Mumbai: Foreign banks planning to enter India may have to wait long if the report of the Committee on Financial Sector Assessment (CFSA) is taken seriously by the government and the Indian central bank. Chaired by Reserve Bank of India (RBI) deputy governor Rakesh Mohan, the committee has made it clear that the opening of the banking space to foreign players should be based on “reciprocity”.
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In other words, India should continue to keep the doors shut for banks of those countries that do not open the doors for Indian banks. The US is one such country.
Foreign banks could operate in India either through branches or the subsidiary route subject to reciprocity, says one of the critical recommendations. The six-volume report, submitted to stand-in finance minister Pranab Mukherjee last week, was formally released on Monday.
The branch licensing policy, according to the report, could be broadly structured on the lines of new private sector banks and in accordance with India’s commitment to the World Trade Organization (WTO), but “licensing of branches would continue to be based on reciprocity”.
Going by WTO norms, RBI needs to issue 12 branch licences to foreign banks every year, but it has actually been issuing more.
Two-way street: Reserve Bank deputy governor Rakesh Mohan. Abhijit Bhatlekar / Mint
The Mohan panel report is also comfortable with RBI’s existing norms for foreign banks’ operations in the country, which stipulate that if a foreign bank wants to float subsidiaries, its shareholdings should not exceed 74% and the subsidiary should be listed on Indian stock exchanges.
These norms were made public in March 2005 when RBI unveiled its road map for foreign banks and a review of these norms are due in April. However, it seems fairly certain now that the banking regulator will not liberalize its policy for foreign banks even if it formally undertakes the review.
Last year, an RBI report on the emerging issues and challenges for the Indian banking sector, edited by Mohan, also argued against the opening up of the sector. It did not dwell on the issue of reciprocity, but said the “general perception that the foreign banks bring many benefits to the host countries in the emerging markets” should be critically reviewed. It also harped on the policy concern that the foreign banks enter a country, but do not deliver the benefits to the wider community on account of their largely urban-centric presence.
Incidentally, a high-level committee on financial sector reforms, appointed by the Planning Commission and chaired by former economic counsellor and director of research of the International Monetary Fund (IMF) Raghuram G. Rajan, has recommended the need to be more liberal in allowing takeovers and mergers, including by domestically incorporated subsidiaries of a foreign bank. It also said the arguments for protecting domestic financial firms at the expense of domestic financial service consumers “hold little water”.
Mohan’s voice of dissent
While the recommendation of CFSA report is broadly in sync with Mohan’s earlier RBI report vis-a-vis foreign banks’ play in India, there is one critical recommendation of CFSA that has not found favour with Mohan—separation of government’s debt management from RBI. The government had announced in the annual budget for fiscal 2008 the setting up of a debt management office to oversee the government’s market borrowing programme. Most of the CFSA members have agreed to the government’s plan, but Mohan has opposed it, saying, “The time is not ripe for the complete separation of debt management.” The burgeoning fiscal deficit of the government is the main reason behind this.
The Mohan panel report is an offshoot of the the Financial Sector Assessment Program (FSAP), jointly initiated by IMF and the World Bank in 1999 in response to the Asian crisis of the late 1990s, to do a reality check on a country’s financial system. India was among the first to undertake the pilot FSAP in 2000-01 and in September 2006 the government and RBI set up the Mohan panel to undertake a comprehensive self-assessment of the Indian financial sector with a medium-term perspective.
Being selective: A file photo of the RBI building in New Delhi. The Rakesh Mohan Committee report is comfortable with RBI’s existing guidelines for operations of foreign banks in the country. Harikrishna Katragadda / Mint
The panel has also mooted the idea of consolidation in public sector banking industry that accounts for about 73% of banking assets as the government, the majority owner of these banks, is not in a position to pump in fresh capital. Considering the government’s lack of capacity to capitalize the banks, it could consider amalgamating them as that will build scale.
However, the panel is quick to add that the amalgamation should only be done if there are synergies in the regional spread of the banks proposed to be amalgamated. There is no surprise in this as merger of public sector banks is a politically sensitive issue and trade unions oppose such a move fearing job losses.
The committee has also stressed on the need for capacity building in the commercial banking sector with accent on training, succession planning, lateral recruitment and improved remuneration, particularly for public sector banks.
It is in favour of “developing a second line of professionals and having an appropriate succession plan, thereby augmenting institutional memory”. This is a critical recommendation, as traditionally, public sector banks are being treated as an extension of the banking division of the finance ministry as top positions of these banks often remain vacant for months and appointments of chief executive officers are not always driven by merit.
Caution on CAC
On the critical issue of capital account convertibility (CAC) or making the local currency full float, the committee is in favour of taking a gradual approach and it says caution should be exercised in allowing foreign entities to buy government bonds.
Its approach towards the use of complex banking products such as exotic derivatives is also equally conservative. “While the development of markets for credit derivatives and asset securitization products could play a critical role in furthering economic growth, this requires to be pursued in a gradual manner, by sequencing reforms and putting in place appropriate safeguards before introduction of such products,” it said, stressing the need for a uniform accounting regime across banks and corporations.
The Mohan panel’s other critical recommendations include limiting commercial banks’ dependence on high-cost bulk deposits, more disclosures for non-banking financial companies (NBFCs) and more power for RBI to regulate financial conglomerates.
According to the panel, banks should be asked to keep more capital if their dependence on bulk deposits exceeds the level of a “defined threshold”. Similarly, NBFCs should be asked to disclose more on their ownership structure, significant holdings, and nature and types of activities and products. Particularly in regard to housing finance companies, the report says foreign institutional holdings or portfolio investments should be considered as part of foreign shareholding.
It has also called for a new legislation to empower RBI to regulate holding companies and said no conglomerate should be allowed to float “intermediate” holding companies till an appropriate regulatory structure for such an entity is in place. Sometime back, ICICI Bank Ltd, the country’s largest private lender, wanted to float a holding company for its insurance and mutual fund businesses, but RBI did not give its nod to that proposal.