guidelines for on-tap bank licences put up by the Reserve Bank of India, it is argued that Indias banking system is already sufficiently competitive, and there appear to be few who would be willing to enter the banking business. Entry of newer players, especially those with corporate backing, cannot be the priority at the moment. The priority over the next two or three years has to be the resolution of the non-performing assets problem and strengthening of the existing players.
T T Ram Mohan (ttr@iimahd.ernet.in) teaches
at the Indian Institute of Management, Ahmedabad.
10
s promised, the Reserve Bank of
India (RBI) has come out with draft guidelines for on-tap bank licences. Earlier, the RBI gave out bank licences for universal banks in occasional bursts. There was one round of licensing following guidelines issued in 1993 when the RBI issued nine bank licences. Subsequent to fresh guidelines issued in 2001, another two bank licences were issued. More recently, following guidelines issued in 2013, the RBI issued licences for differentiated banks, that is, payment banks and small banks. Need for More Banks? Why do we need on-tap licences or continuous authorisation of licences? The RBI had spelt out the rationale in its discussion paper on banking structure in August 2013. On-tap licensing would put pressure on existing banks and help improve competition and efficiency. It would bring technology and new ideas into banking on a continuous basis. A gradual increase in the number of banks would be better than sudden increases as the latter would strain both banking and regulatory resources. These arguments are not as compelling as they sound. Yes, we need competition in banking and improvements in efficiency but these should not happen at the cost of stability in banking. Today, banks are groaning under the weight of the legacy of non-performing assets. Putting pressure on them by letting in new players cannot be the priority. Again, we do not necessarily require new players to bring in technology and new ideas. In a reasonably competitive banking structure, there will be pressure on banks to innovate and improve technology, and we have seen this happen across the board, with public sector banks (PSBs) too upgrading their technological
capability significantly. Stop-go licensing need not mean a large number of
players at one go; the regulator is free to determine how many additional licences it needs to issue at a given point in time. The contention that continuous authorisation has been in place for foreign banks and, therefore, a similar regime is appropriate for domestic banks is also not persuasive. Foreign banks were long subject to stringent restrictions on branch expansion. Today, they are subject to stringent requirements of subsidiarisation, independent boards and the rest. As a result, there have been no takers despite the RBIs offer to give foreign banks almost the same treatment as domestic banks. Continuous authorisation for foreign banks is not translating into continuous entry in the present environment. Will it be any different with domestic banks? Merely because on-tap licensing is available, does it mean that we will have a rush of applicants? The question is particularly relevant given the experience with payment bank licences. So far, three out of the 11 entities given licences have said they are not going ahead with their plans. Who Can Enter Banking? The answers become clear when we look at the eligibility criteria. The draft guidelines mention three types of eligible promoters: (i) Non-bank financial companies (NBFCs) controlled by residents and with a track record of at least 10 years. (ii) Professionals with 10 years of experience in banking and finance. (iii) Private sector entities controlled by residents and with a track record of at least 10 years. Such entities should have assets in excess of `50 billion and the nonfinancial business of these entities should not exceed 40% of their assets or income. Not many NBFCs have shown an appetite for converting into banks. For wellestablished NBFCs with relatively large balance sheets, the priority sector conditions that commercial banks are required to meet have proved a significant deterrent. This is the reason why many of the better-run NBFCs did not care to apply for a bank licence in the last round.
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vol lI no 24
EPW
Economic & Political Weekly
HT PAREKH FINANCE COLUMN
The experience with professionals
has, at best, been a mixed one. In the first phase of private bank licences, which happened in 1993, the experience was not a happy one. In the second phase, which commenced in 2001, the experience has been better. We must recognise that the competitive situation in banking is pretty demanding at the moment. A financial institution, such as IDFC, which was given a bank licence in the last round, has indicated that it will take about nine years to stabilise its operations! The prospects for individuals venturing into banking on their own are not very promising. There is every possibility, however, that individuals can venture in with the backing of industrial houses. Corporate houses can have an equity stake of up to 10% in a bank. The promoter will have a minimum equity stake of 40% to start with. This will have to be brought down to 30% within a period of 10 years and 15% within 12 years. The limit for foreign investment in a bank, including by foreign institutional investors (FIIs), is 74%. We often hear of corporates bringing funds into the country through the FII route. It is conceivable, therefore, that 10 or 12 years after a bank is promoted by a professional, control can effectively pass into the hands of corporates. Banking on Corporates As mentioned earlier, corporate entities are permitted to set up a bank provided their non-financial assets or income do not exceed 40% of the total assets or income. In other words, the entity is primarily a financial company. Some of the leading industrial houses may not meet this criterion but there are entities that do. It is clear that it is corporate houses or those with the backing of corporate houses that are best placed to enter the banking sector today. The draft guidelines thus raise a basic question: where does the RBI stand today in relation to the entry of corporate houses into banking? In 2013, when the RBI announced its guidelines for new private bank licences, it made a significant departure from past policy in throwing the field open to industrial houses. Economic & Political Weekly
EPW
JUNE 11, 2016
One argument made at the time was
that industrial houses had the deep pockets necessary to provide meaningful competition to entrenched players. It was also argued that the restrictions on interconnected lending were stringent enough and the RBI also had the capability to monitor these closely. As it turned out, not a single industrial house was granted a licence. Bimal Jalan, who headed the screening committee that reviewed applications, explained the seeming contradiction by saying that while the RBI was open to industrial houses, the fit and proper criteria would have to be met. This appeared to imply that none of the industrial houses that had applied for a licence had met the fit and proper criteria. I recall discussing this issue with senior RBI officials. They told me that, at the time it was decided to open up the sector to industrial houses, the 2G and other scams had not erupted. Had they known that industrial houses had not really changed their ways, they said, the RBI would have been more circumspect. It is worth asking what has changed since. And if it has not, it is not sensible to let corporate houses coming in through a 10% equity stake or by letting in predominantly financial companies that have interests in non-financial areas. It would be best if the RBI sets its face unambiguously against corporate houses having any presence in banking. Indeed, this was the stance taken by the Committee on Financial Sector Reforms (2008) headed by Raghuram Rajan. Priorities of Banking in India The problem is not just the dangers of interconnected lending and their implications for financial stability. It is that large corporate houses, with their strong links to the political class, may not be entirely amenable to the sort of stringent regulation and supervision one associates with the RBI. There is every danger that, in any conflict between the RBI and a corporate entity, the former will lose out. The RBIs enviable standing as a regulator will be undermined as a result. Nor is there any compelling need to allow corporate houses to enter in one form or another. First, there is adequate
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competition in Indian banking today.
The share of PSBs in assets has been falling over the years even as private banks have gained ground. On some estimates, the share is expected to fall from around 70% today to 60% in a decade from now. It is fair to suggest that this pace of growth of market share of private banks is consistent with improving efficiency in banking while maintaining stability. Second, there is a contradiction in saying that we need more competition in banking even while arguing for consolidation of PSBs. This contradiction could be resolved by saying that more competition means the share of PSBs must shrink more rapidly than it is at present. This proposition can be questioned given the general state of governance in the private sector, it is not clear that we gain by accelerating the increase in private banks market share. But if this is indeed the RBIs position, it must state it explicitly and throw up the issue for political debate. Remember, if there is one issue on which there is consensus across the political spectrum, it is on the need to retain the pre-eminence of PSBs in the banking sector. Third, banking is in a highly stressed state today and the stresses are to be found amongst both PSBs and private banks. The priority over the next two or three years has to be the resolution of the non-performing assets problem and strengthening of the existing players. Entry of newer players, especially those with corporate backing, cannot be the priority at the moment. Hastening towards the multi-tier structurewith three or four large international banks, a few national players, regional players and local players advocated by the Narasimham committee cannot be a priority either. In the present condition of the PSBs, saddling them with the formidable challenges of managing mergers just does not make sense. In sum, on-tap licensing may sound very appealing; it has just the right reformist air about it. It would be more prudent, however, to resolve the serious issues in banking today before thinking of shaking up the system in the name of more reforms. 11