The government has announced that a ministerial panel headed by the finance minister will oversee mergers among state-owned banks. Finance Minister Arun Jaitley says that the aim is to create strong banks and that the merger proposals will have to come from the boards of these banks and decisions will be taken purely on commercial grounds. This comes at a time when bad loans as a ratio of total loans are already close to 10 per cent with indications that the ratio could worsen given the current economic conditions and the twin balance-sheet problem — of over-leveraged corporate balance-sheets and banks weighed down by bad loans. That’s why the so-called Alternative Mechanism to oversee mergers of PSU banks could be seen as an attempt to skirt the challenge of infusing capital for banks which the government controls or divesting some of these weak banks.
Over the last two decades, successive governments have indicated the policy option of consolidating Indian banks to ensure a better functioning financial sector. But that goal cannot be achieved by forcing a lender with a strong balance-sheet and a country-wide franchise or branch network to merge with a weak bank when the balance-sheets of most of the 21 state-run banks look stretched.
The RBI’s latest Financial Stability Report shows that the gross bad loan ratio of PSU banks could be as high as 14.2 per cent by March 2018 if there is no economic rebound. The credit rating agency, Moody’s, reckons that the government which has budgeted Rs 10,000 crore this fiscal for capitalising banks will have to set aside close to Rs 95,000 crore for 11 state-run banks over the next two years.
The global experience of such mergers in the financial sector has shown that they are bound to fail if they don’t meet the test of efficiency, synergy and cultural fit. It may be early to judge but the latest results show a deterioration in earnings of India’s largest bank, State Bank of India, after the merger of its associate banks with the parent. Given the context, it is debatable whether this planned consolidation will lead to rationalisation, both at the branch level and in terms of staff, and a more efficient banking system.
If the motive is only to shrink the universe of banks which the government controls, it will still not address the core issue of governance that underlies some of the problems faced by these banks. For, that is tied in to the ownership of banks by the government. Pursuing the mergers of these banks without strengthening their balance-sheets and raising governance standards poses the risk of compounding the problems being faced by these lenders.