BANKING REFORMS

The Banking Sector is a primary and major support system of an economy of a nation. The Sector is interdependent for its overall development on the progress of economy viz-viz the developing economy needs the support of a vibrant, robust and efficient Banking system. In this context, it would be pertinent to remember the nature and state of affairs of the Indian banking sector before the advent of economic liberalization in India in the early 90s. In India, the nationalized banks were the largest principal intermediaries in the financial system. In the pre reform period, these Banks essentially catered to the needs of a mixed economic system, which was predominantly controlled and guided by the Government through planned framework of development. It was in 1975, when the Indian economy was in the process of being restructured and was trying to stand up on its feet, the then Prime Minister of India, Smt. Indira Gandhi, took the bold step of nationalizing some 14 Private Sector Banks, with an objective of making these entities more responsive and responsible to the needs of the economy of a nation aspiring to be self reliant. But, in the course of the time, these banks lost their stated objective, sense of purpose and direction for variety of reasons.

The Management of these Banks, handpicked by the Government, had very negligible freedom with regard to taking policy decisions. And the bank managers working in the branches of the banks had little operational liberty. Political interference was the order of the day and very often, the nationalized banks were made to dole out loans through some grandiose schemes floated by the Government in the name of helping the needy or “loan melas” organized by political leaders and ministers in their constituencies. Such loans invariably became sticky and the banks were saddled with huge overdue loans, without yielding anything to Bank’s earnings. The loans extended to the “priority sector” as a regulatory requirement, also became unrecoverable due to slow death of small-scale industries, where these loans were concentrated. The Banks were also plagued with corruption and bureaucratic lethargy, the very hallmark of Public Sector Enterprises in India.

The interest rates were determined and administered by the Reserve Bank of India, and this system was, more or less, guided by the social concerns, resulting in cross-subsidization. This system only resulted in distorting the interest rate mechanism and adversely affected the viability and profitability of banks by the end of 1980s.As also, lack of effective recovery mechanism and critical judicial support often tied bank’s hands and the bad loans kept mounting and crippling the income generating capacity of the Banks.

Bringing in Reforms.

Reams and Reams of paper have been used to write about the Financial Reforms in India since these were initiated in 1990s. Renowned scholars, academicians and economist of all hues and colours have extensively and

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exhaustively debated upon the issue in all its forms. It would therefore, be pointless to delve on the subject. Nearly 15 years after and three regime changes at the center, one thing that appears quite certain now is that the reforms are here to stay. Hence, the main purpose of this article is to discuss whether the objectives of the Banking reforms have been met and that where is the Banking Sector in India is headed from here onwards.

One of the major objectives of banking sector reforms had been to enhance efficiency and productivity through competition. Since 1993, twelve new private sector banks had been set up. The Government shareholding in the Public Sector Banks was proposed to be reduced and these Banks were allowed to enhance capital through capital markets. Even, Foreign Direct Investment in the private sector banks is allowed up to 74 per cent. With a view to inject professionalism into Bank’s operations and functioning, the Reserve Bank of India had issued regulatory guidelines relating to governance issues and supervisory practices. Further, the RBI has initiated number of measures for enhancing the transparency in Bank’s operations and disclosures standards.

The post 1990s era also witnessed incredible technological advancements in the Information Technology sector. As Indian economy was now linked with the global financial environment, the Banks here needed to match international standards in terms of an overall operational efficiency. Computerization therefore, became the modern mantra to survive and prosper in the system. The Banks needed to hire skilled professionals and technocrats who could work and operate in the computerized environment. The existing manpower was perhaps ill suited to the new technologies, as mindsets were required to be changed and reformed. The Banks chose the shortest possible method, getting rid of these unwanted faithfuls.

As such, the worst fallout of this reform exercise has been the reduction of manpower in the public sector banks. In order to cut costs and enhance productivity, the Public Sector Banks floated attractive Voluntary Retirement Schemes to get rid of employees. Lured by monetary benefits many left their jobs midway thinking they would be able to pull through rest of their lives on the interest yield they would earn on their investments. Little did they realize then that the financial system was heading towards a low interest rate regime and soon, their interest earnings would be reduced to less than half. There was a social problem too. These retired persons, with many working years still left in them, had nothing to do at home and they soon became restless resulting into serious psychological disorders. Some of these were lucky enough to find jobs, though at meager salaries, with the new Urban Co-operative Banks, which were mushrooming thanks to the liberal licensing policy of RBI. But soon, to their utter dismay, most of them found that, after having worked in the blissfully secured jobs in Public Sector Banks for most of years of their career, they were not suited to the co-operative environment. Disgruntled and frustrated, many left in a huff.

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Despite all the hullabaloo, the performance to the Public Sector Banks is still far from satisfactory in terms of customer service, operational efficiency and management of overdue loans or NPAs, tall claims by the Government notwithstanding. Forget international standards, the Public Sector Banks in India, are still far behind the new generation Private Sector Banks. The P.S. Banks are yet to attain high level of professionalism and expertise required in the globalized economy. The old mindsets still persist and the banks continue to function as they were in the pre reform period despite the facelift. With ever gaping fiscal deficits in the Government’s annual budget, it would be anybody’s guess as to how long the government could afford the bailout packages for the inefficient Public Sector Banks.

Co-operative Banks – Regional Rural Banks.

By the beginning of the 20th century, the co-operative movement was well established in Europe and had achieved certain degree of success there. Convinced that the cooperative movement offered the best means of liberating Indian farmers from the clutches of the moneylenders, some colonial officials took active interest in promoting credit co-operatives in the country. Societies were organized for the first time in beginning of the 20th century. The Royal Commission on Agriculture in India, in its report in 1928, suggested among other things, that the co-operative movement should continue to focus on expanding rural credit and that the State should patronize cooperatives and protect the sector. The commission made one important observation, which even today, stands valid. It observed, “if cooperation fails, there will fail the best hope of rural India.”

After independence, rapid and equitable development of economy assumed greater significance in the State policy. Development of rural economy thus became the central focus and co-operative credit structure was thought to be an ideal mean to achieve this objective. The All India Rural Credit Survey therefore recommended state partnership in establishing, promoting the rural cooperative credit structure. Rural Regional Banks and other multi purpose Co-operatives thus came into being to deliver institutional credits on soft terms to the rural, tribal regions of the state. In addition to the Apex Bank in form of State Central Cooperative Bank, each district of a State would have one District Central Co-operative Bank.

The State Government had used this co-operative structure to channel its development schemes, particularly subsidy-based programmes, because of its wide reach in the rural areas. This exercise however, made these institutions an instrument of distributing political patronage. The huge quantum of resources these Banks had at their disposal in form of Govt. funds and benefits chanelled through them, made these Banks attractive to political powers and these powers began hankering after the control of management. The competitive populism, favouritism, doling out benefits

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to cronies by the political class has severely impaired the health of the State Central and Dist. Central Co-operative Banks and other such institutions.

The current state of affairs of these Banks is a matter of grave concern to all right thinking workers, leaders in cooperation. It is rightly feared in the knowledgeable quarters that nearly 80% of these Banks are either sick or weak. The impaired health of the RRBs is also a major cause of worry to may Urban Co-operative Banks who have invested, as a regulatory requirement, their SLR funds with the District Central Co-operative Banks. Non-payment of deposits by the DCC Banks to the holder Banks, has severely damaged the profitability of many a urban banks. In some cases, the good Urban Banks have also sunk with the fall of a DCC bank in their district.

Urban Co-operative Banks.

The Urban Co-operative Banks in India are, by and large, considered as economic entities with social content and outlook. The UCBs have played a significant role in encouraging thrift and fostering banking habits among the lower and middle-income groups and dispensing credit at micro level. Because of the cooperative character, limited area of operation, democratic management and personalized services, these Banks have been immensely popular among people of small means.

Over the last one and half decade, the Urban Banking sector has witnessed phenomenon growth. From 1307 Urban Co-operative Banks (UCBs) in 1991, the number has risen to 2105 in the year 2005. Deposits with this sector have increased from Rs.8600 crores in 1991 to Rs.1.00 lakh crores in 2005, while advances have risen from Rs.7800 crores to Rs.65000 crores. But by and large, the development of this sector has been concentrated in 3 or 4 states, mainly Maharashtra, Gujarat, and Andhra Pradesh. There is yawning regional imbalance in terms of spread and development of Urban Banks. Besides, while the sector has shown remarkable growth during the last decade exhibiting substantial potential, there are certain infirmities that have manifested in some entities.

The Co-operative banking sector today is beset with several constraints related to legislative and policy initiatives or lack of both. Liberalization, decontrol and deregulation have together propelled the sector into a

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fierce and uneven competition with commercial and new generation private sector banks, whose financial clout, operational superiority and managerial excellence were far better than that of Co-op. Banks. In a misguided assumption, the Co-op. Banks were equated with commercial banks. Post liberalization, many international norms and practices were implemented without taking into consideration ground realities about proletarian managerial set-up that exists in these Banks as also, the socio-economic conditions prevailing in the rural, semi-urban and urban areas where the Urban Banks largely operate. This exercise has crippled the income generating capacity of these banks to a large extent.

Among many modern concepts introduced to the Urban Co-operative Banks, luring them to trade in government securities brought disastrous results for these Banks. As the management and the staff of most of the urban cooperative banks comprised of individuals, hailing from rural and semi-urban background, with no real exposure to the multifaceted and complex dynamics of liberalized market economy, they lacked expertise to operate and maneuver in the volatile market. Lured by profits, most of these banks invested heavily in Govt. securities. But the year 2004-05 saw the steep decline in the market prices of Govt. Securities, resulting into eroding the investment portfolios of these Banks. Thanks to the well-thought and timely relief measure given by the Reserve Bank of India, these Banks were saved, for the time being, from sure disaster. But the real problems are far from over.

Death of these Banks would have meant loss of confidence of millions and millions of small depositors, account holders in the system of co-operation. The co-operation must succeed for the betterment of underprivileged and economically weaker section of our society for whom the Urban Banks are the only custodians of their hard earned petty savings and the real source and succor in their hour of need. Neither the RBI nor the mandarins of finance ministry are aware of the social issues involved with the well being of this sector and they have not treated this sector with the fairness it deserved. Often, it is relegated as State subject.

The challenges ahead for the Urban Banks are manifold. The Reserve Bank of India therefore has to play even a greater role in helping co-operative banks to overcome the present crisis. Rejuvenating co-operative banks and co-operative credit system in general, is far more important than applying mindlessly, what are essentially, alien concepts of developed economy based on capitalist principles. Considering the basic mandate of the co-operative sector, it is desirable that these banks should not be equated with commercial banks and should not be subjected to rigors of reforms. It is imperative therefore that the Reserve Bank of India take a more holistic view of the socio-economic conditions prevailing in the rural, semi-urban or urban regions, where these Banks largely operate and devise strategies and initiate measures that would, in the time to

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come, ensure sustained development of co-operative credit structure and enable the co-operative Banks to become, both viable and vibrant.

Ram Sharma.

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