After a gap of six years, once again India is set to open its closely guarded banking industry to private players. This marks a clear shift in policy—from consolidation to expansion. In a country where 50% of the population does not have access to banking services, this is natural and, in fact, the Reserve Bank of India (RBI) should have opened its doors earlier. But the central bank is not happy with the idea. In a recent meeting of the Board for Financial Supervision, RBI’s supervisory arm, a note on why it should go slow in giving licences to new banks was put up, but not discussed. I hear that the regulator and the ministry have finally reached an understanding that a few new banks will be allowed to set up shop in next two years. The critical question is: will Indian corporations be allowed to float banks? Many of them cherish the dream of getting into the highly leveraged business, but RBI has reservations as banks deal with public money and one bad apple can spoil the entire system.
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The finance minister’s speech does not indicate any change in the existing norms as it says the central bank is considering giving some additional banking licences to private sector players and non banking financial companies, or NBFCs, could also be considered “if they meet the RBI’s eligibility criteria”. Shares of listed NBFCs such as Reliance Capital Ltd and a few others zoomed, anticipating banking licences; but under the existing licensing norms, no corporate entity can hold more than 10% stake in a bank. Will the Tatas, Birlas, Reliance-Anil Dhirubhai Ambani Group (R-Adag) and the Bajajs be allowed to float banks? All of them have NBFCs under their belt and, given a choice, wish to convert them into banks.
The history and performance of the so-called new generation private banks can guide the regulator on selection of the new players. Of the first set of nine banks that set up shop in 1994-95, three could not survive and got merged with other banks. At least one of them was adventurous and used the bank’s money to play in the stock market. In the second lot, Kotak Mahindra Finance Ltd, an NBFC, was converted into a commercial bank in 2003 and a group of private equity investors, professionals and Rabobank International Holding BV were licensed to float Yes Bank Ltd.
There is nothing wrong in allowing a corporation to float a bank, provided it has an impeccable track record and meets the regulator’s “fit and proper” criterion. A company can set up the bank on its own and bring down its stake to fulfil the norm of a diversified holding pattern to ensure corporate governance within a predetermined time frame. Even successful microfinance institutions with a large balance sheet and capital base can be considered, since the objective is financial inclusion.
The other critical market-moving announcement in the Budget is the relatively lower government borrowing programme for fiscal 2011. The government will borrow Rs3.45 trillion from the market to bridge an estimated 5.5% fiscal deficit next year. The amount is lower than the Rs3.64 trillion raised in the current fiscal, but despite this, bond prices dropped and bond yields rose as the market is not convinced about the numbers. The government may end up borrowing more if it’s not able to raise Rs75,000 crore by divesting its stake in public sector undertakings and selling 3G licences. The Budget has also not made any provision for subsidies for oil firms. To top it all, the rise in excise duty on automobiles and petrol and diesel will fuel inflation. That’s not good news for the bond market.
Yet another focus of the Budget is financial stability, which Pranab Mukherjee has been harping on since last year. In fact, in his address to the RBI central board after the 2009 budget, he mentioned that the Act that governs the central bank has no any reference to financial stability. The RBI governor’s response to this was: “Like pornography, financial stability is something that cannot be defined”. Mukherjee has chosen to address this by setting up a Financial Stability and Development Council. This body will monitor macro prudential supervision of the economy and take care of inter-regulatory coordination issues. In other words, the new body will formalize the loosely constructed and informal platform of the high-level coordination committee on financial and capital markets.
Finally, Mukherjee has promised to set up a financial sector legislative reforms commission to rewrite and clean up the financial sector laws and make them contemporary. In my last column on Monday, I raised the issued of conflict among various Acts in the financial sector and the need to revisit them. Thank you, finance minister, for taking note of that.
Tamal Bandyopadhyay is Deputy Managing Editor of Mint
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