Capitalization
of Public Sector Banks has been incorporated as one of the seven items in
‘Indra Dhanush’, dubbed as part of Banking Sector Reforms. Before addressing the issue of such
capitalization it is important to understand some of the historical
developments in banking globally and the way different countries responded to
addressing the issue of refurbishing capital in the banks.
As
part of the global financial system, Reserve Bank of India made us to believe
that banks in India have to fall in line with capital adequacy norms under
Basel regulations. Even prior to the embrace of capital regulations of Basel
India had CRR and SLR as regulatory instruments to safeguarding the financial
stability of banks. 70 percent of the Banks’ assets in India are in the public sector.
Even
though the Committee on Banking Sector Reforms in 1998 recommended that
Government of India should shed its stake in the banks and provide autonomy,
accountability and transparency to banks GOI did not agree on stake reduction.
During NDA -1 regime, the then Finance Minister mooted the proposal to reduce
the stake of Government to 33 percent from 51 percent (In fact in some banks
the share of the Union Government is as high as 60 percent), the Parliamentary
Standing Committee did not agree and the proposal fell flat.
On
the other hand, Government of India picked up the RBI’s stake in the SBI and
NABARD. Thus Union Government’s ownership in banks has only expanded vastly
since 1998.
Apace
with these developments view the global acceptance of the Basel Norms that has
invariably been cited as the raison de ‘etre for periodical capital infusion in
the banks. US Fed did not agree for imposing the Basel II norms even and did
not at all agree for the deadlines for Basel III introduction from April 2019.
Its Community Banks that have a share of over 40 percent of US Banking are
still away from Basel II. Yet the Moody’s or Fischer or any other global rating
institutions did not down rate the US Banks on such count. But when it comes to
India, Basel norms have become rule niche to down rate the banks.
Akin
to the diversity in the nation, banks are also quite diverse in their
structures and contribution to the society and economy. We have PSBs, new
generation private banks, old private banks, regional rural banks, local area
banks, foreign banks, urban cooperative banks and rural cooperative banks
(state cooperative banks and the district central cooperative banks). Two more
are joining the fray shortly: the payment banks and small banks. Should all these
banks diverse size and nature of operations conform to the capital adequacy
norms under Basel alike?
Banks
should have adequate capital to run their business on sound lines. They should
also be able to withstand the market shocks and global shocks of the like that
we experienced in 2008, following recession or a similar impending shock
following the Yuan shock now. There can be no two opinions. Deciding on the
quantum of economic capital and regulatory capital they should hold is the
prerogative of the regulator. The question now is: should it be of equal level
for all the banks from a date decided by the RBI? Has this something to do with
the NPAs that are growing year after year during the last three years?
Global Compulsion:
RBI
recently classified by asset size two Banks, SBI and ICICI Bank (D-SIBs) as
systemically important and should hold higher capital than others. It
considered that their failure will have a cascading effect on the financial
system and the economy. Although the RBI has followed the broad principles laid
down by the Basel Committee for making such a selection it reckoned local
conditions as well. For instance, it has concluded, and rightly, that the
capital adequacy norms for D-SIBs need not be as stringent as stipulated for global
banks. It could have categorized at least six more banks as D-SIBs. If these
alone could qualify for additional infusion of capital given the fact that all
other banks are range bound 9-12 percent the need for capital infusion would
not be of the order projected in 2012 by the RBI at Rs.5trn. The RBI has also
taken cognizance of the fact that burdening banks with too much capital will be
counter-productive, given the already weak credit growth. Those small banks,
rural banks etc that cater to the needs of customers in localized or specific
compact areas can be allowed to have even 7-8% capital with no effect to
financial stability.
Most
Indian banks, very small in size are way behind the 30 global banks in eleven
capitals in the world. Their assets-to-GDP ratio is more than 200 per cent. In
contrast, India’s big banks — ICICI and SBI — have combined assets of just over
one-fifth of the country’s GDP. Riskiness of assets in Indian banks arises more
from the quality of lending than from the vanilla products and off-balance
sheet exposures and assorted amorphous financial products. In the backdrop of
Basel III, the RBI in a report in 2012 indicated the capital requirement for
Indian banks could be around Rs.5trillion by March 2019. In the past 15 years,
the Union Government, as owner of PSBs infused capital of the order of Rs.81bn
in PSBs. It makes lot of sense to provide capital regulations independent of
Basel and yet operate in a globally secure financial environment.
Local Necessity:
NPAs,
which is now shown as raison de etre for the demand on the capital will be
usually responded through provisioning in Profit and Loss Account. A provision
in P&L account would lead to issuing fewer dividends on the capital and
therefore the shareholders’ interests suffer. Bank Capital becomes less
attractive for investors. Reduction of
NPAs would happen only through quality of lending and supervision of assets coupled
with eternal vigil by the Board of Directors of banks. Refurbishing capital
with the rise in NPAs would only incentivize the poor quality of lending.
It
makes lot of sense to improve the insurance and guarantee mechanisms to take
care of the asset failures in the farm and MSME sectors caused more by vagaries
of nature than man. Bank Boards would do well to make a qualified assessment of
failures and write off the bad loans in these sectors rather than perpetuating
a defective loan book. In the worst case, the Government could write off such
loans through fiscal route than monetary route would make the banks stronger
and protect equity and discipline in banking.
Further
capital infusion should be conditioned by demonstrated better performance of
PSBs concerned and the effectiveness of the Bank Boards in improving the
quality, direction and quantity of overall credit portfolio of banks. Globally
reputed rating institutions seem to be providing rating of Indian banks based
more on the way the wind is blowing than on the fundamentals and applying equal
parameters with those of the globally placed institutions. For example, when
the US banks do not conform to Basel capital norms same as those of Indian
banks, how could they get better rating than the Indian Banks? Therefore it is
desirable and necessary that the RBI should rate the Indian banks on certain
transparent parameters and advise the government me need for any further
capital infusion. Second, it is equally important that the government should
mandate that the additional capital should be leveraged for better loaning in
the strategic sectors of the economy – agriculture and MSMEs.
K.J.
Udheshi, a Member of the Financial Sector Legislative Reforms Committee, receiving
the MR Pai Memorial Award of All India Depositors’ Association during September
2015, advised complete disinvestment of Union Government’s share holding in the
PSBs; setting up a Resolution Corporation in the place of DICGC and allowing
the weak banks to die a natural death as the most needed set of reforms to pep
up growth to provide critical balancing of infrastructure debt funding through
the PSBs.
But
if such disinvestment is done through LIC picking up the stock it would be a
sure shot for a disaster in the waiting. LIC’s average holding in the banking
sector is around 9%, and in at least 15 public sector banks it is more that 10%.
LIC holds 15% stake in Bank of India and Canara Bank and 22.5% in Corporation
Bank.
Releasing
the Annual Report of RBI on August 27, 2015, Raghuram Rajan mentioned. “Reforms
cannot be shots in the dark, subjecting the economy to great uncertainty and
risk,” He also wrote: “Wherever possible, we have to move steadily but firmly,
ever expanding the scope of reforms, while always limiting the uncertainty they
create. But reforms do not mean the recapitalization drive by the government so
much as divestment of capital and to a degree even ownership of banks. – Article published in ‘The Q-factor –BFIS,
October 2015.pdf’‘
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