7 PM | Celebrating 50 yrs of bank nationalisation | 15th July, 2019

Context:  commercial banks and their significance in Indian economy

Banks are one of the most important parts of any country. In this modern time money and its necessity is very important. A developed financial system of the country ensures to attain development. A modern bank provides valuable services to a country. To attain development there should be a good developed financial system to support not only the economic but also the society. So, a modern bank plays a vital role in the socio economic matters of the country.

Nationalization of banks in India:

• Government of India took major steps in this Indian Banking Sector Reforms after independence. In 1955, it nationalized Imperial Bank of India with extensive banking facilities on a large scale especially in rural and semi-urban areas. It formed State Bank of India to act as the principal agent of RBI and to handle banking transactions of the Union and State government all over the country.
• Seven banks forming subsidiary of State Bank of India was nationalized in 1960. On 19th July 1969, major process of nationalization was carried out. It was the effort of the then Prime Minister of India, Mrs. Indira Gandhi. 14 major commercial banks in India were nationalized. All commercial banks with a deposit base over Rs.50crores were nationalized.
• Second phase of nationalization Indian Banking Sector Reform was carried out in 1980 with more banks. This step brought 80% of the banking segment in India under Government ownership.

Prominent reasons behind the nationalization:

• Social Welfare: It was the need of the hour to direct the funds for the needy and required sectors of the Indian economy. Sector such as agriculture, and small village industries were in need of funds for their expansion and further economic development. To ensure that the operations of the banking system are guided by large social purpose and are subject to close public regulation.
• Expansion of banking:In a large country like India, the number of banks existing those days was critically inadequate. It was necessary to spread banking across the country. It could be done through expanding banking network in the unbanked areas.
• Priority Sector Lending:In India, the agriculture sector and its allied activities were the largest contributors to the national income. Thus these were labeled as the priority sectors. But unfortunately, they were deprived of their due share in the credit. Nationalization was urgently needed for catering funds to them.

Present scenario of banking industry in India: The Indian banking system consists of 27 public sector banks, 21 private sector banks, 49 foreign banks, 56 regional rural banks, 1,562 urban cooperative banks and 94,384 rural cooperative banks, in addition to cooperative credit institutions. In FY07-18, total lending increased at a CAGR of 10.94 per cent and total deposits increased at a CAGR of 11.66 per cent. India’s retail credit market is the fourth largest in the emerging countries. It increased to US$ 281 billion on December 2017 from US$ 181 billion on December 2014.

Issues related to banking sector in India:

• Non-performing assets: As of March 31, 2018, provisional estimates suggest that the total volume of gross NPAs in the economy stands at Rs 10.35lakhcrore. About 85% of these NPAs are from loans and advances of public sector banks. For instance, NPAs in the State Bank of India are worth Rs 2.23lakhcrore. This indicates that an increasing proportion of a bank’s assets have ceased to generate income for the bank, lowering the bank’s profitability and its ability to grant further credit.
• Capital to Risk-weighted Assets Ratio (CRAR) requirement: The standing Committee on finance noted that RBI’s requirement of a minimum CRAR of 9%, to prevent banks from becoming highly leveraged, is 1% higher than the Basel III norms for internationally active banks.  This is applicable to all PSBs, even though nine of them do not operate internationally.  The Committee observed that such a high CRAR requirement is impractical for these banks.
• Banks under Prompt Corrective Action (PCA): The Committee observed that 11 PSBs have been placed under the PCA framework by the RBI based on factors such as capital inadequacy and high NPAs.  These banks have restricted lending and deposit-taking capabilities as a result.  Despite the imposition of PCA, recoveries in these banks have either been stagnant or grown marginally.
• Powers of the RBI in case of PSBs: The Committee noted that the RBI had stated that some powers available to the RBI under the Banking Regulation Act, 1949 are not available in the case of PSBs.  These include: (i) removing and appointing Chairman and Managing Directors of banks, (ii) superseding the Board of Directors, and (iii) granting licenses.
• Employee and technology: Public-sector banks are seeing more employees retire these days. So, younger employees are replacing the elder, more-experienced employees. This, however, happens at junior levels. As a result, there would be a virtual vacuum at the middle and senior level. The absence of middle management could lead to adverse impact on banks’ decision making process as this segment of officers played a critical role in translating the top management’s strategy into workable action plans.
• Capital infusion: Fitch Ratings has estimated that Indian PSU banks will need as much as Rs4 trillion of capital by end of March 2019 to meet the capital requirements under Basel III. Other estimates put the need even higher. But till now only 1.3 trillion rupees flown into banks through recapitalization.

Measures to improve the performance of banks:

• Insolvency and bankruptcy code (IBC), 2016: The enactment of the Insolvency and Bankruptcy Code (IBC), 2016 and promulgation of the Banking Regulation (Amendment) Act, 2017 has significantly altered the financial landscape with optimism to resolve the concerted efforts that are underway for resolution of stress in balance sheets of banks and corporations in a time-bound and effective manner. Government should promote efficiently IBC code and slowly create the proper arbitrage mechanism to unlock the capital in unproductive assets.
• Prompt corrective action: The Reserve Bank’s pre-emptive approach to recognition and resolution of emerging financial distress and the revised system of prompt corrective action triggered in April 2017 are intended to instill confidence in the system that accumulation of excessive financial imbalances in the future will be prevented.
• Consolidation and recapitalization: The Government’s in-principle approval in August 2017 for consolidation of PSBs through an ‘Alternative Mechanism’ and the massive recapitalization plan for PSBs announced in October 2017 as part of a comprehensive strategy to address banking sector challenges should make them strong and competitive as they gear up to meet the credit needs of a growing economy. Under recapitalization, government should infuse capital as early as possible to revive credit cycle.
• Additional measures: In addition to the IBC and the Banking Regulation (Amendment) Act, 2017, the Government notified the Fugitive Economic Offenders Bill, which is aimed at punishing those who are accused of committing financial crimes in India and then fleeing the country. Setting up of the independent regulator National Financial Reporting Authority (NFRA) that will have sweeping powers to act against erring auditors and auditing firms.
• Incentives for PSB employees: remuneration to higher senior management should be increased on par with private commercial banks.  Further, an overlap should be provided between tenures of successive CEOs to facilitate smoother transition.  The retirement age of CEOs of PSBs should be increased to 70 years (similar to private banks) to utilize the expertise of senior bankers.  Further, criminality of bankers should not be presumed for decisions taken in the normal course of business, and bankers should be afforded a chance of explaining their decision before any actions are taken.

Way forward: Banks have always played an important position in the country’s economy. They play a decisive role in the development of the industry and trade. They are acting not only as the custodian of the wealth of the country but also as resources of the country, which are necessary for the economic development of a nation. The general role of commercial banks is to provide financial services to general public and business, ensuring economic and social stability and sustainable growth of the economy. So government should empower the banks to fulfill the growing demands of the country.

Source: https://www.business-standard.com/article/opinion/celebrating-50-yrs-of-bank-nationalisation-119071400749_1.html.