Denationalisation of Banks

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Recently, there has been lot of noise about new bank licenses being issued to eligible corporate players that include large industrial groups and financial service companies in private and public domain. The idea is to have deeper penetration of banking, promote healthy competition, bring new ideas to the banking business and to channelise more and more financial activities through banking system. As a response to the Government’s announcement inviting new bank license, there was lot of interest witnessed among private players as they are competing for limited licenses.

If we look at the banking history of our country, prior to independence there were plenty of small banks established by trade organisations, wealthy business houses, etc. However, in absence of a regulatory eco-system and small size of the banks, many banks saw failure. Post independence, banking sector was completely reformed whereby Government introduced policy of nationalisation wherein most banks went in Government’s hands in 1960’s. Important to note that till early 1990’s, while banks were just facilitating transfer of money and mobilisation of public saving, most of the lending activities were controlled by public financial institutions like IFCI, IDBI, ICICI, TFCI, PFC, UTI, etc.

In 1990’s, two major changes evolved in the banking system: (i) banks started participating in lending activities starting from working capital finance and later moving towards long term loans; and (ii) issue of bank licenses to private players like HDFC bank, Yes bank, Kotak mahindra bank, etc. and certain financial institutions like ICICI bank, IDBI bank, Axis bank, etc. This was a very important reform as it synchronised financial system of the country and paved way for modern banking system with liberalisation/privatisation of the sector. 

In last 20 years, post second stage reforms, there are 3 distinct categories of commercial banks that have evolved: (i) Public sector banks – those which were nationalised in 1960’s (ii) Old private sector banks – those which were not nationalised and (iii) Private sector banks – those which were issued bank licenses under second stage reforms. Out of the above, Old private sector banks have very small size thereby insignificant contribution to the banking system. Among the private sector and public sector banks, private sector banks have outperformed the public sector banks by a huge distance. This may be measured from all parameters like growth,  profitability, valuations, work culture, etc. Further, in the current economic slowdown, it is revealed that they are much more resilient to economic cycles. Despite Government backing, public sector banks are facing bad loan problem at thrice the degree of that faced by private sector banks. Moreover, it is not the first time banks are facing this problem, during the previous slowdown all the public financial institutions (at that time they were only involved in lending activities, banks started in 1990’s) became sick and were huge baggage on the Government. 

What does this signify? It simply does that banking business is better managed in the private hands than in public hands for the obvious reasons. Rather than getting into this analysis the point I want to make is that rather than inviting applications from private players for new bank license, would it not be good idea to privatise certain public sector banks in the hands who have applied for new bank license. This will save us from the problems of creating new infrastructure, manpower training, establishment of systems, etc. It would just save us from reinventing the wheel as there is humongous underutilised (or should I say mis-utilised) infrastructure and manpower available with public sector banks. As a result, we would achieve much faster effect of the reforms and shall free us from the baggage of deteriorating public sector banks.

It is not an extremely new idea, there is strong precedence of successful implementation of privatisation of public financial institutions and M&A of old private sector banks in the past. ICICI, UTI, Bank of Rajasthan, Centurion Bank of Punjab, are few of the many examples from the past. 

One may argue that there is more merit in reviving the public sector banks in their existing form rather than handing it to some other party for improving its shape and size. Again there is precedence arguing against this argument as well. When in 1990’s, many public financial institutions became sick, dual policy was adopted for their revival: whereas some of them were privatised like ICICI and UTI (now Axis), some were tried to revive through Government’s own efforts like IDBI and IFCI. After 10 years, we can clearly see the difference – institutions which were privatised have not only revived but have become ace banks of the country. On the other hand, those attempted to be revived by Government on their own are still struggling with the same old issues.

Banking being one of the most sensitive business, as you are dealing with public money and every moment are facing public at large, any mismanagement can have serious consequences. Besides this, public sector bank lack the innovation, will and capability required by the business and may become non-competing thereby non-sellable asset till the next phase of reforms. Commercially also, Government can create much more wealth for it self by letting the banks be operated by private players rather than operating them selves.

As such in view of the current scenario and learnings from our experience, it urge the regulator and Government  to gather courage of reversing the policy of nationalisation followed in 1960’s and initiate policy of denationalisation of public sector banks.

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