The speech delivered by SS Mundra, deputy governor, RBI reveals that the performance of public sector banks (PSBs) continues to be a concern based on first quarter results ending June 2016 (August 24, 2016). Earlier, the Financial Stability Report of RBI had already warned that stressed assets could record an increase in FY17.
The central government is planning to shut down seven public sector undertakings (PSUs) out of the 74 loss making state owned units based on the recommendations of NITI Aayog as they were unfit for revival. Earlier, the prime minister, had observed from the ramparts of Red Fort, that—“in our country, the PSUs are formed to fall in a pit, to fail, to get locked or to be sold out. That has been the history. We have tried to bring in a new culture. And today for the first time, I can say with satisfaction that Air India which had a bad image, has succeeded in registering an operational profit last year.” Thus, the government is correctly making a distinction between good and non-recoverable PSUs and not throwing good money on bad assets.
In the context of the banking industry, this distinction is extremely valuable. In the last monetary policy, announced on August 9, 2016 Governor Rajan, had retained the repo rates, based on assessment by RBI, that global growth is sluggish and had worsened by the Brexit vote, declining Chinese performance, deteriorating Euro-banking system, and negative interest rates in some countries reflected in volatile, though rising gold prices. On the domestic front, developments are mixed. Fortunately, monsoons have picked up vigorously and, nearly, 80% of the country has received good rainfall. But industrial performance has been uneven and the performance in capital goods sector reflects weak investment demand. Inflation is rising as also inflationary expectations mainly because of food prices. In addition, implementation of recommendations of seventh central pay commission are also expected to increase pressure on prices.
In addition to the above, it can be concluded that the economy is passing through critical phase for various reasons. First, the uncertainty attached with the launch of Goods and Services Tax (GST) by early 2017. There are apprehensions about the difficulties including lower revenue for different layers of the government and, therefore, sceptic in its immediate revenue raising capacity in the short run. The geographical vastness of the country, technological differences in various departments, exceptions and exemptions, and the difficulty in implementing could imply a few years delay in stabilising the GST regime.
Further, given that the government has also announced the application of inflation targeting regime in India, this can have two ramifications. First, there would be downward rigidity in interest rates because inflation is already at the upper bound of the IT range. Second, IT regime can have conflicting strategy with macro prudential rules as illustrated in great financial recession where many IT countries were singed by flames from the financial sector.
The global economy has been impacted by spillover effects which transmit through various channels like trade, finance, and commodities. In recent years, the confidence channel has also become significant. As India is increasingly integrating with world markets and cannot stay insulated from contagion, the need to create and maintain fiscal space is of utmost importance.
Historically, PSBs have played an important role in economic history and globally too, in an emerging country, passing through the transition phase, banks play an important role in financing enterprise. In India, PSBs have helped in credit expansion related to increasing demand for investment in industry. But, it also needs to be recognised that global crisis and a number of cases of financial irregularity in Western countries have resulted in eroding trust and confidence in the banking system. Globally, in banking practice, gains are private while losses are public in nature and profits are front loaded while implications of risky behaviour comes later in banking. Finally, the national exchequer has to bail out the banking system. Therefore, corrective initiatives in time are necessary.
The efforts by central government to regularly recapitalise PSBs are laudable but imply straining fiscal space while raising taxes from innocent citizens. It is in the context of the above assessment of the economy, mixed in nature, that the pressure on the national exchequer needs to be minimised and sufficient fiscal space be maintained. Recapitalisation, in the current global situation, is an expensive way for ensuring robust financial sector. Hence, various alternatives to ensure healthy banking needs to be explored. The alternatives could be mergers and privatising the persistently loss-making public sector banks. The exercise to merge SBI with its affiliates is in progress but privatising is unexplored. In addition to outright privatisation, the government could also consider merging small loss-making PSBs with private sector banks. Another attractive and viable alternative could be placing in auction to privatise select branches of loss-making PSBs. This is akin to disinvestment in public sector unit of the government. The privatising of complete loss-making PSBs or their select branches would imply that fiscal space is maintained.
The privatising of loss-making PSBs would not impact the common man as advancements in banking sector are happening at a furious pace. The technology with developments in mobile and internet banking is leading to a new paradigm of commercial banking, especially with extensive penetration of Jan-Dhan accounts. In fact, this initiative would only serve to remind PSBs, commercially viable entities that they have to be responsible to generate enough resources for self-sustainment, as well as contribute dividends to their owner, central government. The NITI Aayog could be assigned the task of undertaking similar assessment for PSBs that they did for PSUs.
The author is RBI chair professor of economics, IIM Bangalore, Views are personal