Relevance: GS-3: Indian Economy and issues relating to Planning, Mobilisation of Resources, Growth, Development and Employment; Effects of Liberalisation on the Economy.

Key Phrases: State-owned banks, Capital allocation efficiency, Privatisation, Public Sector Banks (PSBs), Efficiencies and productivity, Foreign investors, Bank failures, NPAs, PSBs Privatisation Bill, 2022.

Why in News?

• The government is in the process of taking ‘advanced action’ to expedite the privatisation of public sector banks. It is geared up to take further steps to rein in inflation as well as maintain economic stability and growth.
• State-owned banks mustn’t be sold off just to plug fiscal gaps. While we must raise capital allocation efficiency, these lenders still have a valid role to play.

Context:

• Government’s recent moves to create economies of scale by merging three-four Public Sector Banks (PSBs) into one large bank meets that objective only partially and does not address the core issues.
• Talk of privatisation remains irresolute because the end goal is blurry.
• The primary motive behind disinvestment so far has been to fill gaps in the Centre’s budget, not to achieve a step-change in the working of PSBs.

Background:

• The government decided to nationalise the 14 largest private banks in 1969. The idea was to align the banking sector with the socialistic approach of the then government.
• But, in the late 1990s government found that many banks performance was low. so merger of banks was proposed.
• The idea of bank mergers floated since 1998, when Narasimham Committee II recommended the government to merge banks into three-tiered structure:
  • Three large banks with an international presence at top
  • Eight to ten national banks
  • A large number of regional and local banks.
• In 2014, P J Nayak committee suggested that the government should privatise or merge some PSBs.
• In 2015, the government had suggested privatisation but the then Reserve Bank of India (RBI) Governor did not favour the idea.
• In 2017, Government had approved the merger of SBI’s five associate banks and later of the Bharatiya Mahila Bank (BMB) with SBI.
• In 2018, Vijaya Bank, Dena Bank and Bank of Baroda (Anchor bank – BoB)
• The Centre had announced the privatisation of two PSBs in the Budget for 2021-22 but is yet to amend the relevant banking laws to enable the sale of its majority stake in them.

What is Privatisation?

• The transfer of ownership, property or business from the government to the private sector is termed privatisation.
• The government ceases to be the owner of the entity or business.
• Privatisation is considered to bring more efficiency and objectivity .

Reasons for Privatisation of Banks:

• Degrading Financial Position of Public Sector Banks:
  • Years of capital injections and governance reforms have not been able to improve the financial position of PSBs significantly. Many of them have higher levels of stressed assets than private banks, and also lag the latter on profitability, market capitalisation and dividend payment record.
• Eficiencies and productivity:
  • It is expected to improve capital allocation efficiency and overall productivity by an order of magnitude. The private sector is likely to scale efficiencies and productivity gains in banking system.
  • Private banks are more stringent towards loans and frauds.
• Strengthening Banks:
  • The government is trying to strengthen the strong banks and also minimise their numbers through privatisation to reduce its burden of support.
• Recommendations of Different Committees: Many committees had proposed bringing down the government stake in public banks below 51%:
  1. The Narasimham Committee proposed 33%.
  2. The P J Nayak Committee suggested below 50%.
  • An RBI Working Group recently suggested the entry of business houses into the banking sector.
• Benefits from Foreign Investments:
  • The majority of foreign investors favour investing in private sector banks over those under the public sector. Hence, it benefits the economy through foreign investment funds as well.
• Better financial performance will be ensured with a strong financial institution as a significant shareholder in privatisation.
• Creation of Big Banks:
  • One of the objectives of privatisation is also to create big banks. Unless privatised PSBs are merged with existing large private banks, they cannot ultimately attain the kind of scale and size to develop higher risk appetite and lending capacity.

Hence, privatisation is a multifaceted task considering all angles to tackle multiple challenges and exploring new ideas but it can pave the way for developing a more sustainable and strong banking system benefitting all stakeholders.

Why not to Privatise Banks?

• Government banks reduce bank failures:
  • From 1935 (Reserve Bank of India was established) to 1947, 900 bank failed in our country
  • From 1947 to 1969, 665 banks failed.
  • The depositors of all these banks lost their money.
  • But Post Bank nationalisation (1969), only 36 banks have failed
  • These were rescued by merging them with other Government banks.
  • Recently, Lakshmi Vilas Bank and YES Bank were rescued
  • There were also many cooperative bank closures, and the strength of town cooperative banks have shrunk from 1,926 in 2004 to 1,551 in 2018.
• Comfort to depositors:
  • Banks owned by the sovereign government provide a tremendous comfort level to depositors.
  • The common man feels that a government bank cannot fail and his money is safe. Disturbing this structure will, therefore, be dangerous.
• Limited coverage and NPAs:
  • Private sector banks have been caught for wrongdoing several times for providing doubtful loans. Several banks have been found guilty of under-reporting NPAs.
  • These banks’ service charges are also high and they refrain from providing service in rural areas. They are also reluctant to implement government schemes.
• Lack of Public service:
  • PSBs have a role to play in the ongoing formalisation of credit, financial inclusion and also in providing the Centre and States with transaction processing platforms and pipelines for the delivery of direct benefits to beneficiaries. The private sector, which focuses on efficiencies and productivity gains, is not designed to provide these services.

Way forward:

• The biggest challenge for banks as of now is Non-Performing Assets (NPAs). But it is unfair to present a solution only by promoting privatisation.
• Private banks operate with the sole aim of adding shareholder value whereas Government banks also try to serve society and ensure implementation of all Government programmes for the social sector.
• Performance should not be measured simply based on profitability or business handled but with the contribution to society, direct as well as indirect.
• Instead of privatisation of PSBs, there is a need for long-term structural reforms.
• The governance and management of PSBs has to improve. The way to do this was outlined by the PJ Nayak committee, which recommended distancing between the government and top public sector appointments (everything the Banks Board Bureau was supposed to do but could not).
• Rather than blind privatisation, PSBs can be made into a corporation like Life Insurance Corporation (LIC). While maintaining government ownership, this will give more autonomy to PSBs.
• Given that PSBs are here to stay for some more time, we should focus on improving their standards of governance, rather than simply trying to offload them via bulk stake sales.

Source: Live-Mint

Mains Question:

Q. “Is Privatisation of Banks the only answer to the problems faced by the public sector banks”. Discuss.