Bank consolidation, a positive development in the long term

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Global credit rating agency Fitch Ratings on Thursday said a consolidated Indian banking structure would be a positive development in the long term.

"We believe that consolidation coupled with higher capital requirements and governance reforms would position the banking system better in support of a more open and higher-growth economy," Fitch Ratings said in a statement.

According to the agency, more stable banking systems tend to be structured around a number of large "pillar" banking groups.

"These large banks in a consolidated banking system enjoy scale benefits leading to better diversification of risks and stronger overall profitability contributing to higher credit ratings," the statement added.

The agency said the financial systems would benefit from more banks of a similar size to State Bank of India (SBI).

"The system is quite fragmented at present, with around 50 domestic banks - with PSB's (public sector bank) accounting for around a 70 percent asset share," Fitch Ratings said.

According to Fitch Ratings, SBI has performed much better than its PSB peers through this credit cycle, thanks in part to greater scale benefits which enhance pricing power from a funding perspective and diversification.

SBI has stronger capital ratios and is better positioned to absorb the asset-quality issues that have plagued the sector.

Agreeing on implementation challenges during the consolidation process, Fitch Ratings said the long-term benefits far outweigh short-term challenges that tend to be associated with a consolidation process that is forced on the sector.

However, notwithstanding the talk about potential consolidation, the need to address the PSB's asset quality and potential capital shortfalls are the more immediate issues that need to be addressed.