Efforts are on to iron out legal impediments inherent in the consolidation process of banks, C Rangarajan, the prime minister’s chief economic advisor, said on Wednesday.
Speaking at the seminar ‘Global Banking: Paradigm Shift’ here, Rangarajan said that there were, however, two caveats. First, any process of consolidation must come out of a ‘felt’ need for merger rather than an ‘imposition from outside’. “The process of consolidation that is driven by a fiat is much less likely to be successful, particularly if the decision is accompanied by restrictions on the normal avenues for reducing costs in the merged entity,” he said.
Secondly, Rangarajan said the issue related capital adequacy. Adoption of Basel I norms will enhance the required capital and banks’ assets will have to grow in tandem with the growth of real sectors of the economy. “The public sector banks’ ability to meet the growing needs will be inhibited unless the government is willing to bring in more capital. For the present, share of government in public sector banks cannot go below 51%,” he said.
If the growth is rapid, which is likely, there is a need to inject equity and enlarge shareholding. India’s growth rate has been over 9% in the last two years and there was a need for banks to keep pace with the growth. The rapidly growing services sector accounts for nearly half the GDP, while the external sector constitutes 30%. The economy has moved on to a higher trajectory and to remain sustained, there is a need to increasing investments in infrastructure, Rangarajan said.
However, despite the faster rate of growth in manufacturing and services sector, bulk of the population still depends on agriculture and allied activities for its livelihood, he said. Given the new challenges, financial sector, particularly banking must respond to the changes in the real sector. Rangarajan expects that the future course of banking development would entail greater specialisation in niche areas like retail, agriculture, corporate export and small scale sectors.
There would be greater reliance on non-fund business such as advisory and custody services, greater overlap in product coverage between commercial banks and non-bank financial intermediaries and greater financial disintermediation with large companies accessing securitised debt domestically and from financial markets abroad, he said. “The emergence of titans has been one of the noticeable trends in the banking industry at the global level,” Rangarajan said.
Another issue highlighted was the concern on risk management. Credit risk was the most important issue in developing markets such as India, he said. The new Basel accord rests on the assumption that an internal assessment of risks by a financial inclusion will be a better measure than an externally imposed formula. Assessing credit risks in lending to service sectors is different from parameters of manufacturing, he said.
Citing an example of subprime mortgage market in the US, Rangarajan said that the outcome showed how tricky the task of risk management can be. Rangarajan also expressed concerns on the financial exclusion of small time borrowers and depositors in rural and semi urban areas. The question therefore arises whether there is a need to introduce organisational structure to reach out to such masses, he said.
