Degrowth will accelerate as consumers change — companies should adapt now: Thomas Roulet – The Economic Times

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SynopsisThe balance sheets of several public-sector banks are in distress, the government can ill afford bailouts, and a large section of the population doesn’t have access to banking. Moreover, India’s credit-GDP ratio stands at just 50%. To improve this bleak state of affairs, the entry of corporates in the banking sector is imperative.

Back in 2013, a workshop for senior bank executives organised by the National Institute of Bank Management (NIBM), the apex training body for bankers was to end with a session on restructuring of banks by the institute’s director. “Is there anyone here from UCO Bank?” he asked, opening the session, to which a UCO Bank executive raised his hand. ”UCO Bank is NIBM’s baby,” the director continued, “Are you aware (of that)?”

That conversation ideally sets the tone for the ongoing debate on whether private corporate groups should be allowed entry into the banking space or not. While the Internal Working Group of the RBI constituted to examine the issue has recommended in favour of more private corporate groups in the sector, experts have overwhelmingly opposed such a move — in a response that is on expected lines. The question that has not been satisfactorily addressed by such experts is this: How did a UCO Bank become a NIBM baby? What were the circumstances that led to such a situation?

Here’s a peek into history. In 1943, a prominent industrial group had established UCO Bank, which was known for its pan-India character and wide geographical coverage. Its board had eminent personalities. However, it was nationalised in 1969, along with 13 others, as the government wanted the final say in providing a huge credit boost to agriculture and other priority sectors. A second wave of nationalisation followed in 1980.

Two pertinent questions arise here: Have the objectives envisaged in the nationalisation move been satisfactorily achieved and are the financials of these banks sound enough now to ensure India achieves a sustained growth rate of 8%?

A glance at the financials of UCO Bank reveals some weak numbers. For the year ended March 2020, the bank had a gross NPA ratio of 16% and a quarterly net profit of INR16 crore.

NIBM was mainly tasked with charting out a restructuring plan for the revival of UCO Bank. However, the experiment didn’t meet with much success.
Notwithstanding all the criticism regarding entry of corporates in banking, for the sector on a whole, bank group-wise contribution to deposits and credit over the years, as shown above, reveals significant market-share gains by private banks.

Some of the public-sector banks (PSBs) would have been history by now had the government not come to their rescue. The recapitalisation bonds issued during early 2000s to nurse Indian Bank, a PSB saddled with a mountain of debt, back to health was the first of its kind. It took long to turn the bank around, which, however, is attributable more to the deft handling by its then chairperson, Ranjana Kumar. Another state-run lender, IDBI Bank, was taken over by LIC in 2018 to bail it out of an unprecedented crisis and the prompt corrective action (PCA) plan. The experiment is still a work-in-progress.

The heavy lifting done by PSBs after the 2008 global meltdown led to a surge in infrastructure NPAs, which weighed heavily on these banks, the collateral damage of which is visible even now. Evergreening of loans worsened the problem and asset-quality troubles became the norm, forcing huge provisioning. The government of India was ultimately left with a Hobson’s choice — to capitalise or not.

Over the past half a decade or so, INR3.11 lakh crore has been pumped into state-run banks by the government to keep them afloat. The RBI’s latest Financial Stability Report states that gross NPAs of the banking sector are set to touch INR11 lakh crore by the end of March 2021, constituting 15% of gross advances. Three-fourth of these will come from PSBs.

As the government’s finances become stretched and even capital-expenditure plans look difficult, it can ill afford another bailout package at this juncture. Permitting corporate houses to enter banking by setting up new entities or acquiring existing ones will definitely reduce the burden of the state and is a felt imperative.

Lagging with a poor ratio
The United States, with a population over just over 300 million, has more than 5,000 commercial banks, while India, with a population thrice the size, boasts of a mere 170. The cost of this paradox: extremely low reach of banking services in rural areas and the hinterland. Allowing more corporate-backed banks could be the most effective step to remedy this stark imbalance.

According to the Global Finex Survey, among those who still don’t have a bank account, the key reasons cited are a lack of sufficient funds (54%) and a family member already having a bank account (52%). The other factors that leave a large section of the population unbanked are issues related to accessibility — financial services being too expensive (27%); banks being too far away (23%); lack of necessary documentation (22%); and lack of trust in financial institutions (20%).

This results in a complicated state of affairs: The poorest and the most vulnerable are most likely to not have sufficient funds and documents, and they are the ones who will also find financial services to be too expensive. But at the same time, they are also the ones who are in imminent need for bank accounts so that necessary public assistance and welfare support can reach them on time, especially during a period of emergency.

If corporate houses enter the banking sector, they can help solve the issues posed by the lack of banking reach and coverage to a great extent. The concern regarding high cost of funds, too, can be taken care of, as interest rates have become lower after the pandemic started, with the RBI reducing key policy rates by 110 bps.

India’s credit-GDP ratio of 50% pales in comparison to countries like China, South Korea, and Japan, whose ratios range from 100% to 220%. Huge provisioning requirements and capital-adequacy challenges have significantly dented the ability of PSBs to leverage their balance sheets, which acts as a drag on big-ticket corporate funding and GDP growth.

Once the economy picks up after the pandemic, the banking sector will have to play a major role in corporate capacity expansion. When the balance sheets of 70% of Indian banks are distressed, it is imperative that financially sound corporates enter the arena and do some heavy lifting.

Bank credit during April to November 2020 saw a de-growth of 0.3% in consumer-durable loans and credit-card loans, and bank credit to industry was in negative territory. While subdued demand and banks’ aversion to risk were a major reason for the de-growth, the inability of banks to leverage their balance sheets was also a key factor. The entry of corporate houses will help fill the gap.

Critics of private-sector participation harp on connected lending or the moral hazard posed by a bank lending to its parent corporate. They say depositors’ money could come under risk and many cite the examples of Yes Bank or Lakshmi Vilas Bank to reinforce their point.

However, a point to note is that many PSBs, for which the connected-lending problem is apparently absent, were tantalisingly short of their point of non-viability (PONV). Many large PSBs scrambled for perpetual debt a few years ago to tide over their grave capital shortage, culminating in raising funds at rates as high as 10% to 11%. Had a sovereign cover eluded them, their fate would have been similar to Yes Bank or Lakshmi Vilas Bank.

Capital challenges should be viewed as a universal issue irrespective of connected lending. In any case, even if its dangers were to be accepted, it is not a valid concern to override more pressing ones like low financial penetration and muted credit growth.

Besides, regulators have put in place sufficient checks and balances to ensure that ownership remains diversified and is not concentrated in a single person or entity. Caps on voting rights and promoter shareholding ensure that chances of cronyism are rare.

Rather than bar private entrants, what is needed is for the regulators to strictly ensure that the ‘fit and proper’ criteria are followed in letter and spirit while granting banking licences. This would obviate many avoidable failures and governance lapses.

Meanwhile, the proposal to raise the minimum promoter holding from 15% to 26% is a welcome suggestion and will encourage many interested players to come forward to set up banks.

(Graphics by Mohammad Arshad)

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