How to privatise banks

The government has decided that there will be no more than four public sector units in each strategic sector, of which banking is one. Since even after the merger of several public sector banks there are still a dozen odd left, the task ahead is a long one. Hence, the goal the government has set for the current financial year — privatise two public sector banks — is the minimum that needs to be done. But even this limited task will not be easy to fulfil.

No serious acquirer can be expected to come forward to acquire a sick bank. The average rural or semi-urban branch finds it difficult to make money.

The junior minister in finance has taken the first step to spell out the obvious boundary lines. No serious acquirer can be expected to come forward to acquire a sick bank. A sale has to be ‘reasonable’ and ‘a fair deal’ for the buyer, the government and also bank customers. Last but not the least, even though left-oriented trade unions are not a constituency of the present government, come the bank employees. Their long-term interests, including the pension commitments made to them, will have to be secured while going through the sale process.

But even if a bank is not formally designated a sick enterprise, it is well known that most public sector banks are weak. Periodic capital injections by the government have ensured that they are able to carry on doing business by meeting the regulator’s capital adequacy norms. And their level of stressed assets has been kept under some kind of control through hefty write-offs.

But even what is there on paper does not reveal the whole truth. The pandemic has resulted in court-ordered moratorium on repayments and a standstill on recognition of NPAs. The true picture of the level of non-performing assets will only be known once regular repayments and asset recognition get under way. Knowing that the official numbers may not tell the full story, a practice of giving additional information through pro-forma numbers has been started.

According to information disclosed by 17 banks (six top public sector and 11 private sector banks), for the December quarter, ‘gross NPAs’ have been put at Rs 5.95 lakh crore, ‘unrecognised NPAs’ at Rs 1.04 lakh crore — the two together yielding a figure of ‘pro-forma gross NPAs’ of Rs 7 lakh crore.

This being the scenario, what is there in a public sector bank, except perhaps State Bank of India, and to an extent Bank of Baroda, for a prospective buyer to feel that he has before him a potentially viable asset which can be turned around to become a profitable one?

First, does the economy need the business model that public sector banks represent? They served a historical purpose but in the business of taking banking to the unbanked, the can is now being carried by the better and bigger microfinance institutions and the small finance banks which have mostly emerged from their earlier avatar of NBFC-MFIs which are rigorously supervised by the Reserve Bank of India. And these have far lower levels of stressed assets than the average commercial bank.

The government is keen to take financial inclusion forward through digital banking, which on the face of it, seems to be capable of doing away with brick and mortar bank branches. Under this scenario, the last mile will be delivered by hotspot-enabled kirana stores functioning as public data offices where you will get good bandwidth to do your basic banking with ease through your smartphone.

But bank branches which offer a physical interface between unlettered customers and banking staff is essential for first-generation users of even basic banking services to learn how to handle banking procedures. It is a mistake to think that those at the bottom of the pyramid do not need their own relationship managers. All you need to do to convince yourself of this is the queues of confused customers at bank branches even in urban areas waiting patiently to be told how to do what needs doing.

The most tangible values that public sector banks have to offer are their large deposit base and branch real estate. Plus, most ordinary Indians to this day wish to keep their meagre savings in a safe institution that carries de facto government guarantee against bank failure. For this, they are willing to earn a rate of interest which is below the inflation rate, that is their deposits losing real value over time.

The banks’ foremost liability is that the average rural or semi-urban branch finds it difficult to make money. A key reason is their staff have poor knowledge of local business conditions so that an unacceptably high part of their small loans portfolio is non-performing. It is here that the microfinance institutions and the small finance banks score as they are part of the rural ecosystem and know it intrinsically. Plus, there is the traditional cynical attitude of the banks’ unionised staff.

So is there a way in which public sector banks can be successfully privatised or should they be closed down and the staff paid off so that the banks do not represent a perpetual drain on the public exchequer through endless recapitalisation?

There is — through a process of patient transformation under which there are incentives for the new owners to do good banking business in the ‘other India’. As the economy grows and rural non-agricultural services become more important, there is great scope for successful bank financing of micro and small businesses, like cell phone repair and solar panel servicing, not to speak of motorbike maintenance.

But the new owners, who should be akin to startup entrepreneurs, have a developmental mindset as well as bottom line orientation, cannot be identified in a day, and after the sale need hand holding to overcome the unexpected like a natural calamity or, God forbid, another pandemic. And that is a tall order.