The ownership pattern of public sector banks may change in the medium to long term, said a central bank report released on Thursday. The Reserve Bank of India?s Report on Currency and Finance 2006-08 also said the present floor of 51% government holding in state-owned banks is an issue that merits consideration in view of these banks? need to raise capital and the changing environment.

The RBI report, which also dwells on the presence of foreign banks?up for review in April 2009?said regulatory hurdles and the impact on local banks would have to be weighed before opening up the sector wider. RBI said ownership of public sector banks (PSBs) has to be in tune with the changed operating environment. Though ownership is not an issue from the efficiency angle, since public sector banks look as efficient as any other, the operating environment is changing rapidly and banks need the flexibility to respond to evolving situations, RBI said.

?Another issue that needs to be considered is the funding of capital requirement of PSBs given the present floor of 51% on government equity in public sector banks. In the medium term, this can be become an issue hampering the growth of public sector banks, if the government is not able to provide adequate capital for their expansion,? said the report. Advocating mergers & acquisitions in the sector, the report, based on empirical evidence, said the industry has a ?monopolistic competitive structure.?

Various issues associated with the increased presence of foreign banks such as impact on the domestic banks, supervisory and regulatory challenges in view of their sophisticated operations and their involvement in complex and sophisticated products, financial inclusion, credit to agriculture and SMEs, and public policy on credit delivery, cost and allocation would also need to be weighed. The issues relating to co-ordination between home and host countries regulators would also pose a challenge, the report said.

While consolidation is necessary, a policy should be in place to ensure that competition is not undermined in the future.

The first phase of review of foreign banks? operations in India envisaged that foreign banks wishing to establish presence in India for the first time could either choose to operate through branch presence or set up a 100% wholly owned subsidiary following the one mode presence criterion. In the second phase (April 2009 onwards), the policy on foreign banks is to be taken up for a review.

The consolidation process could accelerate in the future from the entry of more foreign banks and implementation of Basel II, it said.

Although the banking sector has become strong, competitive, dynamic and resilient, it faces newer challenges from macroeconomic and financial sector developments, both domestic and global.

RBI said the sector?s major issues/challenges could be identified as: (i) mobilising resources to sustain & accelerate the current economic growth momentum; (ii) implementation of Basel II norms by foreign banks in India and Indian banks having operational presence abroad from March 31, 2008 and by other scheduled commercial banks by March 31, 2009; (iii) issues involved in letting in more foreign banks is due for review in April 2009; (iv) progressive move towards fuller capital account convertibility, which will expose the banking system to greater risks, and involves regulatory and supervisory issues; (v) the emergence of financial conglomerates, requiring a suitable regulatory structure/ arrangement; (vi) the emergence of complex financial products; and (vii) the need to extend financial services to the people outside the system.