Relevance: GS-3: Issues relating to planning, mobilization, of resources, growth, development and employment

Key Phrases: Twin balance sheet problem, privatization, Banking Regulation, Insolvency and Bankruptcy code. Non-performing assets.

Context

• India is facing a twin balance sheet problem which is a result of India’s over-leveraged companies and bad loan saddled public sector banks. Thus, the government of India is of the opinion to private these PSBs in order to tackle the issue of NPA.

Background

• Banking works on the principle of lending and deposits. Depositors i.e. common people or institutions deposit their savings into Banks and borrowers take loans from these Banks. Thus, the functioning of the banking sector is directly related to the amount of credit it has in its hand at any point of time.

Importance of Banking Sector in India

1. Banks deposit money from the public and it inculcates saving habits among the population. In return, banks offer interests on these deposits.
2. Banks lend money to the needy individuals as well as institutions and thus, help them in starting new ventures or satisfy their immediate needs. In return, they charge some interest rate on the lending amount.
3. Banks provide withdrawal services over the deposits so that people can have money from their saving accounts as and when they are in need.
4. On the commercial side, banks on their own invest in the market such as Stocks to earn money and pay interests on its deposits.
5. Various other services are also offered by the banks such as insurance, bill payment etc.

Regulation of Banking Sector in India

• Banks in India are regulated by the RBI (Reserve Bank of India). It has power under Reserve Bank of India Act, 1934 as well as Banking Regulation Act, 1949. RBI looks for seamless functioning of the Banking Sector and takes timely measures in case of failures of banks.

Bank Nationalization in India

• Nationalization is nothing but transfer of ownership from the private sector to the public Sector. Private banks in India have been in existence since the British Era. Reserve Bank of India was established by RBI Act 1934 on the recommendation of Hilton Young Commission. Later in 1949, it was nationalized. Similarly, the largest state owned bank, the State Bank of India was nationalized in 1955. Prevailing circumstances at that time forced the Government of India to take measures to nationalize 14 other public sector banks in 1969 and 6 PSBs in 1980.

Reasons behind Bank Nationalization

• It helps in prioritizing important sectors such as agriculture, rural development, MSMEs etc e.g. RBI decides sectors under Priority Sector Lending (PSL) which is made mandatory for Banks in India.
• It helps in removing skewness in Banking facilities such as rural-urban gap in banking infrastructure by expanding banking sector to such areas.
• It aims to inculcate banking and saving habits among Indians to support themselves in unfortunate situations.
• It helps in ending the monopolies of some individuals in Banking sector
• Prevailing issues such as bank failures and underperformance have been the causes behind Bank Nationalization.

Issues in the Banking Sector

1. Problems of NPAs : Arising Non-performing assets i.e. bank credits which have stopped earning profits to the banks.
2. Low capital adequacy ratio due to prevalence of bad loans. Also, people desist from parking their savings into banks due to economic recession and rising cost of living.
3. Grievance Redressal : Ineffective and untimely resolution of consumer’s complaints.
4. Bank defaults and Bank Runs : e.g. Punjab & Maharashtra Cooperative Bank was not able to provide cash to its depositors. Such issues are still prevalent in the Indian banking sector especially in rural areas.
5. Work Culture : Laziness among bank employees (mainly seen in public sector banks) either due to old age of employees or due to lack of incentives to work harder.

Government interventions in tackling the issues

1. Four R’s strategy to tackle the issue of NPAs i.e. Reform, Recognition, Resolution, Recapitalisation.
2. Government has recapitalised banking sectors from time to time by using funds coming from disinvestment of PSUs.
3. RBI has made it mandatory for Public sector banks to appoint an internal Ombudsman to enhance the consumer experiences.
4. Introduction of Insolvency and Bankruptcy Code has helped in seamless closer of insolvent banks.
5. Insurance on bank deposits under Deposit Insurance Corporation Act 1968 has been increased by the government to 5 lakhs in cases of bank defaults.
6. RBI continuously monitors, detects and provides timely corrective measures which are necessary to resolve the issues with the banks.

Bank privatization at present:

• Recently, the former chairman of NITI Aayog has recommended privatization of all Public sector banks in India except SBI. In this direction, the government has started mergers and amalgamations in public sector banks. The Government of India aims to minimize the number of PSBs in India with such moves.

But this step could be problematic :

1. Penetration of banks into rural India was a direct result of nationalization of banks post independence. Privatizing all PSBs, therefore, may cause withdrawal of these banks from rural areas and shifting to more profitable urban cities.
2. Inclusive and mass banking, support to agriculture and small scale industries have been possible only due to government ownership as private entities find these sectors non profitable. E.g. more than 40 crore Indians opened bank accounts under PM Jan Dhan Yojana due to immense contributions from the PSBs.
3. Profit oriented private sector may not serve the needs of poor and vulnerable sections of Indian Society.
4. In case of failures, private banks may find it difficult to bail out as they will be lacking government support.
5. Trust issues involved– depositors are having more trust towards public banks due to government ownership than the private banks. Even during low interest rates offered by the PSBs, depositors tend to park their money in PSBs. Thus, depositors may feel hesitant in using services of private entities failing the objectives of such privatization moves.
6. Also, individual private entities in India are not financially capable of purchasing ownership of these PSBs.
7. Private ownership does not guarantee efficiency in its functioning as many big private entities have been defaulted on loans taken from the banks.
8. Privatization of all PSBs may promote monopolies and nexus, nepotism in the banking sector causing further NPA rise.

Way Forward

• Thus, India needs a pragmatic approach in balancing between private and government ownership in the Banking Sector. India may take steps to minimize the presence of some inefficient and problematic banks while maintaining minimal presence of Public Sector Banks to support the needs of its rural population. Alternate mechanisms such as Post Office Payment Bank, Mobile Based banking solutions, mobile wallets etc. can be explored to reduce the burden on these banks. Emerging technologies such as artificial intelligence, machine learning, software and mobile applications etc. can be introduced to enhance consumer experience with the banks.

Source: The Hindu BL

Mains Question:

The Banking Sector in India is facing a twin balance sheet problem. Discuss how privatization may help in tackling these issues. [150 Words].