Banking reforms the Budget should not miss

Banking Reforms the Budget should not miss

Former President of India, Pratibha Patil, in her address to the Lok Sabha on 4^th June 2009 said: “Our immediate priorities and programmes must be to focus on the management of the economy that will counter the effect of global (domestic) slowdown by a combination of sectoral and macrolevel policies.” She laid emphasis on accelerating growth that is ‘socially and regionally more inclusive’. 

The objective of overall policy in India is accelerated inclusive growth with macroeconomic stability. This approach is likely to reverberate in the ensuing Budget Session.

FM needs to give a measured response to the imperative outlined. In order to take the States on board, she may announce clearance of all the dues on GST to the States once the present audit of GST concludes. She may also like to give a new financial sector reform agenda to resolve the existing imbroglio. A few of the available options will be the focus of this article.

FM is at crosshairs between fiscal austerity and enhancing public spending to stimulate growth. Discomfort lies in the worst performance of Public Sector Banks (PSBs) and failure of NBFCs. While the RBI is balancing inflation and growth objectives, the recently released Financial Stability Report re-emphasis on the need for ‘good governance across board’, improving the performance of PSBs and the necessity to build buffers against their disproportionate operational risk losses.

None of the recent bank mergers added to her comfort. Hence there is need to look at the unfinished earlier reform agenda suggested by various Committees since 1991 and announce either a Reform Agenda or appointment of a High-Level Committee with a specific timeframe for actionable agenda that could stonewall criticism against the PSB failures, bank frauds and twin balance sheet problems. 

The issues surrounding banking are not peripheral.

The moral hazard consequence of banks receiving bailout is worrisome now and therefore, she may refrain from any further bailout announcement. Stress in the NBFCs and Cooperative banking seemed to have forced re-look at the Financial Resolution and Deposit Insurance Bill, 2017. While the Bill proposes to establish a Resolution Corporation to monitor the health of the financial providers on an ongoing basis, the bail-in by depositors and stakeholders is worrisome.

Increasing stress in various buckets of assets stands unabated and calls for a surgical strike. Banks’ credit origination risks need urgent evaluation. It is important to relook at the universal banking model the country adopted aping the west. Customer preferences and customer rights have taken a back seat.

Market-led reforms of the past have replaced social banking with profit-banking objective. 2025 $5trn GDP target should look at more efficient performance of banking as key to its achievement. There is a need for reconciling satisfactorily the dilemma of policies appropriate for short term with those suitable for the long term.

Governor, RBI in a recent address indicated that he would like to look at the priority sector categorization afresh to ensure that it delivers the intended. This assumes greater importance in financial inclusion agenda as efforts hitherto like Jandhan, Mudra etc could make only numerical and not qualitative advances. Provision of adequate and timely credit to the rural areas in general and agriculture, micro and small enterprises and weaker and vulnerable sectors, remained a major challenge for Indian banks for decades.

Direct credit programmes in Korea, Japan in 1950s and 1980s revealed the need for narrowly focused and nuanced programmes with sunset clauses delivered the results. The problem with directed credit is essentially three-fold: First, pricing at its true market level, second, avoidance of the persons who are not credit-constrained, and third, selection of focused areas and regions without political interference in undefined democracy.

Credit discipline and equity, the twin principles of credit dispensation suffered a systemic failure with politically motivated loan write-offs in several States. Both farm and micro and small enterprises require credit with extension, handholding, monitoring and supervision as key deliverable. This calls for out-of-the-box thinking.

While there has been broad recognition that increasing supply to cope with the rising demand through diversified lending institutions like small finance banks, and NBFCs of various hues, ever-increasing demand to cope with new technologies, low labour productivity, and absence of aggregators structurally to resolve the pricing of produce at the farmer’s doorstep, are all issues that require comprehensive solutions. Resources should not fall short of the requirement for such effort. Budget 2020-21 should make a bold and strategic announcement regarding the direction of investments in farm sector supportive for responsible credit flow. FM would do well to avoid announcing any crop loan targets and leave it to the RBI’s priority sector reformulation.

Supply-side issues cannot be adequately and appropriately addressed without institutional reforms focusing restructuring NABARD and giving a new mandate consistent with the future goals of the economy. SIDBI the second surviving DFI is living on interest arbitrage and enjoying the munificence of the Finance Ministry to the detriment of the sector it was intended to protect and promote. This also begs either closure or restructuring.

As regards governance of banks, the unattended reforms of Narasimham Committee -II deserve attention: Removing 10% voting rights; reducing the legally required public shareholding in PSBs from 51 to 33 percent; improving the Boards qualitatively with well-defined independent and functional directors’ roles.

Since the FM already announced that she is exploring the amendment to the Cooperative Act to skip the duality of regulation of cooperative banks by both the Registrar of Cooperative Societies and RBI, she would be going one step further in eliminating similar duality between her Department of Banking and RBI in so far as the PSBs are concerned, particularly because the RBI created separate Departments of Supervision and Regulation and College of Supervisors to improve the supervisory skills of RBI personnel.

the Hindu Business Line, 16.1.2020 https://t.co/eNEANVcaW8?amp=1