The Indian banking
scene has undergone a sea change in the last couple of years which can
be said to have given us an augmented financial reality. The changes
have been in three main directions, though there have been some parallel
enabling developments as well. The cumulative and combined impact of
these would work out over years to strengthen the financial sector.
The first and foremost change is the extension of its reach. The prime
minister’s Jan Dhan scheme entailing opening of bank accounts for every
adult Indian, irrespective of economic status, was an act of faith.
Banking, as it was generally viewed, was the prerogative of only those
who had money. However, under the Jan Dhan scheme even those without any
stable and steady income, or those who did not possess most of the
standard reference points, were allowed to open bank accounts.
These zero-balance new accounts later on proved to be good enough for
banks as well. Because as the government started remitting the welfare
benefits of the poorest to their bank accounts, they no longer remained
zero balance. The direct transfer of benefits stopped leakage of funds
to the real beneficiaries as well, bringing about a real metamorphosis
in distribution of welfare. The large number of these accounts would
surely help foster an all inclusive financial system.
Secondly, the government has set about strengthening the institutional
structures for the banking sector. Two major steps could be cited in
this sphere. One is the new emphasis on professionalization of public
sector bank boards. Even today, the public sector banks are the bulwark
of Indian financial system and the professionalization of their boards
could not be overemphasized.
We have seen earlier how the bank boards were filled in with those who
did not have any expertise or knowledge of banking or financial sector.
They were there only because they were aligned to the ruling political
dispensations of the time. We have seen governments filling in PSU bank
boards with their nominees at the penultimate stages of their tenure. In
one instance even the Election Commission had to issue directives
preventing hasty appointments to bank boards.
Since most of these were political appointees, there were instances of
board members seeking to influence credit decisions. Even those not
credit worthy could get bank funds. No wonder many of these borrowers
subsequently failed to return their loans.
Creation of the institutional mechanism for selection of board members
should hopefully result in strengthened bank boards. The selection
committees could be expected to pick up only those who are qualified and
have the requisite professional expertise. Selection of board members is
no mean job with so many public sector banks whose boards will have to
be filled periodically.
The other institutional step taken recently has great policy import.
Until now, the Reserve Bank’s monetary policy used to be formulated by a
body which was principally advisory in nature to the RBI governor. In
the end, the policy decisions used to be that of the governor rather
than a collective decision of the governor and his policy council. A
high level RBI committee had suggested modernisation of the monetary
policy committee which collectively should decide the central bank’s
So, the Monetary Policy Committee (MPC) was instituted and since then
the monetary policy decisions are the prerogative of this committee,
where the central bank chief has a voting power along with other
members. It may be stated that monetary policy is decided collectively
thorough a committee in most of the advanced economies like the US or
UK. This would take away scope for individual errors and one-track
Another institutional innovation recently has been the introduction of
diversity into Indian banking in two major ways. Firstly, the
authorities allowed fresh banking entities which brought new ideas,
players and competition on the ground. The new private sector banks are
as yet fledgling. But surely, they are already showing their dynamism
with a different approach to both deposit mobilization from hitherto
neglected sectors and in giving funds to new smaller business units. The
second institutional innovation in this area has been the infusion of
specialized banks. Take for instance “Payments Banks”. Even a few years
back, this kind of bank was inconceivable.
Last, and most recently, the government has made a serious move in
addressing the bulging bad debt portfolio of the public sector banks. At
the time of writing this Article, the details of the steps being taken
are yet not fully known; but the outlines are enough indication that
this time it is a determined bid to settle this most vexed issue which
could be threatening the very foundation of Indian banking sector.
Flow of credit in an economy is like circulation of blood in a body. If
the circulation gets clogged, body system collapses. Mounting bad debts
can do exactly that: it can bottle up the flow of credit. Bad debt means
you are locking up these funds from circulation and become a stagnant
cesspool. How threatening this could be was illustrated by none else
than the sudden eruption of “sub-prime loan crisis” and the resultant
credit freeze striking American banks. The crisis itself then
metamorphosed into the global financial crisis of 2008. These
illustrations from financial history underscores the importance of
resolving the issue of bad debts with banks. Banks’ balance sheets must
be clean and robust; not encumbered and sick with bulging burden of bad
The recent ordinance empowering the Reserve Bank to directly intervene
in individual banks for taking actions to resolving their bad debts
portfolios is a significant forward movement. What has been happening is
that individual bank managements were reluctant to take decisive steps
with defaulting groups of companies and home in on a package. The fear
of future allegations of corruptions against bank managements was one of
the factors for inaction because any settlement of bad debts invariably
involve some haircuts. With the RBI on board, driving measures against
defaulting companies, the managements could become much bolder in
handling such large corporate borrowers.
Still no amount of specific actions can be successful unless an overall
atmosphere of seriousness is created that the government and RBI means
business. Fortunately, several other accompanying steps vindicate that.
The most important among these is the creation of a legal framework for
bankruptcy. Without proper bankruptcy laws, the cases against defaulting
companies – and in many cases willful defaulters—used to drag for years.
This would defeat the very purpose of moving against the defaulters. Now
that the bankruptcy board is in place and specific time lines have been
stipulated for action, one can hope the legal cases against default and
non-payment of dues would be settled expeditiously.
The end result of all these measures could be that Indian banking system
now has the enabling environment for sound growth in the future. Hoe
these pan out, we will now wait.
*The author is a senior
freelance journalist based in Delhi. He was with the Economic Times and
the Telegraph previously.
The views expressed in the Article are his own.