PSBs get money while RBI, MoF get away. Again

Even as hundreds of billion rupees of public money are being pumped into the same corrupt and inefficient system to keep it alive, 25% of the people in this country live in abject poverty

The new Chief Economic Advisor (CEA) Krishnamurthy Subramanian said a few days ago that it is important to implement the P J Nayak committee’s recommendations on governance reforms in public sector banks (PSBs). Until these reforms were institutionalised, the risk in the sector would persist, he said. He was being polite. The current Bharatiya Janata Party (BJP)-led government had promised high quality of governance and accountability. After five years of its rule, we can now, emphatically say, that no accountability has been fixed for either past or future misdeeds of bank chairmen, the banking supervision division of the Reserve Bank of India (RBI), or the ever-expanding babudom in the all-powerful Ministry of Finance (MoF). Hence, nothing has been done to break the cycle of corrupt lending, large-scale losses and massive bank recapitalisation. Meanwhile, even as hundreds of billion rupees of public money are being pumped into the same corrupt and inefficient system to keep it alive (and go bankrupt after the next upcycle), 25 per cent of the people in this country live in abject poverty.

Exhibiting candour not seen among the previous CEAs, Mr Subramanian also said: “The Centre has shown the political will to let PSBs run independently without interference in their commercial decisions. But let’s also take a step back to do a reality check. This happened due to a political will but has not been institutionalised yet fully.” Well, any thoughtful person with a sense of history knows that if something isn’t institutionalised, it is of low value. But while he had articulated the right issue, Mr Subramanian has also missed an important point — like many other well-meaning people with an opinion about PSBs. 

PSBs have been done in by three kinds of corruption. Only one of these is political interference at the highest level that led to very large loans given to crooked businessmen (what the prime minister call phone banking). The second is a curious sympathy for bankrupt companies among regulators, the RBI and the MoF, who made regular compromises in the bad loan resolution process. The alphabet soup of RBI schemes, such as CDR, SDR, S4R, CDR2 and 5/25, was designed precisely for continuous evergreening of bad loans. Before you hasten to assert that the bad debt resolution process has been fixed now, remember the many changes being made to the process on the fly — from changing the definition of “prompt corrective action”, to tweaking when banks should mark a loan as a default, to the many exceptions being ordered by the National Company Law Tribunal while implementing the Insolvency and Bankruptcy Code. Then there is the third kind of problem with PSB lending — pervasive corruption from branches to regional offices in sanctioning and writing off a vast number of smaller loans. Lack of political interference by the Modi government with the resolution of bad loan accounts is a big step forward but will not fix the issue. Pumping in more capital will, in fact, perpetuate it. 

The way forward

What can we do about PSBs, when we know that capital alone will not cure their main ills? Let’s look at Mr Subramanian’s suggestion of implementing the Nayak committee (Committee to Review Governance of Boards of Banks in India) report? The committee submitted its report in May 2014, just when Mr Modi assumed power on the back of catchy slogans such as “minimum government and maximum governance” and “the government has no business to be in business”. The Nayak committee spoke to a large number of experts, including successful bankers from both PSBs and private banks (Mr Nayak himself was a rare breed, a former joint secretary in the MoF, who turned into a successful banker as head of Axis Bank). It was widely hailed as one of the finest road maps for the PSB reform. 

The committee went straight to the heart of the problem in PSBs: “Governance difficulties in public sector banks arise from several externally imposed constraints. These include dual regulation, by the finance ministry in addition to the RBI; board constitution; significant and widening compensation differences with private sector banks; external vigilance enforcement through the CVC and CBI…” 

Its solution was obvious: “If the government stake in these banks were to reduce to less than 50 per cent, together with certain other executive measures taken, all these external constraints would disappear. This would be a beneficial trade-off for the government because it would continue to be the dominant shareholder and, without its control in banks diminishing, it would create the conditions for its banks to compete more successfully. It is a fundamental irony that presently the government disadvantages the very banks it has invested in.” 

It is strange that a government that prides itself on boldness, governance, pragmatism and flexibility has continued to avoid taking fundamental steps to fix the PSB mess, like the previous governments. This means under future governments, PSBs (or whatever is left of them) will be riddled with corruption, meddling politicians, crony capitalism, regulatory failure and repeated ‘recapitalisation’. On the other hand, in a rapidly changing world of lending, PSBs with high cost of operations, poor credit appraisal system and poor monitoring of loans will become less and less relevant, and so can do less and less of harm. 

The writer is the editor of www.moneylife.in

Twitter: @Moneylifers