Big banks, or more agile banks? Sector ripe for disruption amid tech shift

As data, payments, and deposits shift to tech giants, regulators must rethink corporate ownership and competitive rules

Finance Minister Nirmala Sitharaman said the other day that the government was in talks with the Reserve Bank of India (RBI) to consolidate the six public sector banks that were left out of the previous merger process. These banks include larger ones like Bank of India, as well as medium and smaller banks such as Central Bank of India, Indian Overseas Bank, Punjab & Sind Bank, Bank of Maharashtra, and UCO Bank.

 

The big question is: Do we want big or agile? It is not that size isn’t important in banking, but agility is what will make the crucial difference between survival  and failure in the future where fintechs, mutual funds, big non-bank finance companies (NBFCs) and even corporations may be looking for investments in the banking sector. The sector is ripe for major disruption.

 

There is little doubt that foreign players are seeking to buy stakes in Indian banks and fintechs. Some years back, DBS of Singapore took over Lakshmi Vilas Bank. More recently, two small private sector banks, Yes Bank and RBL Bank, have seen two foreign promoters, Sumitomo Mitsui Financial Group and Emirates NBD, taking them over.

 

Clearly, the RBI’s old mindset of allowing failing banks to merge with large public sector or private banks is changing. But, in the context of changing trends in technology and customer needs, it must change even faster. When competition is going to heat up, it has to find more innovative answers to the problems of regulation.

 

The first change in mindset can probably be with respect to corporate promoters. Very large corporate-run NBFCs have huge assets under management. For example, Bajaj Finance’s consolidated assets are as high as ₹4.6 trillion, which means the systemic risks are no less than those of a medium-sized regular bank. Ideally, such large banks should be enabled to convert into regular banks, but the RBI balks at the idea of letting businessmen own banks. The point is: If they can be trusted to run massive NBFCs, why not banks? The RBI’s hesitation is partly the result of old history, when banks before nationalisation were seen to be giving loans to their promoter companies, leading to real problems with related-party risks. But today, when corporations already own payment banks, owning universal banks — with many strong regulations and surveillance in place — hardly sounds unreasonable. 

 

There is also another way to look at it. As NBFCs grow larger, the risks are not any lower for them compared to banks, except for the fact that they cannot raise unlimited liabilities (deposits). But when payment banks can theoretically raise unlimited liabilities by expanding their user base (no doubt limited to ₹2 lakh per account, which may rise to ₹5 lakh at some point as regulations are eased), the logic of not allowing corporations to run banks will grow weaker and weaker. The largest NBFCs surely can be trusted with the responsibility of running banks as they have more to lose in terms of reputational damage if they mess up.

 

If the RBI truly wants more competition and better consumer servicing, there are other areas where it could start thinking differently. It began by allowing foreign banks to take over banks running into trouble, but how long will it be before more such banks, including some in the public sector, start feeling the squeeze as bank deposits steadily migrate to mutual funds? The name of the game is nimble money management and not just making a decent spread between the cost of raising deposits and earning interest on loans. Spreads will get thinner as savers see better opportunities in mutual funds. It won’t be very long before mutual funds start issuing cheques for withdrawals from schemes, thus mirroring savings and current accounts. The line between raising deposits and mutual fund investments will begin to thin.

 

Mutual funds now account for roughly 33–35 per cent of bank deposits, up from just over 10–12 per cent a decade ago. In a few years’ time, they may command as much money as banks. This does not mean bank deposits will fall, but such deposits will become less stable, which means treasury management will need to be sharper — almost like managing open-ended funds.  

Payment banks, which are expected to hold 75 per cent of their deposits in short-term papers with tenures up to one year, also will become good treasury managers since it is the float that will give them some margins. 

 

At another level, with the rapid expansion of the unified payments interface (UPI), it is not banks, but fintechs like GPay, PhonePe, and Paytm to a lesser extent, which control billions of monthly customer transactions. GPay and PhonePe between them account for over 80 per cent of transactions. They may not be making money right now, but these tech giants own customer data caches that are larger than most banks. More fintechs may ultimately enter the picture to intermediate between lenders and borrowers, with banks being left out of the action. Since data is the new oil, it implies that those who own the customer’s data can cross-sell many products, and it is anybody’s guess whether Google will do better than banks in using data to sell more products and make money from advertisers and marketers. Banks are sitting ducks for disruption.

 

Contrast this: As of last October, unlisted PhonePe’s business was valued at $14.5 billion, more than three times that of Bank of Maharashtra. The RBI should be asking itself whether a well-regulated fintech company would be a better owner of smaller banks or of other banks, which may not have as many customers and are also less nimble.

 

In short, whether you are the government and own a lot of banks (big or small), or the regulator, who has to supervise them and ensure that none of them pose systemic risks, it is not enough to just think big banks or stable banks. While we do need big banks that can take up wholesale banking or shoulder the risks involved in project financing and mergers and acquisitions, the vast majority of banks and non-bank financial companies need to focus on agility and adaptation to ever-changing market needs. More so in the emerging gig economy, where there are no easy EMIs to base your asset growth expectations on. 

 

In the era of huge tech innovation and fast-changing customer expectations, banks and regulators have to be quicker on their feet than they were before.

The author is a senior journalist