Rajya Sabha TV programs like ‘The Big Picture’, ‘In Depth’ and ‘India’s World’ are informative programs that are important for UPSC preparation. In this article, you can read about the discussions held in the ‘Big Picture’ episode on “Big Bank Reform“ for the IAS exam.
Ramesh Singh, Former Executive Director, Dena Bank
Pankaj Jain, Additional Secretary, Ministry of Finance
Subhomoy Bhattacharya, Consulting Editor, The Business Standard
Anchor: Vishal Dahiya
- Government of India has recently announced the merger of ten Public Sector Banks (PSBs) into four large entities and it is considered as the most significant move in the banking sector after the nationalization of banks that took place in 1969.
- The mega merger will bring down the number of PSBs from 27 (in 2017) to 12.
- The set of PSBs being merged are as follows:
- Punjab National Bank with Oriental Bank of Commerce and United Bank will merge together to form the 2nd largest PSB after SBI.
- Canara Bank and Syndicate Bank will merge together to form the 4th largest PSB.
- Union Bank of India with Andhra Bank and Corporation Bank will merge together to form the 5th largest PSB.
- The merger between Allahabad Bank and Indian Bank will result in the 7th largest PSB
What are the Different Contours Involved in the Mega Merger?
- According to the Finance Minister, the purpose of the consolidation of PSBs is to strengthen the national presence and the global reach of these banks.
- The mega merger plan lays focus on creating ‘banks of scale’ so as to enable India to achieve the goal of becoming a $5 trillion economy.
- In the past few years, bank reforms were steady since the economic growth was steady too.
- But, the banks are now required to keep pace as the economy is about to grow significantly. Mega merger of banks indicate such a transformation.
Why the Mega Merger is considered a Huge Reform after Bank Nationalization?
- The mega merger plan has been on the pipeline since very long. It is good that it has happened now. But it could have been carried out a few years earlier.
- While the banking sector across the world was busy introducing reforms, the PSBs in India were in a lazy mood with a mind-set that the government will take the responsibility of reforming them.
What is the Logic behind the Mega Mergers?
- In order to become a $5 trillion economy in the next 2 or 3 years, industries in India need to grow into a corresponding scale.
- It will need people to become entrepreneurs which in turn need huge inflow of credit.
- It is not possible for small banks to take too much risk on providing loans to a single entity due to the existence of prudent norms in giving out loans. Banks calculate the appropriate risk for each of the loan applicants based on a number of factors.
- Thus, we need strong capital based banks to adequately fund the loan applicants.
- Even though people call them national banks or regional banks, there are very few factors that distinguish between the banks being merged.
- Apart from the SBI, all the other PSBs merge their differences under the single label of PSBs.
- The absence of differences means absence of competition in terms of attracting deposits and offering credit and other products.
How did the Government Arrive at this Combination of Banks?
- The core principle behind the selection of banks was the minimisation of disruption in credit activities during and immediately after the merger.
- The following two parameters were the rationale behind the selection of banks:
- Core Banking Software/System: Those banks which share a common core banking software were selected for merger. Ex.: both Canara Bank and Syndicate Bank use i-Flex software, both Indian Bank and Allahabad Bank use BaNCS
- The remaining 6 banks were using a software called Pinnacle. Two separate banks were formed by merging 3 each of those banks, since the merger of 6 banks into a single entity is extremely disruptive.
- Each of the banks have a long history at the regions where they operate. Synergy of such banks were unlocked considering the complementing factors such as current capital availability, level of Non-Performing Assets (NPA), and the distribution of bank branches.
- It is notable that these two were not overriding parameters and other factors like geographical presence, line of activity and extend of CASA deposits (Current Account and Savings Account) were also considered.
How will the Merger Increase the Performance Matrix of the Banks?
- Merging of banks has the history of improved market capital and performance. The merger of Bank of Baroda (BoB), Vijaya Bank and Dena Bank in 2018 had led to a first quarter (Q1) profit of Rs. 710 Cr. for BoB in the current fiscal year (2019-20) compared to a loss of more than Rs. 7000 Cr. before the merger.
- The better performance turned out to be beneficial for both customers and employees
- However, merger alone wouldn’t improve the performance of banks. It should be complemented with an additional set of measures such as:
- Providing with additional capital so that lending capacity is increased.
- Other reforms such as Enhanced Access and Service Excellence (EASE) versions 1 and 2 are meant to measure individual banks and release their score card (of performance) for the public to evaluate.
- Ensuring that the reforms introduced at the top level of banks reach the bottom level employees as well. Ex.: Unified messaging system, expansion of performance review system, etc.
How will the Mega Merger Impact Indian Economy at Large?
- Economic growth needs inflow of credit (as debt) and investment (as equity). Banks are intermediaries which make the savings of some customers available to others in the form of credit. Bigger banks could lend more and have a stronger presence.
- Bigger banks can provide loans to big projects and individual level small projects Such projects in turn creates more jobs.
- Big projects in the past had to approach so many banks for loans, which were often not more than 1-2% of the project cost, since banks in the past had no capacity to fund them significantly.
- Bigger banks are able to invest in innovative products for retail customers (Ex.: The SBI YONO app allowed customers to use their mobile phones instead of cards for many banking transactions.)
- Bigger banks could focus more in the foreign market by leveraging the existing network of oversees banks.
- Consolidation of PSBs leads to a steady state of 8 PSBs (including the 4 merged ones) with a global aspiration and reach.
- Banks have the option of increasing their Efficiency by multiplying its presence in the selected regions where they find huge business opportunity. Such rationalisation ensures that they don’t compete with each other outside India.
What are the Objectives of Recapitalisation along with the Mega Merger?
- The mega merger will be followed by a recapitalisation plan worth 55000 Cr. for the merged banks and six other banks.
- An increased lending capacity is not the only purpose of the bank mergers.
- Recapitalisation is required to ensure that the banks have sufficient heft to invest in technology upgradation, better customer connection and service, fraud detection, etc.
- Recapitalisation of merged banks ensure not only the investment but also the standardization of customer services.
What are the Concerns Associated with the Mega Merger?
- Customers are concerned about a slowdown in credit off take after the merger.
- E.g. The credit flow declined immediately after the merger of BoB, Vijaya Bank and Dena bank in 2018 because the rate of interest was not attractive.
- But Dena bank was under RBI’s Prompt Corrective Action framework (PCA) and the teething problem was solved when the credit growth touched 6% in the Q1 of this fiscal year (2019-20) itself, in spite of the economic slowdown.
- The banks selected for merging differ in the level of profitability and ability to manage difficult loans.
- The structure and selection of the bank board determines the confidence of the market about the banks. The bank boards have huge responsibilities, especially in determining the synergies of the merger.
- Human resources is a major capital for banks. But, management structure of PSBs is questionable in that their CEOs are not as impactful or popular as the private bank CEOs.
- The former ones are often selected on the basis of seniority rather than their capacity and they keep on changing, in spite of comparatively longer terms.
- It must be ensured that merger doesn’t turn into a conglomeration of a number of bad banks into one big bad bank.
- Determining the salary structure of the merged entities is difficult since some banks have already asked for the freedom to determine it separately.
What are the Follow up Steps needed by the Mega Merger?
- Government is required to ensure that the leadership of the merged entities is able to deliver the outcomes envisaged. Seniority should not be the single most criteria for the selection of leadership.
- Finance Minister has announced the recruitment of non-official directors from the open market talent pool.
- The Bank Boards Bureau (BBB) needs to continue the practice of inviting application for CEO post in some PSBs. In 2014-15, CEO post of certain banks were opened for recruitment from the open market.
- It is required to ensure that customers will not face any inconvenience. Bank managements need to discuss with each other the blueprint of future course before 1st April, 2020, the probable date for the enforcement of the merger.
- Top management of banks also need to learn from the disruptions caused by earlier mergers.
- The power of bank boards need to be increased in terms of decision making, reviewing, etc.
What are the Reforms Remaining to be taken in the Banking Sector?
- Reforms is a continuous process that can never be declared as complete. After every level, it moves on to the next level.
- Reforms need to continue in factors such as product innovation, investment in technology, improving back end process and reducing turnaround time.
- However, there is no possibility for the Government to tweak the laws to lower the 51% threshold of Government stakes in PSBs.
- The mega merger is a huge step in terms of overall banking sector reforms, since almost every aspect of the banking sector are looked into.
- Governance reforms need to follow up the mega merger in order to actualise the purpose of the reforms and to avoid disruptions in the market.
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