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Public Sector Banks: A Powerful Economic Tool Hiding Behind Flawed Governance

By: Amogh Nama

Source: Pexels

The concept of Bank Nationalization was implemented, keeping in mind the socialist pattern of society. By 1980, over 20 banks nationalised[1]. It seemed to be that any bank that had a national presence was seen as a prospect for nationalisation. As Dr.YV Reddy so eloquently explained, various perspectives of nationalisation that led to the creation of public sector banks were created firstly to achieve social prerogatives of the welfare state and its failures. Therefore, today the poor returns and piling of non -performing assets (NPAs) are to be considered as the cost that has to be paid to achieve these objectives[2]. However, the essential argument to be made here is that the poor performance of the (public sector) banks (PSBs) cannot be blamed on their socialist nature but on other factors perhaps that led to the creation of NPAs and other such issues. The incidence of NPAs in banks have been blamed on like time/cost overrun while implementing projects, business failures to capture the market, strained labour relations, government policies like excise, import, duty changes, deregulation; wilful default, fraud, promoters-management disputes; diversion of funds to help sister concerns facing the same problems. [3} All these factors could have been avoided to a significant extent as they were internal in nature which could be controlled by the Government through effective management. To draw from Dr.YV Reddy’s logic, governance is the root of the problem here. Until the liberation of the banking sector in the 1990s, most of the assets, up to 91%, belonged to PSBs[4]. Subsequent entry of private players reduced this percentage, but it still remains that about 85% of the NPAs, as of 2018 at least, was because of loans and advances made by PSBs[5].

The Balancing Act:

Now that we have established a base for the discussion, the crux of the argument is that there is an essential balancing exercise that needs to be performed in the sense that both public and private sector banks need to exist but with clearly defined “mandates”. These mandates are necessary to avoid comparison and competition between the private and public sectors. PSBs have to be streamlined, and there needs to be a balance between achieving social objectives like providing affordable credit for the development of priority and other sectors, financial inclusion, etc. and the commercial performance of the banks, which needs to be oriented towards staying afloat if not for pure profit. Performing welfare functions does not necessarily mean that there are negative costs that are incurred. After all, PSBs have a well-established network along with rich deposits. What needs improvement is the management of those deposits. Privatisation of the banking sector entirely is not a solution because the banking sector that is under the Government’s control has become a vehicle to implement social welfare schemes. Moreover, the private sector’s for-profit mandate is not entirely compatible with the common man. In a traditional sense, the “common man” still has more faith in the PSBs than private players, and this trust is more than enough to keep the public sector going.

Share of the banking pie and ownership:

Now, to further substantiate the claim of having both public and private players in the banking sector albeit, in a balanced ratio, the share of PSBs could be about 30% of the whole banking sector, in concurrence with Dr.YV Reddy’s claim[6]. In essence, whatever the private-public ratio may be, there should be a balance that is maintained in the concurrent interest of achieving social objectives and profit-biased corporate ideology, a duality, which is broadly India’s current banking needs that have to be accommodated for within the banking sector. The next problem that needs to be tackled is that of the alternatives for ownership of PSBs while reducing their percentage share in the sector. An eloquent solution for this has been given by former RBI-governor Mr. Raghuram Rajan, which is “re-privatisation”[7]. Here, select PSBs would be subject to a carefully formulated strategy, bringing private investors with financial and technical expertise while keeping corporate houses at bay given their natural conflicts of interest. Even without privatization, a reform in governance, operational flexibility, risk management are definitely needed to improve the functioning of PSBs[8].

Given the ongoing pandemic, implementation of welfare schemes is an absolute priority, and the public sector is essential here. Therefore, a large-scale privatisation is not an option. Considering the abundance of talent in terms of professionals working in the public sector and access to rich deposits in addition to the Government’s stake, PSBs, once they undergo the above reforms can give a substantial boost to the Indian banking sector.

Amogh Nama is a 3rd year BBA LLB (Hons.) student at JGLS.

[1] Gautam Chikermane, 70 Policies That Shaped India (Observer Research Foundation, 2018), https://www.orfonline.org/wp-content/uploads/2018/07/70_Policies.pdf. [2] YV Reddy, 50 Years of Bank Nationalisation with YV Reddy, 14 June 2019, https://youtu.be/FenH5HpZZgs. [3] Lok Sabha Secretariat, ‘Reference Note on Non-Performing Assets and Public Sector Banks in India’, 2014 <> [4] Lok Sabha Secretariat. [5] Ahita Paul, ‘Examining the Rise of Non-Performing Assets in India’, PRS Blog (blog), 13 August 2018, https://www.prsindia.org/content/examining-rise-non-performing-assets-india. [6] Reddy, 50 Years of Bank Nationalisation with YV Reddy. [7] Viral Acharya and Raghuram Rajan, ‘Indian Banks: A Time to Reform?’, The University of Chicago Booth School of Business, 21 September 2020. [8] Acharya and Rajan.

[Reviewer1]The Lok Sabha note referred details these factors only for NPAs and not for the poor performance of PSBs in general. The edits have been adequately made.

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