‘Business Standard’ carried a news-item on the FinMin pressing the RBI for the issue of new banking licenses, ASAP. For good measure, it invoked the name of Raghuram Rajan too. Find it here.
I wonder if there is any shift in the position of Raghuram Rajan. In April 2011, he is said to have opposed the issue of banking licenses to Indian corporations. Very sound. I would still hold on to it. Let me be clear. There is nothing in the BS news-item to suggest that RR has changed his stance. I am merely posing the question, for re-validation.
This has been the time-line on the issue of new banking licenses:
August 2010: RBI releases a discussion paper. Full discussion paper here.
Dec. 2010: RBI releases gist of comments on the discussion paper
Aug. 2011: RBI releases draft guidelines.
The underlying premise behind the consideration of the issue of new banking licenses was this statement by the then Finance Minister in his budget speech in 2010-11:
‘The Indian banking system has emerged unscathed from the crisis. We need to ensure that the banking system grows in size and sophistication to meet the needs of a modern economy. Besides, there is a need to extend the geographic coverage of banks and improve access to banking services. In this context, I am happy to inform the Honourable Members that the RBI is considering giving some additional banking licences to private sector players. Non Banking Financial Companies could also be considered, if they meet the RBI’s eligibility criteria.’ [Link]
The underlined emphasis of the first sentence is mine and that has been effectively demolished by the rising strains in Indian banks’ balance-sheets. Therefore, the whole exercise could now be abandoned? Instead, should the focus not be on strengthening governance, morality, banking and risk management practices in the Indian banking, corporate and political spaces?
Of course, the inclusion of ‘morality’ and ‘corporate’ and ‘political’ is deliberate and certainly, these are not within the realm of RBI (or even that of God, as far as India is concerned). The key point is that, given the gaping holes and weaknesses exposed by the nexus of bank credit decisions and India’s cronyism, new banking licenses could well be put on hold. After all, even if depositors are protected, given India’s political and financial culture, new banks are a fiscal risk. For instance, we do not know the ultimate beneficiary of bank loans to ‘Deccan Chronicle’. Effectively, Indian taxpayers have funded the ultimate beneficiary through the Indian banking system and ‘Deccan Chronicle’. India cannot afford to continue to do so.
If banks compete in the same space for business in corporate and in urban India, then banks will take excessive risk to offset margin compression. That is what happened in the US between 2003 and 2007. Banks will run up bad assets in the process and would need to be re-capitalised. That is another source of fiscal risk.
RBI Deputy Governor Subir Gokarn has opined that Indian banks will find it ‘challenging’ to raise capital to meet Basel III standards. His full speech is not yet uploaded on the RBI website. So, we do not know what prompted him to say so. Nonetheless,we agree with him. On a risk-adjusted basis, holding equity capital in Indian banks has to make sense for investors. Given political pressure and opacity of loan transactions, it is not clear if investing in Indian banks’ share capital makes sense on a risk-adjusted basis.
Assuming that this blog post by TGS does not throw the issue of the issue of new banking licenses into the deep freezer, the next important question is whether new bank licenses in India will address the issue of financial inclusion. Indian Micro Finance Institutions (MFI) cannot accept deposits. That is, they have no savings products. They have only debt to offer. Mr. Mohammed Yunus argues against MFIs seeking private capital. Indian regulations have left them with little choice.Will reforms in that area help India’s financial inclusion goals or will issuing new banking licenses address financial inclusion? My question, doubtless, indicates my bias in favour of the former.
Prof. Vaidyanathan has written an excellent piece on the kind of economic reforms that India needs. In that piece, he has tried to piece together data on how credit flows in India and to whom. Unsurprisingly, much of the credit flows to the private incorporated sector which only has a relatively more modest share in India’s manufacturing and services output.
Of course, that may not be their fault. India’s laws place heavy boulders on the road of SMEs becoming big. No wonder the corporate sector share of GDP remains small. True reforms are about removing those boulders. I guess T. N. Ninan agrees with Prof. Vaidyanathan on this.
In his latest column , he wrote:
The short point is that the economy’s problems have not been caused by the lack of investment from abroad.
Tailpiece: When the Finance Minister talks about the focus on the poor being the reason for non-implementation of structural reforms, he is not making a circular argument as MINT Quickedit claims. He is making a non-argument. True economic reforms are pro-poor.