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Banking on reforms

Banks need to be free to function

By Roopen Roy Jun 10 2015

Tags: Op-ed
There was a time when a school of pundits believed that nationalisation of our key industries was the panacea to all our problems. Prime minister Indira Gandhi nationalised our banks. The justification was: poor people and the government keep their money in banks for safekeeping. Private banks try to maximise their shareholder value. Therefore, they lend money to rich industrialists who in turn control banks and financial institutions. The small and medium sized industries, the farm sector and the impoverished receive no support from these banks. As a consequence, the rich grow richer and the poor become poorer. Hence, the state must control the financial sector to have a balanced, inclusive and equitable growth.

On July 19, 1969, the banking companies (acquisition and transfer of undertakings) ordinance resulted in the ownership of 14 banks being transferred to the state. The 14 banks controlled 70 per cent of the country’s deposits. In 1980, six more banks were nationalised. (The Imperial Bank, incidentally, had been nationalised in 1955, making it the State Bank of India).

To say that the nationalisation has had no social impact would be contrary to the facts. It did result in an expansion of credit to agriculture and small and medium industries. Banks had to reserve as much as 40 per cent of credit to the priority sectors (agriculture and small and medium industries). The expansion of branches in rural areas happened. The figure rose from 8,261 in 1969 to 65,521 in 2000. However the banks provided a poor return to its main shareholder: the President of India who represents us: the people of India.

The French have an interesting saying: plus ça change, plus c'est la même chose. The more things change, the more they remain the same. Government control did not reduce sweetheart deals. Corrupt ministers and CEOs of PSU banks often colluded to extend loans to dishonest businesspersons and crony capitalists. Bad loans, which had an euphemistic tag of nonperforming assets (NPAs), mutiplied and every now and then PSU banks required fresh infusion of capital to keep them solvent.

Nationalisation of banks created another phenomenon. It saw the rise of powerful unions of employees who did not restrict themselves to collective bargaining. They meddled in every aspect of management. For instance, they openly declared war on any form of mechanisation. In the cities that they could, all efforts in introducing computers were stalled without regard to the interest of customers. The bank unions, which were effectively part of political parties, wanted a say in who would be recruited in banks and how. They also thwarted every attempt at disinvestment and empowerment of managements.

The NPA problem has, in the meanwhile, assumed alarming proportions. We now need to inject Rs 4 lakh crore by 2018 to meet Basel III norms as the Reserve Bank of India (RBI) has pointed out. This means Rs 1 lakh crore of additional capital every year.

Some are suggesting a radical medicine: denationalise all banks and place the ownership and management in private hands. But the real issue is efficiency of management and soundness of governance. Take four examples in the airlines industry: Air India, Kingfisher, IndiGo and Singapore Airlines. Air India is government-owned and managed, with terrible financial performance, appalling customer service and high corruption. Kingfisher is privately owned and privately mismanaged ---- it has tanked creating thousands of crores of bad loans and causing misery to employees. IndiGo is privately owned and privately well-managed with excellent customer service, high growth and good returns to shareholders. Singapore Airlines is government-owned but managed as an empowered and autonomous company, and is one of the best airlines in the world by all parameters. So, clearly, it is not public sector versus private sector, it is good management against bad management, an empowered team versus a strangulated team.

In the case of banks, a radical rewriting of history overnight is not a politically feasible solution. Taking cues from our successes in the telecom and the airline sectors, a multi-pronged strategy should be implemented:

n Encourage more private sector banks to enter the fray. It will intensify competition, raise the bar and result in better customer service.

n Encourage many more sound microfinance companies like Bandhan to convert to banks. It will spread the reach of the banks to remote, poorer and underserved parts of our financial market. They will also crowd out ponzi operators.

n Repeal laws that require a rigid structure for PSU banks and mandate more transparency in disclosing bad loans.

n Improve the quality of boards of banks by inducting experienced and independent directors and not retired bureaucrats as a bakshish for “serving” their masters. Senior management should be hired laterally from the private sector based on proven track record.

n Use digital technology to reach customers in new ways and lower costs. The future will see the convergence of technologies — telcos and payment banks. We will see the emergence of new digital crypto-currencies like bitcoins which will open up new opportunities and regulatory challenges.

n In a planned and concerted manner, reduce the government’s stake in banks and actively discourage interference by finance ministry mandarins. The real litmus test of reform is whether we can unshackle the management of banks from the control of the government babus and netas.

Reform of our financial system is critical to our economic agenda, going forward. Unless we have sound and well-managed banks that are modern, efficient and free from government interference, we cannot hope to build the new India of our dreams.

(The writer is managing director of Deloitte Consulting, India)