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Business News/ Opinion / Lesser known drivers of the credit quality quagmire

Lesser known drivers of the credit quality quagmire

State-owned banks, like the Congress party, are everyone's favourite punching bag nowadays

In March 2008, state-owned banks’ year-over-year loan growth was 22.5% and that of private banks 19.9%, which widened to as much as a 21.9% vs. 4.2% differential by July 2009. Photo: BloombergPremium
In March 2008, state-owned banks’ year-over-year loan growth was 22.5% and that of private banks 19.9%, which widened to as much as a 21.9% vs. 4.2% differential by July 2009. Photo: Bloomberg

Within the barrage of criticism of state-run banks, we are losing sight of the nuances of counter-cyclicality and adequacy of human resource initiatives.

State-owned banks, like the Congress party, are everyone’s favourite punching bag nowadays. Sundry commentators, the Reserve Bank of India (RBI) and the government regularly castigate them, and restructured assets appear to be as frequently discussed as Narendra Modi. But dancing on the body of a fallen victim is distasteful. That is why in a recent forum, the spirited defence of two such bankers on this score appealed to me. Like the majority, I am certainly not a fan of the cavalier style of functioning of these banks, and neither do I believe that their defence is a valid excuse, but their arguments do merit consideration and debate.

The key reasons for the sorry state of affairs are well-acknowledged—economic downturn, crony capitalism, political interference and blink-and-miss tenures of the chiefs of these banks. However, the bankers pointed out two other problem areas. One was that after the global financial crisis, state banks were more aggressive lenders than private banks, and the other the classical missing middle within the banks’ workforce.

The data amply corroborates the first issue. In March 2008, state-owned banks’ year-over-year loan growth was 22.5% and that of private banks 19.9%, which widened to as much as a 21.9% vs. 4.2% differential by July 2009. It reversed convincingly only by March 2011. Since private banks (and other financiers) imposed a contractionary strategy on themselves during this time, corporate India, particularly the more vulnerable segments, depended only on government banks. That stress is now showing up, as conditions of many of those companies have gone from bad to worse.

But the lesson from it is clear—benefits of a counter-cyclical stance are asymmetric. In other words, holding back during times of exuberance is likely to benefit banks, but loosening up during stress periods may be detrimental, unless the stress ends quickly. The tendency for adverse selection is strong regardless of whether there is an autonomous increase in supply of credit or an exogenous demand deluge driven by shocks.

But, at another level, this story is emblematic of the skill deficit building up in state-run banks, which was highlighted by the iconic, first-of-its-kind report by the Khandelwal Committee on human resource issues of public sector banks. Reversing the deficit is a painful and time-consuming process, and on the ground there seems to be limited realization of its enormity.

The skill base has been hollowed out as the workforce has aged. The average age in public sector is 50 or so. Recruitment of freshers have been started in earnest only 4-5 years ago, and there is a near-total vacuum in the middle, which could have contributed very effectively to the critical functions like credit appraisal and monitoring. The younger lot is inexperienced, and the senior management is overburdened. A strong middle could have been better acquainted with the path-breaking regulatory, economic and corporate changes of the 1990s and early 2000s. Moreover, by now, they could have been better equipped with skills on project financing, which state banks were traditionally not involved with, and which is the root cause of the bad loans problem today.

These banks also had to contend with a lopsided branches vs employees growth during fiscal year 2003 to 2012-13. In the first five years of this decadal period, branches grew by 10.1% (compounded) every year, and employees every year declined 1.1%. The latter half wasn’t too balanced either—branches up 6.6% a year, employees up 2.3%.

Part of this had to do with the need to correct the adverse composition—too many sub-staff members compared with officers—but the progress has been tardier than desirable (for example, for State Bank of India, this category declined by just 4,300 employees over 2003-2013, on a base of over 208,000 employees in fiscal year to March 2003). In the interim, insufficient numbers of relevant staff have put enormous pressure on the system.

A manifold increase in compensation to get over the problem is a reductionist suggestion. Public sector banks have made several attempts to recruit laterally, but have succeeded in inducting only a limited number of specialists, not due to low salaries alone—a large enough pool is simply not available. There is good incentive for a youngster to join a state-run bank (learning the ropes) or a senior private banker to move in as chief executive officer (CEO) of a government-owned bank (recognition and prestige), but what could possibly lure a band of middle managers from a private bank to move into a similar position in a state-owned bank?

So even within this justified din of accusations against public sector banks for their failure to rein in bad loans, the complexities of adverse selection and appropriate human resources initiatives better be given due thought and policy action.

The author has been a senior research analyst on financial services as well as other sectors at various investment banks, and is currently an independent consultant focusing on banks and financial services.

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Published: 18 Dec 2013, 04:21 PM IST
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