Dear
Friends,
It is my pleasure to be here with you this
morning on the occasion of International Banking & Finance Conference 2008
of the Indian Merchants’ Chamber. I am grateful to the organisers for having afforded
me this valuable opportunity to address this august audience and share some of
my thoughts on the subject of consolidation in the Indian financial sector. The
Chamber has indeed come a long way since its establishment in the pre-independence
days in September 1907 under the presidentship of late Sir Manmohandas Ramji.
In that era, it performed the role of the nation’s watchdog on the economic front
under the alien rule. The Chamber also has the unique distinction of having had
the patronage of the Father of the Nation, Mahatma Gandhi as its honorary member
since 1931. The Chamber, during its functioning of hundred years, has done yeoman
service to the country and society at large in promoting the cause of business
community through strengthening the government-business partnership and representing
the business point of view before the public policy authorities and I hope that
it will continue to perform its productive role in the national policy formulation,
in the days to come as well.
2. In my address today, I
would like to briefly touch upon the experience in and the emerging contours of
consolidation in the Indian financial sector, that have taken shape over the past
few decades, in the RBI-regulated entities, as a result of a calibrated policy
response designed for the purpose.
Consolidation
in the financial sector
3. Consolidation of business
entities, through mergers and acquisitions, is a world-wide phenomenon. The numerous
mergers and acquisitions all over the world, including in India, in the real as
well as in the financial services sector, appear to be driven by the objective
of leveraging the synergies arising from the process of merger and acquisition.
However, such structural changes, particularly in the financial system, can also
potentially have public policy implications. With this brief backdrop, I would
like to present an overview of consolidation in the Indian financial sector, particularly
amongst the banks, development financial institutions and the non-banking financial
companies.
The Indian Scenario
The
diversity of statutory frameworks
4. In the context
of consolidation in the financial sector in India, let me say a few words about
the unique features of the Indian credit institutions and their operating environment.
While talking about consolidation in the Indian milieu, it is important to bear
in mind that there is diversity of the governing statutes applicable to different
entities in the Indian credit system. Further, they are governed by divergent
statutory provisions, depending upon the nature of their operations and the form
of their organisation or ownership.
Thus, while the private
sector banks are subject to the provisions of the Banking Regulation Act, 1949,
the public sector banks are governed by their respective founding statutes and
by those provisions of the B R Act which have been made specifically applicable
to them. The urban co-operative banks, on the other hand, are governed by the
provisions of the Cooperative Societies Act of the respective State or by the
Multi-State Cooperative Societies Act, as also by the provisions of the B R Act
which are specifically applicable to them.
The development
financial institutions (DFIs), which were founded by a statute, attract the provisions
of those statutes while the DFIs structured as limited companies, were subject
to the provisions of the Companies Act, 1956, but both the types of the DFIs are
regulated and supervised by the RBI under the provisions of the R B I Act, 1934.
The Regional Rural Banks (RRBs) were created under the
RRBs Act, 1976 and are regulated by the RBI but supervised by the NABARD, while
the non-banking financial companies are subject to the provisions of the Companies
Act, 1956 and are regulated and supervised by the RBI under the provisions of
the RBI Act.
The housing finance companies, which are a
sub-set of the NBFC category, are currently regulated and supervised by the National
Housing Bank while the rural co-operative credit structure falls within the regulatory
and supervisory domain of the NABARD.
History of consolidation
in the Indian banking sector
5. In the context of consolidation
in the Indian banking sector, it may be recalled that the Report of the Committee
on Banking Sector Reforms (the Second Narasimham Committee - 1998) had suggested,
inter alia, mergers among strong banks, both in the public and private
sectors and even with financial institutions and NBFCs. Indian banking sector
is no stranger to the phenomenon of mergers and acquisition across the banks.
Since 1961 till date, under the provisions of the Banking Regulation Act, 1949,
there have been as many as 77 bank amalgamations in the Indian banking system,
of which 46 amalgamations took place before nationalisation of banks in 1969 while
remaining 31 occurred in the post-nationalisation era. Of the 31 mergers, in 25
cases, the private sector banks were merged with a public sector bank while in
the remaining six cases both the banks were private sector banks.
Since
the onset of reforms in 1990, there have been 22 bank amalgamations; brief particulars
of these are furnished in the Annex - I. It would
be observed that prior to 1999, the amalgamations of banks were primarily triggered
by the weak financials of the bank being merged, whereas in the post-1999 period,
there have also been mergers between healthy banks driven by the business and
commercial considerations.
Consolidation in the
commercial banking segment : Recent developments
6.
The consolidation efforts in the Indian banking sector can be broadly placed,
as per the nature of the entities involved and of the mergers, into several categories
viz., (a) voluntary amalgamation between private sector banks; (b) compulsory
amalgamation of a private sector bank; (c) merger between public sector banks;
(d) merger of a non-banking financial company (NBFC) with a private sector bank;
and (e) merger of a housing finance subsidiary with the parent public sector bank.
Let me present a brief overview of the policy and processes involved in each type
of merger.
(a) Voluntary amalgamation between private
sector banks
7. As regards the statutory provisions,
the procedure for voluntary amalgamation of two banking companies is laid down
under Section 44-A of the Banking Regulation Act, 1949 (the Act), which is easy
to follow and cost effective. After the two banking companies have passed the
necessary resolution proposing the amalgamation of one bank with another bank,
in their general meetings, by a majority in number representing two-thirds in
value of the shareholding of each of the two banking companies, such resolution
containing the scheme of amalgamation is submitted to the Reserve Bank for its
sanction. If the scheme is sanctioned by the Reserve Bank, by an order in writing,
it becomes binding not only on the banking companies concerned, but also on all
their shareholders.
Pursuant to the recommendations of
the Joint Parliamentary Committee, the RBI had constituted a Working Group to
evolve the guidelines for voluntary merger between banking companies. Based on
the recommendations of the Group, the RBI had issued guidelines in May 2005 laying
down various requirements for the process of such mergers including determination
of the swap ratio, disclosures, the stages at which Boards will get involved in
the merger process, etc. While amalgamations are normally decided on business
considerations (such as the need for increasing the market share, synergies in
the operations of businesses, acquisition of a business unit or segment, etc.),
the policy objective of the Reserve Bank is to ensure that considerations like
sound rationale for the amalgamation, the systemic benefits and the advantage
accruing to the residual entity are evaluated in detail. While sanctioning the
scheme of amalgamation, the Reserve Bank takes into account the financial health
of the two banking companies to ensure, inter alia, that after the amalgamation,
the new entity will emerge as a much stronger bank.
8. The
experience of the Reserve Bank has been, by and large, satisfactory in approving
the schemes of amalgamation of the private sector banks in the recent past and
it had no occasion to reject any scheme of amalgamation submitted to it for approval.
There have been five voluntary amalgamations between the private sector banks
so far while one amalgamation between two private sector banks (Ganesh Bank of
Kurundwad and the Federal Bank) was induced by the RBI, in the interest of the
depositors of the former. A majority of these voluntary mergers was between healthy
banks, somewhat on the lines suggested by the First Narasimham Committee. The
committee was of the view that the move towards the restructured organisation
of the banking system should be market-driven and based on profitability considerations
and brought about through a process of mergers and acquisitions.
(b)
Compulsory amalgamation of a private sector bank
9.
Compulsory amalgamations are induced or forced by the Reserve Bank, under Section
45 of the Act, in public interest, or in the interest of the depositors of a distressed
bank, or to secure proper management of a banking company, or in the interest
of the banking system. In the case of a banking company in financial distress,
which has been placed under the order of moratorium, under Section 45(2) of the
Act, on an application made by the Reserve Bank to the Central Government, the
Reserve Bank can, for the foregoing reasons, frame a scheme of amalgamation for
transferring the assets and liabilities of such distressed bank to a much better
and stronger bank. Such a scheme framed by the RBI is required to be sent to the
banking companies concerned, for their suggestions or objections, including those
from the depositors, shareholders and others. After consideration the same, the
RBI sends the final scheme of amalgamation to the Central Government for sanction
and notification in the official gazette. The notification issued for compulsory
amalgamation under Section 45 of the Act is also required to be placed before
the two Houses of Parliament.
10. Most of the amalgamations
of the private sector banks in the post-nationalisation era were induced by the
Reserve Bank in the larger public interest, under Section 45 of the Act. In all
these cases, the weak or financially distressed banks were amalgamated with the
healthy public sector banks. The over-riding principles governing the consideration
of the amalgamation proposals were: (a) protection of the depositors’ interest;
(b) expeditious resolution; and (c) avoidance of regulatory forbearance. The amalgamations
of the erstwhile Global Trust Bank and the erstwhile United Western Bank with
public sector banks are recent examples. Even in such cases, commercial interests
of the transferee bank and the impact of the amalgamation on its profitability
were duly considered.
The mergers of many weak private
sector banks with the healthy ones, have brought us to a creditable stage today
when not a single private sector bank in the country has the capital adequacy
ratio of less than the minimum regulatory requirement of nine per cent. This now
paves the way for effective implementation of the Prompt Corrective Action (PCA)
Framework by the RBI, which could not be invoked earlier when the banking system
was populated by many weak banks, without creating confidentiality issues.
(c)
Merger of public sector banks
11. The statutory framework
for the amalgamation of the public sector banks, viz., the nationalised banks,
State Bank of India and its subsidiary banks, is, however, quite different since
the foregoing provisions of the B R Act do not apply to them. As regards the nationalised
banks, the Banking Companies (Acquisition and Transfer of Undertakings) Act, 1970
and 1980, or the Bank Nationalisation Acts authorise the Central Government, under
Section 9(1)(c), to prepare or make, after consultation with the Reserve Bank,
a scheme, inter alia, for transfer of undertaking of a ‘corresponding new
bank’ (i.e., a nationalised bank) to another ‘corresponding new bank’ or for transfer
of whole or part of any banking institution to a corresponding new bank. Unlike
the sanction of the schemes by the Reserve Bank under Section 44-A of the B R
Act, the scheme framed by the Central Government is required, under Section 9(6)
of the Bank Nationalisation Acts, to be placed before both Houses of Parliament.
Under this procedure, the lone merger that has happened so far was the amalgamation
of the erstwhile New Bank of India with the Punjab National Bank, occasioned by
the weak financials of the former. However, the post-merger experience was considered
to be not altogether satisfactory on account of the problems in effective integration
of the two entities.
12. As regards the State Bank of India
(SBI), the SBI Act, 1955, empowers the State Bank to acquire, with the consent
of the management of any banking institution (which would also include a banking
company), the business, including the assets and liabilities of any bank. Under
this provision, what is required is the consent of the bank sought to be acquired,
the approval of the Reserve Bank and the sanction of such acquisition by the Central
Government. Several private sector banks were acquired by the State Bank of India
following this route. However, so far, no acquisition of a public sector bank
has materialised under this procedure. Similar provisions also exist in respect
of the subsidiary banks of the SBI.
13. It would thus be
seen that there are sufficient enabling statutory provisions in the existing statutes
governing the public sector banks to encourage and promote consolidation even
within the public sector banks through the merger and amalgamation route, and
the procedure to be followed for the purpose has also been statutorily prescribed.
Consolidation and its impact on the branch network
14.
It may be mentioned here that one of the likely effects of consolidation in the
banking sector may be the rationalisation of the branch network of the banks concerned,
resulting in the likely closure of certain branches of the merging banks, where
there might be an overlap in their catchment area. Generally, as part of consolidation
process, the emerging bank would be more inclined to shift its branches and focus
of operations from the rural to the urban and semi-urban areas, which are usually
more remunerative. However, the current regulatory regime for branch authorisation
does not generally permit closure of the rural branches of the banks. Such a requirement
is in tune with the philosophy of financial inclusion which emphasises increasing
penetration of the banking services in the unbanked and under-banked areas of
the country. For instance, under the new Branch Authorisation Policy of the RBI
announced in September 2005, during the year 2007-08 (April-March), of the 4117
branch authorisations issued 1979 were for the under-banked centres. In aggregate,
627 authorisations were issued during the year for opening of rural branches and
1471 branches in the semi-urban areas. I would like to emphasise that the new
branch authorisation policy does not preclude the possibility of any urgent proposals
for opening bank branches being considered by the RBI even outside the annual
plan, specially in the rural / under-banked areas, anytime during the year.
15.
In brief, RBI has been discharging the mandate given to it for branch licensing
as required by law, public policy and regulatory comforts. Let me add that under
the new policy, all the branch-authorisation requests of the banks were granted
by RBI, subject to the banks fulfilling the criteria laid down for opening of
branches in under-banked areas, except in the case of a few banks where there
were serious regulatory discomfort on account of their indiscretions and contravention
of the regulatory norms. It is interesting to note in this context that in the
USA, for instance, for lesser regulatory violations, the banks are subjected to
"cease and desist" order from the regulator, severely restricting their
activities during the currency of the order.
(d) Merger
between a private sector bank and an NBFC
16. As I mentioned
earlier, the Reserve Bank is vested with the discretionary powers to approve the
voluntary amalgamation of two banking companies under the provisions of Section
44-A of the Banking Regulation Act, 1949. However, these powers do not extend
to the voluntary amalgamation of a non-banking company with a banking company
where amalgamations were governed by sections 391 to 394 of the Companies Act,
1956 in terms of which, the scheme of amalgamation has to be approved by the High
Court. Hence, the banks were advised in June 2004 that where an NBFC is proposed
to be amalgamated with a banking company, the banking company should obtain the
approval of the Reserve Bank after the scheme of amalgamation is approved by its
Board but before it is submitted to the High Court for approval.
17.
Subsequently, in pursuance of the recommendations of the Joint Parliamentary Committee
(JPC), a Working Group was constituted by RBI to evolve guidelines for voluntary
merger of banking companies. Based on the recommendations of the Group and in
consultation with the Government, it was proposed in the Annual Policy Statement
of April 2005 to issue guidelines on merger and amalgamation between private sector
banks and with NBFCs. The guidelines were to cover: process of merger proposal,
determination of swap ratios, disclosures, norms for buying / selling of shares
by promoters before and during the process of merger and the Board’s involvement
in the merger process. The principles underlying these guidelines were also to
be applicable, as appropriate, to public sector banks, subject to relevant legislation.
Accordingly, the guidelines were issued in May 2005
18.
There have been a few instances of mergers of the NBFCs with the private sector
banks. The first such merger occurred in May 1999 when the RBI approved the merger
of Twentieth Century Finance Corporation Ltd., an NBFC, with Centurion Bank Ltd.
Subsequently, in 2003, the merger of IndusInd Enterprises & Finance Ltd. (IEFL),
one of the promoters of the IndusInd Bank Ltd., with the bank was also approved.
Further, the Kotak Mahindra Finance Ltd., an NBFC, was converted into Kotak Mahindra
Bank Limited, by amending its Memorandum and Articles of Association, and was
granted a banking licence by the RBI in February 2003. In June 2004, the merger
of Ashok Leyland Finance Ltd., an NBFC, with the IndusInd Bank Ltd. was approved
by the RBI. Besides, certain banks also have significant stakes in some of the
NBFCs. For instance, the Development Bank of Singapore (DBS) has a major stake
in Cholamandalam Investment & Finance Ltd. while the Barclays Bank has a major
holding in Rank Investments Ltd.
In view of the recent
global developments, the current policy of merger of NBFCs with banks will require
a comprehensive review.
(e) Merger of a housing finance
subsidiary with the parent public sector bank
19. There
have also been a few instances where the housing finance subsidiaries of the public
sector banks were merged with the parent bank. During April 2002 and March 2007,
the merger of the housing finance subsidiaries of Andhra Bank, Vijaya Bank, Corporation
Bank and Bank of Baroda with the respective parent banks was approved by the RBI.
The mergers were triggered primarily by the rising cost of funds of the housing
finance entities, which adversely impacted the viability of their business models.
The approvals for mergers from the RBI became necessary as there was a change
in the structure of the banks’ subsidiaries, which had been established under
Section 19(1) of the B R Act, 1949 with the regulatory approval of the RBI.
(f)
Attempted mergers that did not materialise
20. Let
me also take this opportunity to point out that all the attempts made for merger
of banks do not necessarily result in a successful outcome. There has been an
instance where despite the process of merger having progressed quite a bit, it
did not eventually fructify. The case of the attempted merger of the then UTI
Bank and the erstwhile Global trust Bank can be cited in this regard. While the
scheme of voluntary amalgamation of the two banks had been submitted to the RBI
for approval, the approval was kept on hold pending the completion of the SEBI
investigations. It may be recalled that, in the run up to the proposed merger,
the SEBI had initiated certain investigations into the share-price manipulation
of the GTB shares. While the approval from the RBI was yet to be granted, the
proposed merger was called off by the parties concerned. Thus, the merger did
not materialise.
Consolidation of the Development Financial
Institutions (DFIs)
21. It may be recalled that the
DFIs were set up in the country in the post-independence era for providing long-term
finance to the industrial projects to facilitate industrial development, in the
absence of alternative sources of long-term funds. Hence, to enable the DFIs to
play this role, they were also provided access to certain concessional sources
of funds by way of allocation of SLR Bonds and lending from the Long Term Operation
Funds of the RBI. However, with the onset of financial sector reforms, and pursuant
to the recommendations of the First Narasimham Committee, the access by the DFIs
to the traditional concessional sources of funds was gradually phased out. Consequently,
the raising of resources at market-related rates, increased their cost of funds,
thereby, affecting the very viability of their business model, coupled with increasing
competition from the banks. The DFIs came within the regulatory purview of the
RBI in 1991 for the first time, and the regulatory domain of the RBI, till recently,
extended to the seven Term-Lending Institutions (TLIs – EXIM Bank, ICICI Limited,
IDBI, IDFC Limited, IFCI Limited, IIBI Limited, and TFCI Limited) and three Re-Financing
Institutions (RFIs – NABARD, NHB and SIDBI).
22. The Committee
on Banking Sector Reforms (Second Narasimham Committee) had recommended in 1998
that the DFIs over a period of time should convert themselves into banks and there
should be only two forms of intermediaries – banking companies and non-banking
finance companies, and if a DFI does not intend to become a bank with a banking
licence, it should be categorised as an NBFC. The Working Group for Harmonising
the Role and operations of DFIs and Banks (Khan Working Group – KWG), was also
of the view that a full banking licence be eventually granted to the DFIs. Based
on these recommendations, the RBI had released a ‘Discussion Paper’ (DP) in January
1999 soliciting wider public debate on the issue. The DP had, inter alia,
envisaged a transition path for the DFIs for becoming either a full-fledged NBFC
or a bank. Based on the feedback received on the DP, the Monetary and Credit Policy
for the year 2000-2001, outlined the broad approach proposed to be adopted for
considering the proposals in the area of Universal Banking. The Policy stated
that the principle of 'Universal Banking' was a desirable goal and any DFI, which
wished to transform into a bank, should have the option to do so, provided it
was able to fully satisfy the prudential norm applicable to the banks. For the
purpose, such a DFI was expected to prepare a transition path for consideration
of the Reserve Bank. Thus, in due course, the recommendation of the Narasimham
Committee to have only banks and the restructured NBFCs in the system, could be
operationalised. Accordingly, in April 2001, the FIs were advised several operational
and regulatory issues relevant in evolving their transition path to a universal
bank and for formulating a road map for the purpose.
23.
In the light of the RBI guidance, two leading term lending institutions viz.,
the erstwhile IDBI and ICICI Limited got converted into a commercial bank, each.
The four term-lending institutions (IDFC Ltd., IFCI Ltd., IIBI Ltd. – since wound
up, TFCI Limited) which were in the category of NBFCs, are now regulated as per
the norms applicable to the NBFCs. However, the EXIM Bank and the three RFIs (NABARD,
NHB and SIDBI) continue to be under the regulatory domain of the RBI and are regulated
as per the norms applicable to the financial institutions.
Consolidation
of the Regional Rural Banks (RRBs)
24. The RRBs were
established under the RRBs Act, 1976 with a view to create an institutional mechanism
for delivery of rural credit through an entity which would have the local feel
but the expertise of the commercial banks for catering to the rural credit needs.
The RRBs are owned jointly by Government of India, sponsor banks and State governments
of 50, 35 and 15 per cent, respectively, and were expected to have region-specific
limited area of operation. Over the years, their number had increased to 196,
operating in 26 States of the country, being sponsored by 27 scheduled commercial
banks and one State Co-operative Bank. However, with their limited size, scope
and area of operations, competition from the rural branches of the commercial
banks and the rising cost of operations due to upgraded wage structure on par
with the commercial banks, their profitability and viability was adversely affected.
This triggered the move towards their consolidation. The consolidation of the
RRBs was first suggested by the Working Group to Suggest Amendments to the
RRBs Act, 1976 (Chalapathy Rao Committee) in 2001. It had suggested that while
retaining the regional character of these institutions, the number of sponsor
banks may be reduced. Subsequently, the Advisory Committee on Flow of Credit
to Agriculture and related Activities (Vyas Committee) had suggested in 2004
that in the first stage, all RRBs of a sponsor bank in a State should be amalgamated
into a single unit in that State and at the second stage, there should be a State-level
consolidation of RRBs. Subsequently, the Internal Working Group on RRBs,
constituted by the RBI (Sardesai Committee) in June 2005, also suggested two options
for strengthening RRBs, namely, merger between RRBs of the same sponsor bank in
the same State or the merger of RRBs sponsored by different banks in the same
state.
25. The main triggers for these recommendations
were the small size of the RRBs which had made their operations unviable leading
to significant amount of accumulated losses – which was not considered desirable.
In order to improve the operational viability of RRBs and to take advantage of
the economies of scale by reducing transaction cost, Government of India initiated,
in September 2005, a process of amalgamation of RRBs sponsor bank-wise. The first
set of amalgamations took place on September 12, 2005 when 28 RRBs were amalgamated
to form 9 new RRBs. The amalgamations were carried out under Section 23-A of the
RRBs Act, 1976, which provides that the Central Government, after consultation
with the National Bank, the concerned State Government and the Sponsor Bank may
amalgamate two or more RRBs. The process of amalgamation is still continuing.
26. As a result of such amalgamations, the number of RRBs
has come down to 91 as on March 31, 2008 as against 133 and 196 RRBs as on March
31, 2006 and 2005, respectively. It needs to be noted here that this consolidation
has occurred only amongst the RRBs, and not with the sponsor banks, and has been
achieved without amendment to the governing statute of the RRBs. The structural
consolidation of the RRBs has resulted in formation of new RRBs, which are financially
stronger and bigger in size in terms of business volume and outreach. Thus, the
emerging RRBs will be able to take advantages of the economies of scale and reduce
their operational costs. With the advantages of local feel and familiarity acquired
by the RRBs, they would now be better placed to achieve the objectives of rural
development and financial inclusion.
Urban Co-operative
Banks (UCBs)
27. The UCBs probably pose the most complex
issues for a regulator since their governance is subject to the provisions of
the Cooperative Societies Act, which is administered by the State governments
while their banking operations are governed by the B R Act, administered by the
RBI, leading to a duality of control. Hence, any move towards consolidation in
this sector, required a very special and collaborative approach involving all
the stakeholders. The constitution of the Taskforce for Cooperative Urban Banks
(TAFCUB), for each State, at the initiative of the RBI, with representation from
all the stakeholders was, therefore, a step in this direction and has proved effective
in resolving the intractable issues of the UCBs.
28. The
spectacular growth of UCBs in the late nineties and up to 2003, which had resulted
in increasing their penetration, ironically, also led to certain weaknesses in
the sector that adversely affected public perception and thereby, their competitiveness.
A major reason for the decline in public confidence was the crisis faced in 2001
by a large multi-state co-operative bank in the State of Gujarat, when the bank
witnessed a sudden ‘run’ on its branches, following rumours of its large exposure
to a leading stock broker who had suffered huge losses in the share market. The
large-scale withdrawal of deposits within a short time resulted in severe liquidity
problems for the bank. The bank was also holding about rupees 800 crore of inter-bank
deposits from a large number of UCBs within and outside the State, which posed
a systemic risk. In order to protect the interests of the general public and also
that of the other co-operative banks, RBI issued directions to the bank restricting
certain operations (acceptance of fresh deposits, restricting payments to any
single depositor to Rs.1000 and ban on fresh lending) and requisitioned the Central
Registrar of Co-operative Societies, New Delhi to supersede the Board of Directors
and appoint an Administrator. An order of moratorium was also enforced on the
bank by the Central Government for a short period. The bank was subsequently placed
under a scheme of reconstruction with the approval of Reserve Bank of India.
29.
The Gujarat episode was followed by another major crisis in the state of Andhra
Pradesh in 2002, when one of the largest co-operative banks in the State faced
a run, following a newspaper report regarding an inquiry instituted into the affairs
of the bank by the State Registrar of Cooperative Societies. The bank was in a
weak position, and ultimately, after attempts for its revival failed, its licence
was cancelled by the Reserve Bank in 2004.
30. The decline
is public confidence in the UCB sector, deepened in the aftermath of the crisis
in Gujarat and Andhra Pradesh and concomitantly, the position of UCBs generally
deteriorated. As on June 30, 2004, 732 out of 1919 UCBs were categorised In Grade
III or IV signifying weakness and sickness. With a view to facilitating consolidation
and emergence of strong entities and providing an avenue for non-disruptive exit
of weak/unviable entities in the co-operative banking sector, RBI had also issued
guidelines in February 2005 to the UCBs to encourage merger/amalgamation in the
UCB sector. Although the Banking Regulation Act, 1949 (As Applicable to the Cooperative
Societies) does not empower Reserve Bank to formulate a scheme with regard to
merger and amalgamation of co-operative banks, the State Governments have incorporated
in their respective Co-operative Societies Acts a provision for obtaining prior
sanction in writing, of the RBI for an order, inter alia, for sanctioning
a scheme of amalgamation or reconstruction. The Reserve Bank’s role in the merger
of the cooperative banks is, thus, confined to the examination of only the financial
aspects of the scheme of merger and to protect the interests of depositors of
the banks concerned as well as ensuring the stability of the financial system
while considering such proposals. Subsequently, recognising that the UCBs are
an important part of the financial system in India, it was also considered necessary
for them to emerge as a sound and healthy network of jointly owned, democratically
controlled, and ethically managed banking institutions providing need-based quality
banking services, essentially to the middle and lower middle classes and marginalised
sections of the society. Recognising the systemic risks and keeping in view the
needs of its clientele, the Reserve Bank reviewed the entire gamut of legislative,
regulatory and supervisory framework for these banks, and in March 2005, brought
out a draft ‘Vision Document’ for the UCBs, setting out the broad approach and
strategies needed to be adopted to actualise this vision.
31.
The Urban Cooperative Banking sector witnessed a decline in the total number of
banks from 1926 in March 2004 to 1793 in August 2007. Despite this decline in
numbers, public confidence in the sector continued to rise as reflected by the
increase in deposits by 6.1 per cent during 2006-07 on the top of 8.6 per cent
in the previous year, thereby reversing the declining trend of 2004-05 when the
deposits of the UCBs had declined by 4.7 per cent. Further, the decrease in the
number of weak and sick banks indicated an improved risk profile of the sector.
Thus, the number of UCBs in Grade III and IV (the banks with considerable supervisory
concerns) constituted 31 per cent of the total number of banks in March 2007 as
against the corresponding figure of 37 per cent in March 2006. The decline in
number of banks was brought about by liquidation/ merger of banks and rejection
of licence applications of banks and the continuance of the policy of not entertaining
applications for licence to set up new UCBs.
32. Unlike
in the past, the perception of the sector and of the State governments towards
this contraction in the urban cooperative banking sector has undergone a change.
As envisaged in the Vision Document for UCBs, drawn up by the RBI in consultation
with the UCBs, State governments, etc., adoption of a consultative approach to
regulation and supervision, which is participatory and transparent, has resulted
in appreciation of the regulatory actions of the RBI by all stakeholders. Earlier,
the requisition for liquidation of a bank was protested by the bank and the sector,
and often resulted in non-implementation or delay in implementation of the requisition
by the State governments. The process has now become smooth and quicker, as the
decisions are based on the recommendations of the Taskforce for Cooperative Urban
Banks (TAFCUB), constituted in states that have signed Memorandum of Understanding
(MOU) with the RBI. The TAFCUB has representatives from state government, UCB
sector and the RBI. Till April 16, 2008, MOUs had been signed with 16 state governments
and Central Government, which encompass 1586 UCBs constituting 87.1 per cent of
the total number of banks, which account for 93.8 per cent of the total deposits
of the UCB sector.
33. I may mention that a medium-term
framework for urban co-operative banks up to the year 2010 has been drawn up in
order to facilitate the development of this sector into a strong and vibrant system
comprising entities conforming to all prudential requirements. The Standing Advisory
Committee for Urban Co-operative Banks is increasingly being used for continuous
dialogue with the various stakeholders of the sector.
The
deposits with the Grade I and Grade II UCBs (the banks with no / low supervisory
concerns) as a proportion of total deposits of the UCBs , excluding the two banks
in Gujarat and Andhra Pradesh, which faced the crisis, amounted to 77.5%. This
indicates that, at the moment, there is considerable improvement in the regulatory
comfort as far as UCBs are concerned. The process of improved cooperation and
collaboration with all stakeholders under the MoU is likely to strengthen the
position further.
Impact of UCBs on the amount of claims
settled by the DICGC
34. In the context of the UCBs,
it is appropriate to mention the impact of their operations on the pay out by
the DICGC to the depositors affected by the weak UCBs. It is instructive to note
that since the inception of DICGC in 1962 till the year 2000-01, claims paid to
co-operative banks by the Corporation amounted to Rs.71.9 crore, which constituted
27.43 per cent of the total claims paid by the Corporation during the period.
However, since the year 2001, the quantum of claims paid in respect of co-operative
banks multiplied manifold, on account of failure of large UCBs since then.
Thus,
during the period between 2000-01 and 2006-07, the claims paid in respect of co-operative
banks aggregated Rs.2226.60 crore. Further, out of total claims of Rs.2594.30
crore paid in respect of all the banks up to 2006-07, over 88 per cent of the
amount paid was in respect of 176 UCBs alone. However, with the added improvements
in the regulatory comforts in the new environment of co-operation and collaboration
the position of UCBs is poised to improve.
Local Area
Banks (LABs)
35. The LAB Scheme was introduced in August
1996 pursuant to an announcement made by the then Finance Minister in his budget
speech and the Guidelines for setting up the LABs were thereafter issued by the
RBI. The objective of setting up the LABs was to bridge the gaps in credit availability
and enhance the institutional credit framework in the rural and semi-urban areas
and to provide efficient and competitive financial intermediation services in
their areas of operation. The LAB Scheme envisaged a minimum capital of Rs. 5
crore and an area of operation comprising three contiguous districts. Out of the
227 applications received by the RBI for setting up LABs, only six banks were
actually licensed. Of the six LABs originally licensed, two have since ceased
to exit as the licences granted to one of them was cancelled in January 2002 on
account of grave irregularities observed in their operations while another one,
whose financial position was unsatisfactory, was amalgamated in August 2004 with
the Bank of Baroda under section 45 of the Banking Regulation Act, 1949. Thus,
there are only four LABs functioning at present, all of which are non-scheduled
banks. The LABs were subject to the provisions of the B. R. Act, RBI Act and prudential
norms on income recognition and asset classification, etc., since their inception.
36. In July 2002, a Review Group headed by Shri G. Ramachandran,
former Finance Secretary, was appointed to study the working of the LAB Scheme
and make recommendations. Based on the recommendations of the Group and with the
concurrence of the Government of India, it was decided by the RBI that no new
LABs would be licensed till the existing LABs were placed on a sound footing.
The existing LABs were also advised by the RBI in November 2003 to attain a capital
of Rs. 25 crore and a CRAR of 15% over a period of 5 to 7 years. In the absence
of any feasible restructuring options, it has been decided to maintain status
quo in regard to the LABs, under the existing framework.
Non-Banking
Financial Companies (NBFCs)
37. NBFCs are an important
component of the service sector which was a significant contributor to the growth
of the economy. It is important for the NBFCs to efficiently intermediate and
enhance credit delivery to the dispersed, under-banked and under-serviced sections
of the economy. However, it is also the Reserve Bank’s responsibility to protect
the depositors’ interest. While ensuring that the public deposit-taking companies
and systemically important non-deposit taking companies are well regulated, the
Reserve Bank is looking to further strengthening of the NBFC sector so as to help
the sector grow in terms of its asset base. Reserve Bank had given an option to
the NBFCs to voluntarily move out of public deposits acceptance activity if they
found the regulatory costs outweighed their benefits. In case an NBFC voluntarily
chose to get out of public deposits, the Reserve Bank would, in fact, help the
NBFC in its efforts, including imparting training and technology support.
38.
The NBFCs falling within the regulatory domain of the RBI can be broadly classified
as the deposit-taking NBFCs (other than the Residuary Non-Banking Companies),
Non-Deposit taking NBFCs and the Residuary Non-Banking Companies (RNBCs). NBFCs
are broadly engaged in four types of activities viz., equipment leasing, hire
purchase, loans and investments. Regulatory/supervisory norms, governing their
operations differ reflecting the concerns specific to the segment.
39.
As a part of consolidation in the NBFC sector, the number of deposit-taking NBFCs
(NBFCs-D) has come down steeply from 710 as at the end of June 2003 to 376 as
at the end of March 2008. The amount of public deposits held by them is also showing
a declining trend and has come down from Rs 5035 crore (March 2003) to Rs 2043
crore (March 2007). The bank borrowings of NBFCs-D at Rs 14,923 crores are not
significant in relation to the credit extended by them at Rs 37,990 crores as
at end of March 2007. Further, the deposits held by NBFCs including RNBCs (Rs
24,665 crore as at end March 2007) is not significant (0.95%) when compared to
deposits held by commercial banks (Rs 26,08,309 crore) as on March 31, 2007. Considering
that the amount of deposits held and bank borrowings of the deposit-taking NBFCs
is not significant in relation to the aggregate bank deposit and credit, the systemic
risk may not be considered significant. Furthermore, the number of non-deposit
taking NBFCs (NBFCs-ND) declined from 13139 as on June 2003 to 12458 as at end
of March 2008.
40. The number of RNBCs registered
with the Bank has decreased from five as on March 31, 2003 to three as at the
end of December 2006. Of these, two companies accounted for virtually the entire
deposits as the deposits of the third company, at less than rupees one crore,
were insignificant. However, in contrast to the trend of deposits of the NBFCs,
the Aggregate Deposit Liability (ALD) of the RNBCs has been showing a rapid growth.
The deposit liability of RNBCs increased from Rs.15,065 crore as on March 31,
2003 to Rs.22,622 crore as on March 31, 2007, showing an increase of 33.9 per
cent. While the ALD of one company recorded a declining trend, the other large
RNBC recorded a steady growth. However, it may be pointed out here that in view
of the changes in the operating environment of the RNBCs, their business model
has now become non-viable and there is a need for them to explore a new business
model.
41. The total deposits of NBFCs as on March 31,
2007 were Rs 24, 665 crore of which the deposits with deposit-taking NBFCs, other
than the RNBCs, were Rs 2,043 crore forming only 8.3 percent of the total public
deposits of the NBFCs. The deposits with the RNBCs as on March 31, 2007 amounted
to Rs 22622 crore which has been growing steadily. As already mentioned, the business
model of RNBCs has become non-viable.
Taking into account
the declining number of deposit-taking NBFCs, declining trend of public deposits
held by NBFCs, strengthening of regulatory prescription in case of NBFCs-ND-SI
and RNBCs, low level of NPAs and relatively low level of bank borrowings by the
sector, the potential systemic risk from this segment is low at this point of
time, even as the process of consolidation is gaining momentum. In these circumstances
at the appropriate stage, the proposal of restricting public deposit taking activities
only to banks may have to be taken up for consideration.
Conclusion
42.
Over the years, there has been considerable progress in consolidation in India
in the private sector banks and the mergers have happened not only between the
weak and the healthy banks but also, of late, between healthy and well-functioning
banks as well. The RBI has been supportive of the initiatives for consolidation
and there have been no cases so far where the approval for merger of banks was
denied by the RBI, since the proposals conformed to the requirements and guidelines
of the RBI.
In the case of the urban cooperative banks,
notable degree of consolidation has taken place over the years with a good number
of weak UCBs getting weeded out from the system, through mergers and amalgamations.
In
the case of the RRBs, their number has reduced to less than half of their original
number and the existing RRBs are in much better financial health.
What
is noteworthy is that the consolidation in the UCB and the RRB sector has been
achieved through innovative ways devised, within the existing statutory framework
and without waiting for any legislative amendments to come about.
The
DFIs have been largely phased out in an orderly manner with only a few refinancing
institutions left now.
The NBFCs sector too has witnessed
a fair degree of consolidation with a sharp reduction in the number of deposit-taking
NBFCs, with their aggregate deposits amounting to not a significant proportion
of the total deposits of the banking system, and hence, not a source of systemic
risk. However, RNBCs will have to quickly gear up to a change in their business
model.
Though consolidation in the public sector banking
segment, which accounts for about 75 per cent of the assets of the banking system,
is still a work in progress, there are enabling legal provisions for the purpose
in the respective statutes of the public sector banks. The RBI, as the regulator
and supervisor of the banking system, would continue to play a supportive role
in the task of banking consolidation based on commercial considerations, with
a view to further strengthening the Indian financial sector and support growth
while securing the stability of the system.
Thank you.
Annex-
I
List of Indian commercial banks merged since January
1990 under the provisions of the Banking Regulation Act 1949