Three years ago when he came in as RBI governor, Raghuram Rajan had proposed a five-pillar approach that prominently featured reform of India’s banking system. This was in September 2013 when there was a slow build up of bad loans — a legacy of decisions taken in the days when economic growth averaged 8 per cent between 2003-04 to 2008. Rajan formed a committee headed by P.J. Nayak to recommend measures to improve governance in state-owned banks. Since then there have been attempts to address the issue of bank governance as also to clean up the balance sheets of government-owned banks — with the RBI setting a target of March 2017 for banks to make full provisions and to present a true picture of their health. It is perhaps the enormity of the challenge that prompted Rajan, who is set to depart in three weeks, to flag the issue again. The RBI governor has proposed sweeping changes in the functioning of PSU banks, including empowering the boards of these listed banks, granting them the freedom to finalise business strategies and to reduce overlapping jurisdictions of the regulator and the dominant shareholder of state-owned banks — the government. He has also made out a strong case for withdrawing the nominees of the RBI from the boards of PSU banks.
For a start, the government has sought to address part of this challenge by forming the bank boards bureau — on the assumption that it is more a governance than an ownership issue. But the trouble with a sub-optimal solution is that the longer the delay in addressing the problems of these banks, the wounds will fester. Recent data shows that bad loans of banks have almost doubled to over Rs 6,00,000 crore in a year — some of it of course because of the directive by the banking regulator to make adequate provisions for over 100 stressed loan accounts. In February this year, Rajan had said that banks may require deep surgery to clean up their balance sheets. He is right. But sporting clean balance sheets next year alone isn’t going to help. Carrying out the kind of governance changes which are critical to the well being of India’s state-owned banks will mean taking a difficult political call on divorcing ownership from management of banks — either by giving up ownership or through a structure such as the Bank Investment Company or BIC, a holding company which controls ownership on behalf of the sovereign.
So far, the NDA government has appeared to be reluctant to rock the boat when it comes to PSUs. The trouble with such an approach is that the tab for reviving such state-owned firms or banks must ultimately be picked up by taxpayers in the form of regular recapitalisation. There is a cost to such capital. More importantly, India needs more well-run banks without the crutches of the government when the economic rebound happens.