Privatization Of Public Sector Banks

WHY IN NEWS?

• The government is planning to introduce Banking Laws (Amendment) Bill 2021 to amend banking laws, aimed at privatising two public sector banks.

MORE ABOUT THE NEWS:

• Finance Minister in the Union Budget 2021-22 announced that two public sector banks would be privatised as part of the government's disinvestment target.
• The bill intends to effect amendments in Banking Companies (Acquisition and Transfer of Undertakings) Acts, 1970 and 1980 and incidental amendments to Banking Regulation Act, 1949.
• These laws had led to the nationalisation of banks, so relevant provisions of these laws have to be changed to pave the way for the privatisation.
• The bill aims to bring down the minimum government holding in the PSBs from 51% to 26%.

BACKGROUND:

• The government decided to nationalise the 14 largest private banks in 1969. Thereafter, in 1980, six more banks that were nationalized. The idea was to align the banking sector with the socialistic approach.
• Since the banks were nationalized, India has progressed from 8,187 banks to more than 1,60,000 banks in the present times.
• In 1969, the rural reach of the banks stood at a mere 1,443, but now reached to more than 52,000 banks. Interestingly, the spread of Public Sector Banks is far more than the reach of private-sector banks in rural areas.
• PSBs have a dual nature of objectives, both social and commercial.
• The social profit for the government-run banks is its expanding reach to previously inaccessible and poorer regions.
• Such a profit is intangible and improves the economy, employment and standard of living of the people.
• Only PSBs can think beyond monetary gains and focus on the social development of people.
• The very need for nationalization arose due to the failure of private sector banks in terms of commercial viability and safeguarding the depositor's money, let alone social profits.

NEED FOR PRIVATISATION OF PSBs

• To tackle the issue of dual control:
  • At present PSBs are under the dual control of RBI and Dept. of Financial Services of Ministry of Finance.
  • The RBI handles the governance side of the PSBs under the RBI Act, 1934. On the other hand, the Dept of Financial Services under the Finance Ministry maintains the regulation of PSBs under the Banking Regulation Act, 1949.
  • Thus, RBI does not have the powers to revoke a banking license, shut down a bank, or penalize the board of directors for their faults. The privatization will provide the powers to RBI to control them effectively.
• For better human resource management:
  • Privatisation will help in introducing a high degree of professional management.
  • On account of huge human capital deficit, PSBs are seriously handicapped vis-à-vis their competitors in the market place.
  • This is due to their employee compensation package, skill sets, skewed age profile, restrictive deployment and inefficient performance management system.
• To check the degrading financial position of PSBs:
  • Years of capital injections and governance reforms have not been able to improve the financial position of public sector banks significantly.
  • Many of them have higher levels of stressed assets than private banks, and also lag the latter on profitability, market capitalization and dividend payment record.

• To enable autonomous decision making:
  • Control and interference by the government prevents PSBs from staying competitive in the current environment.
  • They will, thus, continue to be hobbled by outdated systems and practices.
  • High level of autonomy will facilitate faster decision making, paving way for innovation and expertise.
• To reduce politicization in the functioning of PSBs
  • Public sector bank boards are still not adequately professionalized. Further, the Bank Board Bureau is not fully functional. So the government still decides board appointments. This creates an issue of politicization and interference in the normal functioning of Banks.
• To implement recommendations of Committees:
  • Many committees had proposed bringing down the government stake in public banks below 51%:
    • The Narasimham Committee proposed 33%.
    • The P J Nayak Committee suggested below 50%.
    • An RBI Working Group recently suggested the entry of business houses into the banking sector.
• To develop innovation and achieve expertise:
  • Private players will have will and capital to innovate new products avenues (new schemes, services, etc.) and make the industries to achieve expertise in their respective fields by offering quality service and guidance.
  • This will help in bringing cost effective services and higher customer satisfaction.
• For enhanced efficiency in debt coverage:
  • The assets quality and efficiency of debt coverage of private sector banks are better than that of public sector banks.
  • A comparative study for the period of 2015 to 2019 has found that in comparison to private sector banks, public sectors banks registered higher NPAs.
  • The study had selected top five banks (as per total assets) from private and public sector. It found that while average Non-performing Asset (NPAs) of all the selected private sectors banks was less than 5%, it was more than 5% for all the selected Public sectors banks.
• Creation of big banks:
  • One of the objectives of privatisation is also to create big banks to cater to the growing economy of India.
  • Unless privatised PSBs are merged with existing large private banks, they cannot ultimately attain the kind of scale and size to develop higher risk appetite and lending capacity.
• PSBs are losing market share:
  • Private Banks are operating in creamy places, cherry picking customers and PSBs are left with the difficult markets in poorer districts.
  • Urban and semi-urban consumers have been shifting to private banks.

ARGUMENT AGAINST PRIVATISATION OF PSBs

• Undermine the social objectives of banking sector:
  • PSBs have a significant social objective, especially in a developing country like India.
  • They are primarily responsible for providing loans to the most vulnerable section of the Indian society, particularly those who belong to the rural areas.
  • PSBs are also responsible for managing more than 97 per cent of Jan Dhan accounts under the government.
  • A majority of Self-Help groups have been associated with public sector banks, thus enabling rural people to become self-sufficient.
  • Most importantly, PSBs have played a significant role in providing credit to the farmers. The farming sector provides the majority of income to the Indian economy.
  • The outstanding agriculture credit was Rs 4,50,207 crore (86.6 per cent in total credit to agriculture) as of March 2020, against the private banks' Rs 72,893 crore (13.94 per cent).
  • Now, sudden privatization might become a cause of panic and distrust amongst the most vulnerable sections of society.
• Financial exclusion of the weaker sections:
  • Driven by the profit motive, private sector banks concentrate on the more affluent sections of the population and the metropolitan/urban areas.
  • Privatisation of PSBs will therefore lead to the financial exclusion of the weaker sections of the society, particularly in the rural areas.
  • Merger of PSBs has resulted in decline in PSBs branches by 3,321 between 2017 and 2021. PSB privatisation would accelerate these trends.
• Rewarding crony capitalism:
  • The privatisation of the PSBs is tantamount to selling the banks to private corporates, many of whom have defaulted on loans from the PSBs, and will only reward crony capitalism.
• Employment related:
  • Job loss:
    • PSB mergers have brought down the number of PSBs from 27 to 12, resulting in employee retrenchment and bank branch closures.
    • Total employee strength of PSBs has fallen from 8.57 lakh in 2017 to around 7.7 lakh in 2021.
    • The privatisation will further shrink employment opportunities for the youth.
  • Fails to accommodate weaker sections
    • The SC/ST/OBC sections would be deprived because unlike the public sector, the private sector does not follow reservation policies for the weaker sections.
• Private banks are not flawless:
  • It has already seen more than 500 private banks falling from 1947 to 1969. Moreover, the government banks have bailed out private banks in several instances.
  • A significant number of private banks and financial institutions have failed in recent times too. Recent instances of failure are Lakshmi Vilas Bank and YES Bank.
  • But there is not even a single instance of bank failure in the case of PSBs.
  • Between 1969 to 2000, nearly 25 private banks merged with public banks, and the most recent example has been YES Bank.
  • While some experts might also argue how privatizing banks is ultimately beneficial for the economy since it increases competition and fastens the procedural work, we cannot ignore the fact that private banks might have loopholes in their governance.
  • For instance, the former Managing Director and Chief Executive Officer of ICICI Bank, was often charged with issuing dubious loans to her husband.
• Concerns regarding safety of deposits:
  • Privatisation of PSBs will remove the sovereign guarantee behind the PSB deposits and make household savings less secure.
  • It is to be noted that PSBs account for 65% of all commercial bank deposits and 70% of all individual bank deposits in India. It shows that Indian customers preferred the safety and security of their deposits offered by the PSBs.
• Privatisation is not a panacea to problems faced by PSBs:
  • The major problem faced by banks i.e. NPAs is common for both the private and public sector banks.
  • As per Economic Survey 2020-21 NPAs are not exclusively generated in PSBs. The NPAs of private banks up to March 2020 amounted to Rs.2,05,848 crore against Rs. 6,87,317 crore in PSBs.
  • Some experts consider that getting rid of PSBs on account of NPAs problems is akin to throwing the baby out with the bathwater. Opponents of privatisation say that stringent regulation and freedom from political and bureaucratic control and influence are the right set of solutions for strengthening PSBs.

WAY FORWARD

• Privatisation can be limited to few PSBs:
  • While privatising few PSBs sounds a logical decision in light of immense benefits, attempting to privatise all banks will undermine the tremendous contribution of these banks to the country over the years.
• Proper implementation of the various committee recommendations:
  • Recommendation of PJ Nayak Committee:
    • Though the government approved the Bank Board Bureau, the government has to provide enough support for proper functioning.
    • The government can split the Chairman and Managing Director roles. Further, the state can allow them a fixed tenure of 3 to 5 years.
  • Recommendations of Narashimham committee
    • The government can review the Banking Regulation Acts.
    • India can explore the concept of Narrow Banking. Under this weak PSBs will be allowed to place their funds only in the short term and risk-free assets. This will improve the performance of PSBs.
• Graded format towards privatisation:
  • Government may not fully exit from the state-run banks that are to be privatised and instead retain at least a 26% stake for the first few years.
  • Even Narasimham Committee – I had recommended dilution of government stake in PSBs to 33 percent. The extent of the stake sale will depend on interest from investors and market conditions.
• Identification of investors:
  • Identifying a fit and proper investor to own the stake in these banks will be important.
  • One of the options could be, the stakeholders of existing large banks may consider acquiring these PSBs, retain them as wholly owned subsidiaries with independent identity until they attain better operational efficiency. They can eventually merge with acquirer bank.
• Achieving the objective of big banks:
  • Privatized PSBs can be merged with existing large private banks, to attain the kind of scale and size to develop higher risk appetite and lending capacity.
• Developing new asset quality review (AQR):
  • The last asset quality review (AQR) of banks in 2015 failed to detect lenders evergreening loans outside the formal restructuring process.
  • Evergreening refers to banks extending fresh loans to delinquent borrowers to help them repay existing loans, hiding the true extent of bad loans. 
  • RBI audit had found that Private sector lender Yes Bank had under-reported bad loans by Rs.3,277 crore in the FY2019.
• Strengthening bankruptcy law:
  • The government has to rectify the challenges in the Insolvency and Bankruptcy Code. This will provide a faster resolution process.

PRACTICE QUESTION:

Q. “Placing Public Sector Banks (PSBs) in the hands of private players is not a panacea for India’s banking sector woes”. Discuss