A Real Public-Private Partnership

Context: The Reserve Bank of India (RBI)’s report on the review of the corporate structure for Private Sector Banks (PSBs) emphasises on ‘capital-based’ licensing of private banks.

Benefits of the RBI’s move:

• Increase in paid-up capital: Report has stressed on the entry of ‘big’ private banks by recommending ?1,000 crores as the initial paid-up voting equity capital.

• Capital based licensing complements capital-based regulation and supervision by the RBI.
• Equity capital, plays a crucial role of loss absorbency in banks; as seen during the 1990s when new generation private banks failed due to thin capital base.
• Public recapitalisation of PSBs faces budgetary constraints and is globally disfavoured.
• Neutralising effect on inflation: Initial capitalisation partly neutralises the rise in inflation, which rose by 22% between 2013-2020.
• Encourages genuine players: Status quo in initial lock-in requirements and disallowance of pledge of shares by promoters during the lock-in period, will encourage only genuine players to enter the turf.
• Flexibility in shareholding: The proposed licensing norms also allow large corporates, Non-Banking Financial Corporations (NBFCs) and industrial houses, which weren’t allowed in the previous round.
• Continuity in the corporate structure: The report kept corporate structure unchanged, with ‘non-operative financial holding company’, as well as the ‘fit and proper’ criteria for major shareholders.
• Enhanced efficiency in banking: Allowing new-generation private banks leads to enhancing competitive efficiency of the overall banking system.
• Interoperability in differential banking: Report provides an easy exit route for the payments banks via conversion into Small Finance Bank (SFBs) and doesn’t favour too many banks under too many regulatory regimes.

Challenges:

• Access to funds: Low-interest rates on deposits (both nominal and real) and increasing financial disintermediation, the new private banks may find attracting ‘low-cost’ and ‘stable’ deposits difficult.
• Changes in regulation: Firewalling of different business arms of the corporates joining the banking sector needs changes in the regulation of the RBI.
• Opaqueness in NBFCs: NBFCs although being big and RBI-regulated or supervised, have remained amorphous and opaque.

Way Ahead: RBI should consider winding up regional rural banks (RRBs) and local area banks (LABs), which have lost their relevance due to rise of microfinance institutions (MFIs) active in rural/semi-urban areas.