Subir Roy: A new frontier in banking

If the guidelines finalised by the Reserve Bank of India (RBI) for issuing licences for limited banking - payment and small banks - actually result in a critical number of such banks taking off, then it will have an impact on the banking scene similar to what was initiated with bank nationalisation four decades ago.

Banks were nationalised in order to take banking to the entire country and all its citizens. The limited success of public sector banks in this regard has now prompted the banking regulator to devise these new types of banks and also grant a banking licence to a microfinance organisation to complete the task of financial inclusion. The aim is to facilitate payments and transfers, small savings, and small loans for all.

If these new entities succeed, then the space for commercial banks will be partly circumscribed. State-owned banks will lose most of their developmental agenda and have to compete with the private ones in the conventional commercial banking space without being able to justify their performance on their developmental responsibilities.

To compete with the new private sector banks, like HDFC Bank and Axis Bank in particular, the state-owned banks will have to be given a level playing field. They have to be allowed to run their affairs totally professionally, without political and bureaucratic interference, by paying their people market-determined compensation and expecting performance similarly benchmarked to the market.

In such a situation, it is difficult to see the government continuing to retain control, not letting its shareholding go below 52 per cent and thereby perpetuating the kind of management culture that prevails today. It is possible that the RBI is driving the government as bankowner into a corner. It is creating a situation where the state will no longer be able to justify owning full-fledged banks - precisely the situation that leads to the creation of huge non-performing assets because of corruption, inefficiency and cronyism, all justified in the name of aiding the poor.

The first consequence of a significant number of payment banks operating with equal access to the several electronic systems of funds transfer is to take away a part of the "float" (money in transit) from commercial banks. This is money for jam, on which banks pay no interest. Plus some fee-based income, even if small, from remittance work will go.

The second consequence of these new banks opening large numbers of small savings and current accounts with them will be for commercial banks to lose a part of their CASA (current and savings account) deposits that are a key source of low-cost funds. It is the not-so-well-off who keep most of their money in savings accounts; the better off look for facilities that give at least a positive real rate of return.

The small banks will also take away a part of the loan portfolio of commercial banks pertaining to small businesses and farmers. The delinquency in these is high, particularly losses resulting from politically directed loan write-offs for farmers. But the way in which corporate borrowers have been faring ever since the 2008 global financial crisis broke, with banks having to take haircuts from restructuring of large non-performing loans, it has become difficult to say which class of assets is riskier.

It is not as if the success of the new types of banks is a given. They will have to succeed where commercial banks have largely failed - making small transactions emanating from millions of small customers and small loans pay for themselves. The new private sector banks have solved this problem by mostly shooing away small customers.

The new type of banks will have to extensively use information technology and extend their reach through the use of business correspondents. It is exciting to visualise the day when the ordinary unsmart cellphone or smartphones available at the price of unsmart ones will be the medium for most transfers and the local village grocer or all-purpose storekeeper will be routinely used to draw and deposit cash. Neither he nor the business correspondent will offer their services free - they will demand a commission that will initially appear unaffordable for both the banks and their customers. But if these banks are able to unearth even a portion of the cash that lies idle in rural areas or with conservative minded people, then that will be a big plus.

The city types who man commercial banks have managed to get away with only token rural postings. Thus, these banks have failed to tap the huge persisting unbanked potential. It is exciting to visualise a weavers' cooperative being able to easily get working capital for its members (the politically captured cooperative banks having failed them) or the migrant worker sending money home with a full sense of comfort. There are enough entrepreneurs willing to take the risk and invest Rs 100 crore in setting up such banks.

subirkroy@gmail.com