Government ownership of banking continues to be widespread, despite evidence that the objectives of such right are rarely achieved. There is broad consensus on reducing state ownership, if not eliminating it. However, privatization must be designed carefully if it has to deliver tangible benefits. While regulation and supervision are paramount, the system must create incentives to maximize the number of motivated and vigilant eyes. There should be a reward for prudence of senior management because it will lead to safe banking.
Compensation packages should be designed appropriately to adhere to risk mitigation principles. High bonuses for business targets will only attract high-risk-takers. Moreover, the preferred strategy for supervising individual institutions should be to have a few principal monitors and allow diversity in the set of other monitors because the profile and environment of each institution are unique.
There are still glimmers of hope if the past is any guide. As former RBI Governor Y V Reddy underlined recently, the bad loan situation was a great deal worse in 1996-97 than it is now. The ratio of NPAs to gross advances of 11.6 per cent in March 2018 is way below the percentage of 17.8 per cent in 1996–97. Banking analysts feel that the capital infusion announced for PSBs in 2017 to the tune of Rs 2.1 trillion is inadequate, and much more needs to be done to heal the banks.
Governments opposed to ownership roles in banking may find it imposed on them in a crisis. The authorities must then focus on getting out as soon as possible. Drawing on public funds to recapitalize weak banks may be unavoidable, but they must be used sparingly. Procrastination and halfmeasures ~ as reflected in lax policies involving repeated recapitalizations and regulatory forbearance ~ come with a high price tag and can profoundly impact the financial system for a long time.
Despite what is being purveyed in the media, banks are keen on venturing into the hinterlands to set up accounts. Getting people on board is a different matter because much depends on attitudes of local people. Indeed, government-owned and private-sector banks are not getting adequate compensation for opening accounts. They have to pay fees to Business Correspondents apart from the expenses incurred in their outreach efforts.
Banks are suffering an additional cost burden of Rs 200 to 300 per account annually and can’t expect profits from them for at least two years. The government gives the logic that banks enjoy the cheap float funds available in the form of balances A majority of bank accounts opened over the last few years for the poor are dormant due to inactivity and insufficient funds. Scams are a product of greed and immorality.
However, abuse of the financial system has been made possible because of the system’s weaknesses. In an age which heralds technology as the silver bullet, we should not overlook the most critical source of competitive advantage ~ the people. Compliance and controls are dependent on the people running it. The most agile auditors will struggle to stop managers determined to hide their dirty laundry from view.
The reason for protecting the borrower against the creditor is that the much-reviled moneylender looms large in our collective psyche. The scenario now is different. Big borrowers are not like helpless farmers; the lender today is not the cruel sahukar (moneylender) but the public bank.
When prominent businessmen default, they rob each one of us taxpayers. In several cases, precious and scarce bank funds are being used to finance the opulent lifestyles of the rich. The turmoil has prompted calls for improving risk management models, which seem to have created an illusory sense of security.
However, models and machines cannot act as surrogates for human expertise. Money management is no more a sophisticated world. Bankers must bring in hard-boiled traders’ instincts to make it safe and secure. In a prophetic warning, in 1913, John Maynard Keynes wrote in Indian Currency and Finance: “In a country so dangerous for banking as India, (it) should be conducted on the safest possible principles”. Our departure from the time-honoured metrics has come at a high cost.
The Indian financial sector is at a crossroads, and its leaders must use their financial alchemy to overcome its most challenging moment. Perhaps, it is one of those occasions where Rudyard Kipling’s advice can be the best guide: “If you can trust yourself when all men doubt you but make allowance for their doubting too.” Of course, in the long run, PSBs are not an answer unless there is a drastic change in accountability. Otherwise, we, the people, will keep paying for our blunders.
Quoting the former RBI governor Raghuram Rajan will not be out of place. “A crisis offers us a rare window of opportunity to implement reforms ~ it is a terrible thing to waste. The temptation will be to overregulate, as we have previously done. This creates a perverse dynamic… Perhaps rather than swinging maniacally between too much and too little regulation, it would be better to think of cycle-proof regulation.”
Banks can indeed play an essential role in the economic transformation of low-income communities, but sustainability should never be overlooked. With their excitement to oblige their constituencies, politicians run financially amok and plunder banks for their vote blocks. This was precisely the reason why India’s post-nationalization mass banking programmes degenerated into populist agendas which financially ruined the banks.
All these highlighted how an unenlightened politician could play havoc with financial systems. The entire execution lacked the soul of a genuine economic revolution because it was not conceived by the grassroots agents but assembled by starryeyed mandarins who had picked up bits and pieces about financial inclusion from pompous new-fangled and half-baked ideas generated at seminars and conferences. Based on security-oriented lending, the original banking concept was broadened to a social banking concept based on purpose-oriented credit for development.
This called for a shift from urban- to rural-oriented lending. Social banking was conceptualized as “better the village, better the nation”. However, opening new branches in rural areas without proper expansion, planning and supervision of end use of credit or creating basic infrastructure facilities meant that units remained mere flag posts. It was a make-believe revolution that would lead to a severe financial crisis in the years to come.
Initiatives include the cooperative movement, followed by priority sector lending, lead bank schemes, service area approach, creation of the National Bank for Agriculture and Rural Development and Small Industries Development Bank of India, the introduction of Regional Rural Banks (RRBs), Local Area Banks (LABs) microfinance, Kisan credit cards, business correspondents, Small Finance Banks, Payment Banks and finally, Pradhan Mantri Jan Dhan Yojana. The priority sector refers to segments such as agriculture and allied activities, micro and small enterprises, housing for the poor, students’ education and other low-income groups and weaker sections, for which the RBI requires banks to set aside 40 per cent of their lending.
This is meant to ensure the overall development of the economy. The politicians believe banks can bring economic revolution through rural credit, like expecting a midwife to deliver a baby. In a developing country, it is not enough to provide recognition for production. The production itself must be increased with the adoption of improved technology.
(The writer is an author, researcher and development professional. He can be reached at moinqazi123@gmail.com)