Why Privatisation without Checks and Balances will Ruin Public Sector Banks
The current crisis in the Indian banking sector has led to calls for privatisation of public sector banks (PSB). However, the private sector is no paragon of great virtue. Moreover, the faithful advocates of privatization are ill-informed of the real issues. The huge crowds that throng PSBs and put up with various inconveniences indicate the enormous faith that the public has in these banks. The challenge today does not involve providing ultra-sophisticated banking to the 10% upper crust. Instead, the true challenge is to provide basic financial services to India’s 90%, who may not be the source of great revenue to banks. Did you know that almost all government pensioners bank exclusively with public banks.
 
We should never forget the role PSBs have played in financial inclusion. These banks have been the backbone of socio-economic agenda for the government. In any particular rural area, the role of a PSB is not confined only to banking. It also encompasses a more holistic developmental agenda. PSBs are the one-stop shop for all financial needs of the local rural populace, including insurance, financial literacy, remittance and receipt of welfare subsidies and grants, amongst others.
 
The government’s socio-economic programmes have to use the banking conduit for movement of funds. Those who talk of privatisation should visit the remote branches of public banks, where managers live at great risk to personal lives, and are mentoring the local population, not just in financial literacy, but, also technical, business and agricultural literacy.
 
It was public banks that revolutionised rural India in the social banking era of the 1970s. The expansion of bank branches in rural areas was particularly noteworthy.
 
The figure rose from 8,261 in the year 1969 to a whopping 65,521 in the year 2000. The share of households accessing institutional credit rose from 32% to 61.2% between 1971 and 1981.
 
It was this emphasis on those excluded from the formal financial stream that led to a slew of measures in the field of finance, and drove so many bankers into the arena of the battle against poverty. It is tragic that even as the country is grappling with massive problems confronting its struggling masses, the ignoble billionaires now have regular rides to the public trough.
 
Politicians are equally guilty of undermining the integrity of banks. They stacked the decks with populist sops using banks as spigots for burnishing their election credentials. This was apart from the huge loans they have forced banks to shovel to their buddies. In India, the proportion of dodgy loans, involving the borrower not making interest payments or repaying any principal, has surged to the highest level among the world’s largest economies. The question is—why should ordinary people bear the burden of the fat cats? These free loaders are gleefully and remorselessly winnowing scarce bank capital. The government has to goose these banks with spruced up balanced sheets to make them lend again. Ironically, instead of being chastised, they are lauded as captains of the industry and adorn glorious positions in industry associations.
 
India’s pile of soured loans, whose value degrades like an unstable isotope, is a classic example of how powerful and politically influential tycoons undermine the rules to secure credit and then default on it. The huge losses posted by banks and the desperate attempts by government to detoxify balance sheets show how difficult it is for the rescue plans to deliver.  When borrowers become insolvent, their loans are added to an existing mountain of debt. Each time it happens, banks have to make heavy write-downs, ploughing the dud loans like rotten potatoes, ultimately choking the credit line. To keep these banks going, the government has to regularly keep injecting capital into them.
 
Most big defaulters have the money to employ legal experts who can play the judicial system—it is here where the law flounders. India has some of the most draconian laws in books, which are ineffective against powerful dodgers. We keep producing new laws when the existing ones are adequate and just need more teeth to obtain results. We show such promptness in condemning waivers for poor farmers, but, we lack the courage to tame the big fishes because they have enormous clout.
 
Banks are known to become aggressive in turning mortgage defaulters to the streets. Scores of indebted farmers are tying the noose out of sheer humiliation. Then there is a class of salaried people who rarely default, but, are chased down for their small unpaid debts. The bankers seem to be totally helpless when it comes to malfeasant promoters of big businesses. Scammers and swindlers have outfoxed the system. The bank’s safeguard systems are buttressed by state institutions, such as regulators, bankruptcy procedures and courts. But what finally underpins the security of the whole ecosystem is trust. The Reserve Bank of India (RBI) now no longer appears to be the financial seer that was lionised for insulating the domestic economy from the financial turmoil of 2008. 
 
Scams are a product of greed and immorality. However, abuse of the financial system has been made possible because of the system’s weaknesses. In an age, which heralds technology as the silver bullet, we should not overlook the most important source of competitive advantage—the people. Compliance and controls are dependent on people running it. A process is only as good as the people managing it. The most agile auditors will also have to struggle to stop managers, who are determined to hide their dirty laundry from view.
 
The reason for protecting the borrower against the creditor is that the much-reviled moneylender looms large in our collective psyche. The scenario now is totally different. Big borrowers are not like helpless farmers and the lender today is not the cruel sahukar but, the public bank. When these large businessmen default, they rob each one of us taxpayers. In several cases, precious and scarce bank funds are being used to finance the opulent lifestyles of the rich.
 
The turmoil has prompted calls for improvising risk management models, which seem to have created an illusory sense of security. However, models and machines cannot act as a surrogate for human expertise. Money management is no more a genteel world. Bankers will now have to bring in hard-boiled traders’ instincts to make it safe and secure. In a prophetic warning, way back in 1913, John Maynard Keynes wrote in Indian Currency and Finance: “In a country so dangerous for banking as India, (it) should be conducted on the safest possible principles”. Our departure from the time-honoured metrics has come at a heavy cost.
 
The Indian financial sector is at crossroads now, and its leaders will now have to use their financial alchemy to overcome its most challenging moment. Perhaps, it is one of those occasions where Rudyard Kipling’s advice can be the best guide: “If you can trust yourself when all men doubt you, but make allowance for their doubting too.”
 
It will not be out of place to quote the former RBI governor Raghuram Rajan, from his Homer Jones Memorial Lecture, delivered at the Federal Reserve Bank of St. Louis, St. Louis, Missouri on April 15, 2009. “A crisis offers us a rare window of opportunity to implement reforms-it is a terrible thing to waste. The temptation will be to overregulate, as we have done in the past. This creates its own perverse dynamic… Perhaps rather than swinging maniacally between too much and too little regulation, it would be better to think of cycle-proof regulation. ”
 
(Moin Qazi holds PhDs in Economics and English. He has been associated with the development sector for almost four decades. He can be reached at [email protected])
 
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    COMMENTS

    Pradeep Kumar M Sreedharan

    3 years ago

    Buggering the banks isn't an accidental result, it's the original intention.
    Intention is privatisation,none else. How else can you clamour for privatisation?
    Simple, isn't it?
    How else can you pick up PSB and their Prime Quality real estate for peanuts.?
    What is more beautiful than looting the PSB and scooting and route the same money to buy out the PSB. Ha ha ha ha!
    Elementary dear Watson, elementary ha ha!

    Abhijit Gosavi

    3 years ago

    I agree with this article 100%. Private banks *anywhere* are full of crooks. If all the banks are privatized, the Indian govt will be looking at a dangerous situation where it will have to bail out pvt banks from time to time for pvt banks will crash regularly. Keeping track of the activities of pvt banks is never easy *anywhere.* In 2007-2008, when banks in the West collapsed, FDIC did not have the money to bail them out; it is for that reason the govt had to intervene. So a hybrid model where govt allows the poor and senior citizens to have accounts in govt banks for small amounts (up to 50 lakhs say) and provide a govt.-backed insurance for larger deposits (up to 1 crore) in pvt banks seems like the only viable solution.

    Gupta

    3 years ago

    I like the words "will Ruin Public sector banks".... hahaha.. what a joke! Is there anything left to be ruined? Its like saying "kichad ganda ho jayega!".... all these arguments have been made umpteen times to hide the core issue (which is intentionally never mentioned by these smart journalists). The core issue is corruption... loans are given by managers against money. It is silly to assume that these bank employees didn't know that the loan won't be repaid. It was known on day one. The problem is as simple as that - corruption. Yes, it exists in the private sector banks too, but just in 2 banks out of 5-10 private banks. All others are healthy and individually worth more than all public banks put together. But with public sector banks... each and every bank is neck deep or rather beyond head deep in corruption. 100% of them. That is why they should be privatized (if there will be any buyer..... like Air India, no one will want to buy a box of shit, but that's another story).

    As for the oft repeated argument of social objectives, under whose garb this argument of keeping PSBs alive has been ranted for 50 years now.... there are many ways of achieving those goals through private banks... just be commercial and pay them the subsidy that it deserves to provide those services... rather than the typical Indian way of cross subsidizing everything (using banks profitable areas to fund the loss making ones).

    The reason HDFC Bank is worth 550000 crores is because it earns a 4%+ interest spread and that spread is so high because of the high credit losses in the Indian banking system. Interest rates are a function of cost of borrowing + admin costs + credit costs + profits. In India, credit costs over a long term are 2-2.5%, almost 10x higher than most other countries. That's the juice that HDFC earns by keeping its average losses in the 0.5-0.75% range, a clear advantage of 1.5% extra profit v/s its corrupt peers. There is no more rocket science in why it is so much more successful than all others.

    REPLY

    Abhijit Gosavi

    In Reply to Gupta 3 years ago

    Absolutely. But if all banks are privatized and the insurance stays at 1 lakh (or a few lakhs), where it is currently, millions will lose money when these banks will collapse; and they will sooner or later! All pvt banks collapse from time to time, unless there are strong controls on them, and I don't see those kinds of controls working in India. Needless to add, PSBs need to get out of the business of giving huge loans; there I agree with you.

    Gupta

    In Reply to Abhijit Gosavi 3 years ago

    Other than co-operative banks, which are politicians banks, not private banks, Please give just one example of a private bank that failed where people lost even a rupee. Think before you say "all private banks fail from time to time". Ridiculously out of sync with reality. Govt just infused 1.35 lac crore of equity in public sector banks. That is taxpayers money which we are losing. Govt has not put even a penny in private banks. Alas, in this country, people are born blind and brain dead.

    Abhijit Gosavi

    In Reply to Gupta 3 years ago

    Oh, I meant worldwide; not just India. If you look at the history of pvt banks anywhere, they fail from time to time. Most major pvt banks in the West failed in 1929 and then again in 2007-2008. The Glass-Steagall Act enacted in 1933 was dissolved in 1999-2000, and sure enough banks failed in 2007. Pvt banks are full of crooks anywhere. The reason India's large pvt banks have not failed is that they know the govt will NOT bail them out. But they also know that once PSBs disappear, the govt will be forced to bail out them out should they fail (everyone will have their accounts there & the economy will crash). Commonsense. The author of this article is absolutely right in pointing out the dangers of 100% privatization. Like I said before, and there I agree w/ u, PSBs should get out of the business of making huge loans, where, as you rightly pointed out, there is enormous corruption (with politicians involved). The rock-star ex-governor cited here was fully aware of that and, as is well-known now, did nothing.

    Gupta

    In Reply to Abhijit Gosavi 3 years ago

    It's an utterly whimsical idea to believe that banks will work towards failing themselves. Let me assure you no one works to die. Your comments are full of assumptions. By the way, since 1991, one private bank did fail - Global Trust Bank. And govt merged it with OBC leading to 100% for shareholders and zero loss to deposit holders. That's how it should be, though a good regulator would ensure that also doesn't happen and problems are nipped in the bud. That won't happen in India because the regulator is also "public sector"and hence breeds inefficiency. Anyway... I rest my case.... cannot keep arguing against whimsical assumption based comments. All I would say is taxpayers have repeatedly lost money on public sector, whether it is Banking or airline or telecom or fertilizer or hotel. With private sector, that does NOT happen. People are pushed towards efficiency by default in private space. Not giving big loans is not a solution to corruption. There is as much corruption in SME loans as in large ones - they just don't make news.

    Ramesh Poapt

    3 years ago

    ab hosh mein ane pe hai behoshiyon ka gam, jaye to kidhar jaye..
    is raste mandir hai to us raste dharam..( lata.m..chhotisi mulakat)

    Gopalakrishnan T V

    3 years ago

    Some element of competition is a must to make both PSBs and Private sector banks perform No doubt checks and balances are needed on both to ensure that both these groups of banks stick to professionalism in running the banks and make them accountable to public through their healthy and unfudged balance sheets. For this to happen, these banks should be brought under a professional Regulator free from Government interference of any kind. There should never be any bureaucrats in the Regulators Board and banks' boards. Even the Regulator should be made accountable to the Parliament for all the lapses seen in Banks functioning . Parliament should consist of men of eminence and not crinminals who are known looters and for suspicious behaviour . What we need is men of integrity to head and run institutions to take the nation forward and accountable to public. One should be proud of our Judicial system, Governance Standards , adherence to values and prospirity among the masses. Recognising merits in the appointment of men of professional integrity at the helm of affairs of sensitive Institutiutions is the backbone of any Country's progress and as long as nepotism, favouritism and all imaginable corrupt practices are practised ignoring the widely preached values and Dharma in appointing men of doubtful integrity, no other known checks and balances will not and cannnot be of any use. Volumes get written ,intellectuals raed and relish and there ends everything.

    K V RAO

    3 years ago

    An excellent write up.
    It is quite surprising why the celebrated monetary economist J M KEYNES as early as 1913 branded India as a dangerous country for banking . Will the writer or anybody throw light on this point?

    Despite the ominous warning, Indira Gandhi, for her self ambitious goals, nationalised (twice)banks. The outcome, since 1969 and 1980,is staring at all Indians.

    India has proved to be a true political economy.

    SuchindranathAiyerS

    3 years ago

    Anything the Indian State touches with it's corrupt, incompetent, prejudiced (reservations, selective accountability, Neta-Babu greed etc) hands is doomed. Public Sector Banking is just one example. That it lasted so long is the result of cover-up operations and deficit finance. Privatization is the only way forward provided the Sarkar makes good the wealth that it has siphoned from the Banks by omission or commission. But who will the Sarkar return the banks to? Apart from the wealth, the Sarkar has destroyed the individuals, the culture and the traditions that built each Bank. Analogous to the Temples where the Sarkar has marginalized and exterminated the hereditary education and law giving trustees, the Brahmanas to carry out the British design commenced in 1923 so as to loot and pillage for the benefit of the neo aristocracy that the British surrogacy of PANGOLIN*s created.

    *Note: PANGOLIN: An enemy of India who believes in inequality under law, exceptions to the rule of law and persecution of some for the benefit of others. At present, the sole purpose of the Indian Republic, Constitutional or otherwise, is to pamper and provide for certain constitutionally preferred sections of society who the British found useful to hold and exploit India at the cost of those who the British hated and persecuted. The Pangolin is a creature that is unique to India and feeds on ants that are known in nature to be industrious and hard working if not quite as fruitful as bees who flee to better climes. (PANGOLIN is an acronym for the Periyar-Ambedkar-Nehru-Gandhi-Other (alien) Religions-Communist Consensus that usurped the British Mantle and has worn it with elan to loot, plunder, and rape India since 1921 and re write History and laws to their exclusive benefit since 1947)

    REPLY

    K V RAO

    In Reply to SuchindranathAiyerS 3 years ago

    Congrats to Aiyer for his enviable and inimitable style. There could not have been a better explanation of pitiable situation where all Indians have been placed. If possible pl let me know his mobile no.as I know him personally.K V RAO

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