Go beyond banking

An efficient financial structure will support growth

The Union government last week constituted a high-level committee to review the state of India’s banking sector and recommend regulatory, structural, institutional, and legislative reforms to make it globally competitive, inclusive, and resilient to be able to meet the needs of a developed country by 2047. The committee’s constitution follows an announcement in this year’s Union Budget. The committee, headed by former central vigilance commissioner Suresh N Patel, according to the terms of reference (ToR), will be expected to look into areas such as banking practices and prudential norms, existing regulatory and legal frameworks, issues related to capital requirements (including for development finance institutions and non-bank financial companies), and the priority-sector lending (PSL) framework, and prepare a road map for artificial intelligence and digital innovation in banking.

 Any exercise that assesses the current position and examines possibilities, along with the supporting regulatory and legal framework, must be welcomed. India is seen as a largely bank-financed economy, and an efficient banking system will help channelise savings into real investment. The committee’s ToR are also fairly comprehensive. While it will look into various aspects of banking, its observations on specific issues will be keenly awaited. India has a mix of public-sector banks (PSBs), private banks, regional rural banks, cooperative banks, new-age payments banks and small-finance banks, which makes the sector fairly vibrant. Nevertheless, estimates suggest that there is large unmet demand for credit. A 2025 NITI Aayog report, for instance, noted that only 19 per cent of credit demand among micro, small and medium enterprises was met through formal sources in 2020-21.  In fact, this could be a good starting point for the committee. Why does India have large unmet credit demand?

 It would also be worth probing whether India needs so many PSBs in this day and age. It must be remembered that the Union government had to undertake a massive capital infusion into PSBs in the aftermath of the global financial crisis. There has also been a debate on different regulatory standards for PSBs. In fact, there is a case for improved and transparent regulations in general. For instance, the chairman of a large private bank abruptly resigned earlier this year, citing governance and ethical issues. It is still not known what exactly the issues were. Given that large banks can pose systemic risks, such occurrences cannot be allowed. Further, the committee will look into the much-debated issue of the PSL framework. Many, including officials in the government, say that the framework needs to be adjusted. There is no need to expect all banks to do the same kind of things. It is also hoped that the committee will undertake a comprehensive review of regulatory requirements, including those related to the maintenance of the statutory liquidity ratio. In the interests of transparency in a market-driven economy, is there a case for progressively reducing such requirements? Are such requirements affecting interest in the banking sector?

 While the committee will look into these issues, it is worth highlighting that banks are only one part of the broader financial system. In a large, growing, and complex economy, financing requirements will be met by different kinds of providers and instruments. Thus, there is a need to holistically review the functioning of the Indian financial sector. Nevertheless, the high-level banking committee is a step in the right direction. The government must broaden its scope and review all aspects of the Indian economy to chart a course towards making India a developed country. 

 

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