Now that the RBI has cut rates, the spotlight will shift to the banks, especially state owned banks, many of which are yet to commit to reducing either lending or deposit rates. Part of the reason for this reluctance to pass on the benefits of lower borrowing costs could be the overhang of bad loans for PSU banks. With a recovery not yet in sight and loan growth still weak, banks may prefer to wait longer before cutting rates. That said, 2015-16 will be a challenging year for many government-owned banks. For one, Finance Minister Arun Jaitley has set aside only Rs 7,940 crore in 2015-16 to boost their capital. The lower allocation for the recapitalisation of PSU banks has been justified by the government, saying that capital will now be infused only on the basis of performance. In other words, only those banks that are more profitable and efficient can line up for capital.
At one level, the differential approach to capital infusion for India’s state-owned banks, which control 70 per cent of the business, is welcome, coming as it does after decades of splurging public money. The government appears to have put this strategy into practice, going by the fact that it has infused just about Rs 7,000 crore so far into nine PSU lenders this fiscal. Indeed, it is refreshing to see the dominant owner of over a dozen banks acting like any other promoter or savvy investor in seeking good returns on investment or capital. But what happens to the relatively weaker PSU banks, especially the mid-sized ones, which, because of this new approach, find it tough to raise capital? Will they be reduced to being just narrow banks — which invest more in safe government bonds and whose lending book is restricted by treasury bills? Or will the government be bold enough to let go of such banks and ensure complete operational freedom to their managements, or bring on board other investors, such as private equity funds or sovereign wealth funds as recommended by the P.J. Nayak Committee? The same committee had, however, observed wryly that it was a fundamental irony that the government disadvantages the very banks it has invested in.
The question to be asked is whether the new approach on capital infusion could lead to a narrowing of options for accessing credit, especially for small and medium firms, which have been squeezed because of the ongoing slowdown. The government should spell out its medium-term strategy for PSU banks and lay down a road map, especially with expectations of a rebound in growth next fiscal. The longer the wait, the more difficult will be the re-ordering of these banks. The challenge lies in summoning the required political will for this makeover.