The merger of public sector banks seems to be back in fashion, after a hiatus. The ostensible reason for the resurrection of this issue is that some of them are under pressure on both capital and quality of assets, which appear to provide reason for this discussion. To begin with, two sets of issues relating to bank mergers need to be looked at, which may be called the ‘anecdotal box’ and the ‘strategic box’.
In the past, a merger has involved a combination of four reasons based on anecdotal experiences. The first is when a bank is weak or close to failure, and another is asked to buy it. The second is in case the promoter loses interest or has come in to create value and then digest the same though sale. There have been such instances with some new private banks. Third, as has been for two institutions, the development financial institution model became non-viable and necessitated a merger with other banks. Last, banks are acquired for strategic reasons and become an integral part of the growth process of the acquiring bank. This merits some discussion.
The strategic box involves reasons that can be fivefold. The first is where a bank wants to scale up the balance sheet and get in a stronger mode for expansion. With a higher net worth, larger exposures can be taken which become restrictive today. Second, one bank may like to acquire another to get hold of a particular business, which could be home loans, retail or SME. Third—related to the second—banks may like to get into geographies where they are not strong through an acquisition. Here, old private banks with their niche models become targets. Fourth, there could be a case when a bank would like to merge with another to get a better brand, enhancing shareholder value. Fifth, there would be economies to be had by having a grasp over infrastructure of the other bank, which helps in future growth.
Now when we speak of public sector banks merging, how would they fit into these two boxes? As all of them are owned by the government and broadly do the same kind of business, past stories of mergers do not fit into their intrinsic nature. Anecdotally, weak banks have been capitalised by the government and never had the need to merge with others, though there have been such instances more than two decades ago. This leads to the strategic purpose.
Strategically speaking, as all banks have a standard pattern of being strong in their own region and well-placed in other territories, there could be a case for mergers. Their business lines are almost similar, though there could be some bias towards sectors such as agriculture. However, at the end of the day, the lending patterns look similar with wholesale focus, unlike some private banks which have a retail predilection on the lending side.
More importantly, as most bank lending involving large amounts does include a consortium prima facie, there may be little to be gained by having a larger bank for taking larger exposures. Therefore, while a merger for the sake of a merger could still be justified, the final result may not be a different merged body, unless one of them is an extremely weak entity. The experience for the customer both as a deposit holder and borrower is unlikely to be different.
Besides, with RBI trying to distance banks from lending large amounts to single companies or groups, this would become antithetical.
Even so, what would be the main challenges of such mergers, assuming that it has to be done? On the positive side, there will not be cultural issues as this is similar across all banks. This also includes the physical set-ups and pay structures. However, given the public sector fabric which is not going to be dislodged, the logistics would be the hurdle considering that one of the main benefits of such mergers is on the operational costs side.
There are some extremely prickly issues involved, too. Are we prepared to reduce the workforce of the new bank as there will be redundancy? Are we willing to close down branches and ATMs which coexist in the same locality? And are we willing to reduce the hierarchies because there can be only one set of chairmen, managing directors, executive directors and other senior management?
Further, are we willing to merge departments which become redundant now? For example, two treasury departments are not required, as are risk management departments which are scalable and do not require more staff when volumes increase. Similarly, front office and back office staff are not required in multiples when a merger takes place.
In case of a private sector merger, the acquiring bank is ruthless and just drops the staff—especially at the senior level, without even a golden handshake. Such practices are in a way unfair, but cannot be questioned, as it is the private sector where the management is answerable only to the shareholders who are simply looking at valuation.
But once we come into the realm of public sector, such actions are not possible, with a strong countervailing force of unions which ensure that arbitrary actions are not taken when it comes to employment.
In fact, often it has been argued that there is such redundancy even in government departments where several ministries can be merged for operational efficiency. If decentralisation is the mantra there which makes the concept of having separate ministries for steel, textiles, SME, food processing and industry, then why not the same in the case of public sector banks?
The conclusion that may be drawn is that, practically speaking, merger of public sector banks may not really add value given the structure of the system where the owner is the same. Now when a weak bank is merged with a stronger one, the result will not be different if redundancies are not addressed. It would be analogous to the government providing funding through the back door. The solution would be to provide incentives to banks to perform, which should be across all levels so that there is new enthusiasm in banks. A profit share based on control of NPAs or increase in fee income or operational efficiency could be a way out where employees are enthused to work smarter.
The author is chief economist, CARE Ratings. Views are personal