its total deposits (i.e., after setting aside from deposits towards CRR and SLR (4% and 18.75% respectively), insurance of the bank deposits may be dispensed with once the total bank advances are covered under the insurance since the funds parked in CRR and SLR are considered to be not only liquid but also as safe.

This will also require a vibrant reinsurance market in order to ensure that the insurance risk on bank loans can be absorbed by the insurance companies in Bharat unlike the insurance sector in US economy which almost went for a toss post subprime crisis. 

Direct Supervision by sector specific Apex Institutions under the overall control of RBI

In May, 2019, the central board of RBI has taken a significant policy decision to create a specialised supervisory and regulatory cadre within the RBI with a view to strengthen the supervision and regulation of commercial banks, urban cooperative banks and non banking financial companies. There is also a similar need to develop a pool of talent in the domains of industrial/ corporate credit, agricultural credit and MSME advances by the regulator in order to discharge effectively its supervisory and regulatory functions with regard to the lending portfolios of the banks and non banking finance companies.

RBI could delegate the supervisory functions to Mudra Corporation, NABARD and SIDBI for the micro credit, rural credit, and small and medium advances, respectively under its overall supervision as they are currently the refinancing institutions for these segments. This would enable RBI to effectively supervise the PSBs and focus on monitoring the industrial and large corporate advances where the incidence of NPAs is high (compared to agriculture and MSME portfolios) as the following data clearly indicates.

Gross NPA Ratio as on 31 st March, 2019 

Sector  % to total advances 
Agriculture    8.5%
Industry  17.5%
Services   5.7%
Retail   1.8%

(As per Financial Stability Report, June, 2019 of RBI)

The gross non-performing assets (NPAs) as a percentage of total loans stood at 9.3% as on March, 2019 for the total banking system whereas the same for PSBs is 12.6%.

Share of large borrowers in SCBs’ total loan portfolios and their share in GNPAs was at 53.0 percent and 82.2 percent, respectively in March 2019.

Gross NPAs of PSBs stood at Rs. 806412 Crores in March, 2019 (provisional data) out of the total Gross NPAs of the total banking system of Rs 949279.

Bank lending in line with geographical presence and balance sheet size

Rural cooperative banks, RRBs, payment banks, Micro finance companies and local/regional banks should exclusively cater to the credit requirements of agriculture, micro enterprises and small and medium enterprises respectively. Whereas, the banks with national and global presence should finance the requirements of industrial and large corporate advances. This approach would lead to the banks financing the sector specific needs and taking exposure in line with their geographical presence and size of their balance sheets respectively. 

Hope the government and banking regulators will take suitable measures as suggested above taking forward the unfinished agenda of banking reforms to its logical conclusion in the near future.

(Featured Image Source)


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About the Author

B.N.V. Parthasarathi
Ex Senior Banker, Management and Financial Consultant, Visiting faculty at premier B Schools and Universities. E mail- [email protected]