Privatization of Banks: Opportunities and Challenges

Background

In 1969, 14 banks were nationalised and in 1980, another 14. The goal was to expand financial services and boost economic growth, but it was already failing. Private banks emerged after reforms of 1991. 

12 public sector banks and 21 private sector banks control 70% of the market. The Union Budget 2021-22 aimed at privatizing two public sector banks.

Opportunities

• Effective Regulations- Government ownership makes it difficult for RBI to regulate the sector, according to NCAER.
• Credit growth- According to economic survey 2020, PSB credit growth has declined since 2013 while new private banks had significant credit growth (between 15 percent and 29 percent).
• Complacency followed by recapitalization- Government controls all PSB operations. This implies bank liability bailout. 

• The ex-government recapitalized PSBs with 3.1 lakh crore capital infusion over five years, burdening the state exchequer.

• Decreased risk Appetite- PSB officers are subjected to scrutiny by CVC and CAG making them wary of taking risks
• Strengthening banks –Effective management through private sector participation would create big banks as economic survey suggests India should have at least 6 banks in global top 100 based on its size.
• To deal with banking frauds – PSBs commit 92.9 percent of corporate lending fraud due to poor screening and monitoring.
• Effective management of NPAs – India's banking system's NPAs were 80% PSBs in 2019. 14.6% of loans are gross NPAs.
• More market value- Private banks fetch five times as much value as that of a rupee invested in PSBs.

Challenges

• Against financial inclusion objectives- Under PM JDY-as of July 2022, more than 45cr beneficiaries have been covered and 78% of these accounts were in PSBs
• Resilience – Indian PSBs were more resilient during the 2008 subprime lending crisis and have also fared well during the Covid crisis.
• Unemployment- Uncertainty in employment prospects of the already employed in PSBs, fear of possible retrenchment might lead to protest from the labour unions.
• Socialistic objectives- PSBs' ATMs in rural areas are twice as many as private banks.
• Labour cost efficiency - PSBs produced more with less labour, according to RBI's recent report.
• Public sector banks played a major role in boosting public confidence due to government guarantees.
• Long history of failures in private banks - EX- RBI had to rescue YES bank by pumping capital by other entities to save the bank.

Way Forward

• NCAER suggested that the banks chosen for privatization must be the ones with the highest returns on assets and equity and the lowest NPAs in the last 5 yrs.
• Research paper by RBI suggested for a more gradual approach towards privatization instead of full exit
• Economic survey suggested that the efficient of the PSBs could be increased by adopting fintech technology across all banking functions and employee stock ownership across all levels.
• P J Nayak committee recommended that government must reduce its stake in PSBs to less than 50%, establishment of bank investment company to run PSBs.
• Effective usage of data analytics like geo tagging of collateralized assets, connecting lenders all across the banking system through legal identifier system.
• Using credit analytics for prevention of large proportion of NPAs.
• Economic survey suggested for creating a PSB network on line with GSTN for recognizing credit patterns, screening the corporate for fresh loans etc.

Initiatives taken for banking sector reforms-

Conclusion 

According to RBI's report, privatisation isn't a cure-all, so a more nuanced approach to bank privatisation is needed to promote economic growth and welfare.