In the last Union Budget, the FM had announced that RBI is considering giving additional banking licences to private sector players, including NBFCs. This was ostensibly to further financial inclusion and also to improve the size and sophistication of the Indian banking system. The announcement set the financial markets on fire with a lot of conjecturing as to who would be the lucky few. The access to low-cost current account and savings accounts and the ability to offer all financial products under one roof were cited as major attractions for NBFCs to rush to seek banking licences. It was also expected that RBI would give new licences to private players very soon. But, an analysis reveals a different picture. Neither is RBI in a hurry to issue fresh licences nor are many NBFCs keen to get into commercial banking.
The reasons for this are manifold. RBI rules are stringent for commercial banks as they are the visible face of the Indian financial system and commercial banks are primarily the custodians of public money. RBI places restrictions on commercial banks in their lending operations. Out of Rs 100 taken in as deposits, approximately Rs 30 has to be set apart as statutory requirements towards CRR and SLR. This leaves the banks with Rs 70 to lend. Out of this, 40% has to be statutorily lent towards the priority sector as defined by RBI. This leaves banks with approximately Rs 42 to lend at their own discretion. Many NBFCs would definitely find this as restrictive to say the least.
As per the guidelines of 2001, NBFCs seeking a banking licence should have a minimum paid-up capital of Rs 200 crore, which must be increased to Rs 300 crore within 3 years of conversion into a bank. Further, banks have to invest large funds in fixed assets and information technology primarily to facilitate financial inclusion, risk management, anti money laundering, etc. These huge capital expenditures increase the payback period for the investments made. Also, banking-as-a-business model is far more people-, process- and product-driven than a simple NBFC model. For example, in order to adopt universal banking, the staff needs to be multi-skilled in banking functions. So, the operating expenses will be substantially higher, which, in turn, would reduce the profitability of operations. Also, there are restrictions on ownership and voting rights. Current stipulations cap voting rights at 10%; higher rights require the specific approval of RBI.
In light of all these restrictions, it is clear that commercial banking is a very regulated and complicated business model and explains the lukewarm response of many NBFCs. At the same time, it is clear that RBI is in no hurry to issue new licences. In a media interaction after outlining the latest April 20 credit policy, D Subbarao refused to give a time frame. ?I am unable and unwilling to put a time frame on this (issue of new bank licences). It will take several months because there are some significant issues that we have to consider. We gave the last licence in 2004 when Bimal Jalan was the governor. Since then, India has changed a lot, the world has changed a lot and the worldview on banks has changed a lot. We will have to take into account all that.?
It is true that RBI has not issued a new licence in the last six years. The reasons are clear when one goes by past experience. In 1994, RBI had issued licences to nine players. Post 2001, RBI gave banking licences to Kotak Mahindra and Yes Bank. Of these 11 banks, four have not survived. GTB merged with OBC; Times Bank was merged with HDFC Bank; Bank of Punjab with Centurion Bank, which itself has been merged with HDFC Bank. Thus, of 11 new banks, only seven survive today (a failure ratio of above 35%).
A key lesson of the recent financial crisis is that each time a bank fails it erodes faith in the system and might eventually lead to a systemic collapse. This explains RBI?s reluctance in handing out licences liberally. In particular, the comment on the current worldview of the banks is telling?private banks, in particular, are viewed with suspicion due to their ownership. The last thing that RBI would want is private banking failures to undermine the stability of our financial system.
It is, thus, clear that only serious NBFCs with deep pockets and those having a different operating model would seek banking licences. Additionally, RBI would issue licences only after conducting a complete due diligence. The governor?s famous words that he used to explain his credit policy are worth reiterating, ?Moving in baby steps is better for the economy.? The same approach can be expected from RBI on the subject of the issuance of new banking licences.
The author teaches finance at the SP Jain Institute of Management and Research, Mumbai