Banking on bluntness

RBI warns incrementalism won't help fix banks

The Reserve Bank of India's annual report for 2014-15 (it follows a July-June accounting year) was published last week. It typically provides a platform for the governor to highlight trends in the economy that lie beyond the relatively narrow confines of monetary policy. In this year's report, Governor Raghuram Rajan chose to re-tread familiar ground by underlining several areas of weaknesses and vulnerability in the banking sector. His overarching point was that the pace and predictability of banking sector reforms were too slow to deal with the potential crisis looming in public sector banks. They are suffering attacks from a number of directions. Long-term issues relating to governance and human resources combine with immediate challenges of abysmal asset quality and enormous capital requirements mandated by Basel-III standards. The government's response to various recommendations on several of these, including by committees set up by the RBI itself, was the seven-point programme announced a few days ago, titled "Indradhanush". While each of the components of this plan is sensible and will address specific issues, it does not reflect the depth and urgency of the problem. Dr Rajan's essential point is that the time for incrementalism is past and could well allow a potential crisis to morph into an actual one.

For example, soon after signalling that the government was serious about inducting new talent from outside to run public sector banks by appointing two such individuals (though one is a career State Bank of India person), the then financial services secretary, presumably to stave off resentment from the ranks, suggested that this was an aberration and only insiders would be considered henceforth. There ended hopes of organisational restructuring. Governance reforms, blueprinted by the committee headed by P J Nayak, were acknowledged but significantly diluted by the structure of the Bank Boards Bureau, which, many observers feel, will not change the current practice of command-and-control by the ministry. In short, strategic vision and bold execution are being advocated instead of the tentative steps being taken and, those too, with apparent nervousness.

A very important question raised in the report is: who is going to fund the Prime Minister's Jan Dhan Yojana (PMJDY)? This was an initiative spearheaded by public sector banks, which may now be ruing the massive increase in no-frills accounts that have been opened. This is a viable business segment with the right organisational and technological framework; but the banks do not have these in place. If they lose money on this programme, they are directly compromising their ability to raise the fresh capital that they desperately need from the markets. The government needs to either compensate them - a process that fortunately seems to be getting discussed, going by statements by the Chairperson of the State Bank of India - or, eventually, infuse far more capital into them than proposed by Indradhanush. Now that new licences have been issued to 11 parties to set up payments banks, the question being asked is whether the PMJDY pre-empted the viability of this new business model. The system may eventually find an equilibrium, but it could be messy for both incumbents and entrants.