Former Reserve Bank of India Governor Raghuram Rajan and former Lieutenant Governor Viral Acharya called for the closure of the financial services department, the privatization of state banks, and the creation of a bad bank as part of reforms to the banking industry of India.
The current status quo is unsustainable and there is a need to reform the banking industry so that it does not become a drain on government resources but rather an engine of growth, Rajan and Acharya said in a research article titled Indian banks: time for reforms, released Monday. This is all the more true due to the enormous pressure on government finances due to slow pre-covid growth and the aftermath of the pandemic.
The transformation of the banking sector will not occur through gradual reforms. “The status quo is fiscally unsustainable,” the newspaper said. The Covid-19 pandemic is likely to increase credit losses more than the government can afford, he said.
The reform of public sector banks (PSBs) over the past six years by the Union government led by Prime Minister Narendra Modi has been a relentless effort, the authors noted. The failure to implement the PJ Nayak Committee’s report in 2014 or the suggestions made at the Gyan Sangam in early 2015 to establish the Board of Banks’ Bureau for appointments show a lack of consistent political support, they said.
The government gains enormous power by directing bank loans, the newspaper noted. This is done to promote public goals such as financial inclusion or infrastructure financing, and is sometimes used to offer patronage to or exercise control over industrialists, he said.
“The liquidation of the financial services department in the finance ministry is essential, both as an affirmative signal of the intention to grant independence to the boards of directors and management of banks and as a commitment not to get involved in a ‘slippage of the mission ‘when compulsions arise to use banks for costly social or political purposes, “the newspaper said.
Former central bankers also pointed out that the government has access to a huge amount of sensitive information through its state property. This is obvious as the identity of the election bond buyers is known only to the State Bank of India.
The document suggested various measures to improve the performance of state banks, but noted that many of them have been taken by committees like the Narasimham and Nayak panels. However, he called for improving banks’ operating performance by creating a holding company structure and incentivizing top management with better salaries and longer seniority.
The document also recommended the dilution of the government’s stake in PSBs below 50% along with the reprivatization of these banks through the incorporation of private investors and automatic dilution.
“Our proposals, taken together, will move the needle significantly in Indian banking. However, they are not revolutionary … There are strong interests against change, which is why many would-be reformers are cynical … We are more optimistic that a middle way can be achieved, given that the greatest obstacle has been the government, the bureaucracy, and the interests within it, “the newspaper said.
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