'We all are beginning to feel the stress of growth'

Eight top bankers and the financial sector met at The Business Standard round table to discuss the topic "Can the banking system support India's growth?" The round table was organised on November 1 in Mumbai.

Vinod Rai, secretary, financial sector, Government of India, India; OP Bhatt, chairman, State Bank of India; KV Kamath, MD and CEO, ICICI Bank; Sanjay Nayar, CEO, Citigroup, India; Naina Lal Kidwai, country head, HSBC India; VP Shetty, chairman, IDBI; MBN Rao, CMD, Canara Bank; AK Khandelwal, CMD, Bank of Baroda; and M Balachandran, CMD, Bank of India, brainstormed the issue for two hours. The discussion was moderated by Business Standard's Tamal Bandyopadhyay. Excerpts:

Tamal Bandyopadhyay: Welcome to India's biggest banking event. India Inc's capital expenditure has been growing phenomenally "� from Rs 38,000 crore in 2002 to Rs 1.1 lakh crore last year. Over the next five years, listed Indian companies plan to invest Rs 9.5 lakh crore. Can the banking system support this demand? Bank credit has been growing at about 30 per cent every year but the Reserve Bank of India wants to rein in this growth as there are signs of overheating in certain pockets. Against this backdrop, we will hear CEOs of the country's top eight banks, accounting for over 55 per cent of the total banking assets, and a representative from the government which owns 75 per cent of the industry.

Vinod Rai: To the best of its ability, the government is trying to support the banking system to sustain the growth story. We are proactive. You must appreciate the fact that the thought processes or philosophies in the government are not homogeneous. We need to carry market players, legislators, regulators, clients and everybody else along with us.

Regulators worldwide are conservative because they play the role of an umpire. They need to keep an eye on all institutions and ensure that all micro elements are in place to achieve the goal. Despite that, the regulator has also been, to the extent possible, proactive.

The banking and financial institutions should gear themselves up and bring in operational efficiency. On our part, we have to ensure that we have the capital. The RBI, in its credit policy, has opened the global window for banks by allowing them higher overseas borrowing...

Bandyopadhyay: The government is ready to extend all support to keep growth momentum. Let's hear the bankers.

MBN Rao: The GDP is growing at around 8 per cent but the credit-GDP ratio is about 45 per cent compared with 107 per cent in Korea, 126 per cent in Taiwan and much more in China. We need to increase the credit flow. But theconstraint is resources. Last year the incremental credit deposit ratio was 100 per cent. This year the incremental CD ratio has been 95 per cent and surplus liquidity of about Rs 2,07,000 crore by way of excess statutory liquidity ratio has come down to Rs 1,23,000 crore. All these indicate that there is demand for credit offtake but we must find ways to raise resources.

The currency with public is growing by about 17 per cent. There is definitely a scope for higher intermediation. We must also explore foreign resources by way of three channels "� equity, debt and deposits. Our intermediation cost will come down if we are able to attract foreign funds.

M Balachandran: In the '70s it was a question of reaching out in social banking; in the '80s it was consolidation and in the '90s it was an era of growth with reforms... If the growth has to be sustained, we need to look into all the segments of the economy "� manufacturing, services, agriculture...

There are areas of concerns like long-term resources. This is going to be a big challenge. Indians are traditionally known as savers and we have reasons to hope that the deposit accretion in the banking industry will continue but the importance will be on asset-liability profile.

The other issues are skill and technology. Equally important is the risk management of corporations with whom we deal. Then, we need to reach out to rural areas for financial inclusion. Finally, we must have the scale.

Sanjay Nayar: I don't think things are going to be automatic. We are all growing and in our typical way and we can always say that India will keep growing and everything is fine. The biggest problem will come from the supply side. Look at the credit policy. There is a clear signal that the demand side is picking up but the supply side is constrained. We cannot look to the regulator all the time and say, please increase money supply.

It is an under-penetrated market. The infrastructure sector alone needs about $180 billion funding in the next three years and the current asset base of the banking industry is just $350 million. To match this, we need long-term funds. In the absence of a robust loan syndication market and corporate bond market, the onus falls on banks.

I am pretty sure that we are not at all equipped to fund this kind of growth and have the right asset-liability matching to be able to fund infrastructure. Let us forget about government borrowing, retail under-penetration and all other demands of the banking sector. Infrastructure alone gives you a very telling story of how inadequate is our size.

Then look at the fragmentation of the whole sector. It is probably the second most fragmented market after Turkey, which is going to consolidate. We have 88 banks and we need to get the consolidation process going as we do not have the economies of scale. The fragmentation of the sector leads to some very concurrent problems which are not evident but at least I feel that we are beginning to see inadequacy of even the labour supply. We all are beginning to feel the stress of growth. There are huge issues on skill sets and employee turnover.

We have always taken an attitude that India is going to happen. I'm sure it will happen but it is time that we move on from this "things will happen" approach to a more concerted approach and have conviction in the interplay of policy regulator and structural changes. The 20th largest bank in China probably has more market capitalisation than the entire banking industry in India. I will stop at that. I thought somebody had to be controversial.

AK Khandelwal: There is absolutely no doubt that the banks in India would certainly participate in the growth story, but let us get down to certain basics. Today skill sets are moving even at senior levels from public sector banks to other banks. We have to create skill sets and possibly go for alliances with other banks and look at this sector a little more carefully.

There has to be a collaborative approach between banks, government, regulator on infrastructure financing. As such infrastructure projects are quite risky in terms of completion and deadlines and, therefore, the banks run additional risks of timely completion of these. There are three kinds of risks "� interest rate risk, liquidity risk and asset liability mismatches.

How do we go about this? The RH Patil Committee has already raised the issue of long-term funds. That is the key problem. I have requested the RBI governor to set up a study group on how to tackle this problem.

Naina Lal Kidwai: We need to make a dramatic change in the way we are dealing with banks and banks' relationship with corporates to ensure that the growth momentum can continue. The formal financial institutions attract only half of India's household savings... We have got about $200 billion tied up in gold and we don't have products like gold deposits which can attract that saving. The same financial institutions allocate more than half of the capital that they attract to the least productive areas like the state-owned enterprises, agriculture and unorganised sectors. This means that only 43 per cent of the commercial credit is going to our most productive growth areas.

We have an issue in terms of how we raise capital and allocate it. We have great banks, many of which are present here, but we still have an issue in terms of the robustness of the sector. Among the top 10 banks in the world, there are two Chinese banks but there isn't even a single Indian bank among the top 50. We have a fast growing economy and the companies are truly becoming global but there is no global bank.

We have a vibrant equity capital market but we don't have a vibrant corporate bond market. If we don't tackle that, the small lender will get squeezed out because the large lenders will depend on the banking system The inter-relationship between the markets and the access to funds is another critical area which I believe will need to be addressed. Finally, we still have an archaic payment technologies. We do need to ensure that all of us work on the same technology platform which enables quick and easy systems across the board. We could, in fact, be looking at some base technology platforms which will enable us to consolidate.

VP Shetty: There are problems of capital, consolidation, long-term debt requirement, skill sets and the best practices. The banking system has grown five-fold in terms of total business over the last few years. The baseline growth of 7 to 9 per cent in the next five years naturally calls for huge investments. It also calls for huge amount of savings to be channeled. I am sure that the banking system can meet these challenges.

KV Kamath: We had similar constraints in 1996 in an environment which was much more gloomy when Indian industry was rapidly going downhill. We recognised the need for infrastructure and wondered where this money was going to come from. Our ability to borrow then was not probably what it is today. The banks were not as prepared in terms of meeting opportunities as they are today.

I start with the proposition that yes, we can meet the challenge. That India is going to grow at 10 per cent to me is given. That it will grow for the next 10 years is also given.

Six years back we could pose the same question to the manufacturing industry: Can it sustain the growth? It was collapsing then and now the Indian manufacturing industry is a global force. The firms are hugely competitive and they have done it the hard way. They have literally cleaned up the shop floor and re-geared themselves up, improved productivity and efficiency, cut costs, done everything that needed to be done absolutely well. In the last four years, corporate India's growth was in the 20-30 per cent range. This is what is creating a spur in terms of what banks need to respond in this context.

There are two challenges. One is the corporate challenge. The second and the bigger challenge is banking the unbanked 600 million people in India who really don't have access to banking.

Resources will always be constraint in a growing economy of our size. But given the fact that there is a strong global interest in India, we can blend domestic and global access. Our corporations have had a free access to both global capital "� equity as well as global debt. We need to get this sort of access to banks so that they can manage their balance sheet better. We need to shore up the capital.

The next challenge is increasing the operational and technology efficiency. The government or the RBI cannot do anything about this. We have to do this. I entirely agree with Naina when she says that this is probably the right time to have technology consolidation. This is an area where the majority shareholder, the Government, could actually talk to its wards. Consolidation has to happen and this is unavoidable even though we will move at our own pace. If we have diverse technology platforms then the process will be pushed back by another five years.

We are not going to solve the problem by saying that we have a skill sets problem. We have developed online training material and we could create a large pool of human capital. A small step has been taken by us and I am sure other banks will take similar steps. The other challenge is creating reach and distribution to reach the unbanked. The solutions that are required here are completely different from what we have in urban India. It has to be a partnership model.

Some elements required for the growth are in place and others are being built. We need to grow in an inclusive manner and it is not an impossible challenge. I just want to remind myself that six years back we thought growing a retail market was impossible. Indeed, every bank has now taken steps to grow the retail consumer credit market. At this point, inclusive growth for the 600 million unbanked appears to be an impossible challenge. If we take care to scale ourselves properly, get the right technology, the right people and then talk to the decision makers to create a hybrid model of partnership which can reach out to this mass, I think we will succeed.

Bandyopadhyay: Thanks Kamath for providing some of the answers to the questions raised and admitting that the onus is on the bankers and not the government or the RBI.

OP Bhatt: Post-independence, the public sector banking industry always rose to the challenges meeting the needs of agriculture, small industries, big corporates and so on. The Indian growth story is there to stay for the next 20 years and banks will be supporting it. Definitely there are issues and concerns. Our exports are growing at about 24 per cent but our ports are not growing at that rate. In three to four years, foreign trade will double but will the capacity of ports to handle this growth double? No. So the growth in infrastructure is not keeping with the pace of the growth of the economy. We will require huge money. Kidwai mentioned about $ 200 billion worth of gold lying under mattresses and in lockers and there should be a way of getting it out. Some banks are already working on how to get it out.

About 800 to 900 tonnes of gold is imported every year. About 500 tonnes are imported through the regular banking channels. About 200 tonnes of gold is recycled and about 150 tonnes of retail gold coins are sold in this country. All these worth about Rs 100,000 crore. We talk about a similar amount for investment in infrastructure being spread over the next five to ten years. Gold is just one example which can unlock funds. Look at the rate at which land is being sold in Delhi. DLF bought land at Rs 250 crore a hectare. If you were to just sell 100 hectares or 1000 hectares of land, you get Rs 25,000 crore. So there are tonnes of money and resource is not a constraint.

The other major issue is technology. The industry is fragmented and technology is even more fragmented. What is worse is that the same bank is using umpteen kinds of technology. We may have about 200 vendors in SBI!

Financial inclusion is another big issue. How do we reach out to thousands of villages not necessarily to take money from people in the form of deposits but to lend money to them? The current brick and mortar system is too expensive. So, we must have the right technology to reach out to the masses.

Another major issue, specially in the public sector banks, is people. We don't have enough people to man the banking activities. The issue will grow bigger in the next 10 years.

Bandyopadhyay: I wonder whether any other CEO has the guts to admit that his bank has 200 technology vendors! A lot of questions have been raised. Let's look for some answers. The most important issue seems to be the resources. On the Indian banking turf, the next round of battle will be fought for gathering deposits and not disbursing loans. How do you go about it?

Balachandran: There are people who have got enough money but don't keep their money in banks. They go for gold and other investments. To get them into the banking fold, there has to be an appropriate kind of pricing of deposits.

Then there are 600 million people still outside the banking purview. Today they may seem to be economically weak but over a period of time, given the opportunities, they will become savers and I firmly believe that this is a vast reservoir for banking resources.

With appropriate access and pricing we shall be able to mobilise the resources that we need. All other factors can then be subsequently managed.

Bandyopadhyay: The key is pricing. In the mad scramble for funds, banks are offering 8 to 10 per cent interest for one-year deposits. The loan prices will have to go up.

Rao: We need to include the unbanked but they are not going to provide resources in the future. On the other hand, they need to be provided with resources. We would need external capital by way of equity, debt and deposits. I feel India should be made an international banking centre so that more funds would come and get parked here.

Khandelwal: At some point of time, deregulation of saving bank interest could also help move more money into the banking system even though freeing it may not be in the best interest of the public sector banks at this point of time.

We must look at deepening the corporate bond market. Corporate bonds should be allowed repo facility and this will infuse liquidity in the system.

Nayar: The big question is how do we garner long-term resources? I agree that routes for capital "� both debt and equity "� have opened up. A lot more can be opened up, not to mention the foreign direct investment route. That is something which is probably out of favour right now. The portfolio fabric can be opened up further and the FDI can automatically bring in long-term resources. I would like to draw Rai's attention to the fact that there is a complete tax and fiscal idiosyncrasy between bank deposits and mutual funds. A lot of money goes towards the capital market and all kinds of mutual funds and it is only after five years that we get tax breaks on bank deposits. Policies, regulators and structural reforms have to move together if we want to increase the deposit base of the banking system.

Kidwai: I certainly don't see an issue in terms of fund raising by banks as ICICI Bank has blazed a trail. Banks can go out and borrow overseas as well as within India. But before that happens, it would be important for at least the PSU banks to have some measures which help in terms of their price earning multiples increase because it would be a pity if funds were raised a level they are currently trading at. There are issues in the regulatory framework which should be amended to unlock the true value of these banks. They will raise money abroad but let us make sure that they raise it at the best price.

We must take a look at structures of saving instruments. If we are to increase deposit rates, we have to be more efficient. There is no way that we can increase deposit rates and survive unless we are efficient.

Shetty: It is not only the domestic savings but also the increased foreign savings that can come to our rescue.

There has been a lot of investment by the Indian multinationals but all this has not been financed by Indian banks as the companies used their own resources.

Bhatt: They say that there are more US dollars outside America under the Russian mattress. Similarly, in India the amount of money lying in the rural hinterland outside banking system is enormous. We need to reach out to them. The question is of reducing the transaction cost by improving the delivery mechanism and technology.

I don't know whether there can be a perpetual amnesty for the people who have unaccounted money. This could be as large as 25-30 per cent of our economy. People could be allowed to walk in at any time and declare (money) under the scheme. The proposal is worth examining.

The interest rates that we pay on most deposits, particularly for savings bank accounts, is not very much. One way to entice people could be linking it with some kind of a prize money or gift or even lottery. It could be for the non-resident Indians as well as domestic citizens. The cost may go up from 3.5 per cent to 3.7 per cent but we will get huge deposits. I don't know whether this is an acceptable suggestion.

Bandyopadhyay: Any other taker for the gift idea?

Kamath: Allocation of money in the saving basket is not appropriate because of the tax issues. This needs to be addressed. Overall, resources are not a problem. The real problem is building the scale. We are not taking enough steps to build the scale and to me this is the biggest challenge.

Bandyopadhyay: The buck stops at Rai. Let's hear him.

Rai: If I were to comment on raising resources, my personal wealth would have crossed the poverty line by now. Yes, there are tax issues and regulatory issues. Let's see if we can whip the horse on those issues.

Converting gold into bank deposits is a challenge and we need to address that. Kamath talked about unbanked 600 million people and if we could reach even half of them to garner their deposits, we will garner a substantial amount. We must look at the issue of aggressive use of our overseas branches to mop up deposits.

We wanted to set up pension funds and we haven't been able to do that as yet. But from January 2004 pension of new central government employees "� based on their contribution "� is being deposited by the Government of India and certain amount of interest is being paid. The banks can be innovative and come out with ideas to tap that funds. A sizable amount of money will go into your coffers. If you come up with innovative instruments, the government will certainly look into it.

Bandyopadhyay: You may have enough resources but still may not be able to lend if you don't have the capital. Rai, should the government bring down its stake in the PSU banks and help them raising capital?

Rai: I don't have a straight answer. Even if it were to be brought down, that would be the most expensive equity. Is it worthwhile? The RBI has allowed banks to go for hybrid capital. Must it only be by drawing down equity of the government? And if so, is equity the most efficient way of raising capital?

Bhatt: Capital is certainly an issue. One of the suggestions on the table is whether it is possible to issue differential voting shares which would protect the government's voting rights and at the same time release more capital. In differential voting shares, 10 or even 100 shares could have one vote while the economic value of the share would be the same as that of the regular share probably with a minor discount. Retail investors, who are not looking for management control but wanting to participate in the Indian growth story, will invest in theses shares. This could be a way out.

Shetty: The estimated GDP is about Rs 32 lakh crore and taking into account 9 per cent growth rate, over the next five years, it would grow by over Rs 17 lakh crore. If the banks are to finance 50 per cent of this, we will certainly need more capital.

Nayar: What about capital relief instruments? We used to have securitisation quite active till about a year ago. Some circulars released in October last year have put a complete halt on securitisation.

Rao: We need to follow the US model where direct financial intermediation is much lower than in India.

Balachandran: There was a mention about leveraging the presence of branches abroad. We are finding interest in Indian banks abroad. May be the RBI should think in terms of Tier-III capital and preference shares. The securitisation norms also need to be relaxed. All these will ultimately help augmenting the capital.

Khandelwal: When we meet the FIIs, they are always talking of our ratios like return on assets and return on equities... If we want to improve them, we need reforms in public in the areas of capital, consolidation and compensation. Scale is very important and the smaller banks will have serious problems of capital compared to the large banks.

Kidwai: Smaller banks will find it difficult in accessing international capital. Once the Basel-II norms are in place, there will be pressure on every bank not just for growth but for complying with what is required in the international world. We have to make sure that the capital is raised efficiently. It all depends on how the government handles the issue, how it relates to these public sector banks and how these banks market themselves. Securitisation gives immediate liquidity and relief. It is actually a crying need today.

Kamath: The banking system is growing at 20-25 per cent and it will need capital with a mix of equity and hybrid instruments. The Chinese banks are an example. They were in a mess three years back and nobody was touching them with a barge pole but today they are coming with such valuations that people are falling over each other to subscribe to their capital. Our banking system is one of the cleanest in the world and there should be no problem in raising capital.

Bandyopadhyay: Khandelwal spoke about three 'Cs' "� capital, consolidation and compensation. There is no time to talk about compensation but we can certainly talk about consolidation as without the scale the banking sector cannot support the growth story.

Kamath: Indeed we are ready for consolidation. A fragmented industry will find it difficult to survive. The smaller guys need to look at the consolidation exercise and if the industry is not doing it on its own, a gentle push will be needed.

We talked about intermediation costs. Not that we are inefficient but we are operating with such small ticket sizes that any cost that we incur look exorbitant compared to the ticket size. As the market gets more competitive, it will create scale by consolidating. Otherwise, we will unnecessarily expose our banks to risks.

Bandyopadhyay: Two years back Bank of India tried to tie the knot with Union Bank. Balachandran can tell us more on this....

Balachandran: Without taking cognizance of your statement, all that I have to say is yes, scaling up of operations organically and inorganically is very important and we must think in terms of consolidation. It could be between banks in India or even with an overseas player. But there are definite issues that need to be looked into in terms of synergy, technology and HR. I think people are getting conditioned and now they are trying to accept it as a matter of fact and going forward.

Khandelwal: If one plus one is equal to two then consolidation is not necessary. It has to be two plus two equal to five. Some bold decisions are required in terms of manpower and branches of PSU banks. For too long we have been shying away from discussing about the rural branches which are in losses for the last 20 to 25 years. Can you swap or sell them without disturbing the financial inclusion aspect?

Rao: If a bank gets more than 10 per cent market share through consolidation, that will raise regulatory issues on monopoly. In America, for example, no single bank can have a market share of more than 10 per cent. If the limit is crossed, the anti-trust law comes into force. We need to see that banks are more viable and more efficient and at the same time there is enough of coverage, specially when you are talking of financial inclusion.

Shetty: Consolidation can be based on three specific criteria "� regulatory prescription, a voluntary action and the owner's decision.

Nayar: Voluntary or market-driven, the consolidation process has got to move along. Along with it, we need some other reforms. As far as we are concerned, 2009 is just a date when the RBI may open up the sector. I don't think we are holding our plans to that. We are committed to growing organically.

Kidwai: I just want to highlight that a bank like ours, which just 25 years or 30 years ago was the size of the State Bank of India. Today, it is one of the largest banks in the world in terms of assets. It has grown through consolidation. If we want to see Indian banks among the top 10 in the world, this is the only way to go. With consolidation will come all the efficiencies that we have been talking about "� whether in technology or in delivery. It is an absolute requirement.

There are lots of brides and grooms but no deals. As a student of M&A, I also believe that a small deal takes as much energy and time as a large one. We need to think big and act big. We need to address all the processes that are part of consolidation like people and technology. No work has been done on this score. So 2009 is still a pipe dream for the country, let alone for any single entity.

Bhatt: All of us know what it takes to do consolidation in terms of HR, technology and ownership issues. In the State Bank, our task is cut out. If the amendments to the SBI Act goes through, possibly we can look to merging some of our associate banks with State Bank. There has been a lot of talk about nudging from the top to get the consolidation done. I think we need from outside a push and a shock to get it done. We have to catch the bull by the horns; 2009 is knocking at the doors we cannot really wait.

Bandyopadhyay: Let's have the last word from Rai. The Left parties are watching. Can you talk?

Rai: Of course I can talk and it's up to you to see how much sense it makes. We have a fragmented banking industry and we need scale. Consolidation is happening among small private banks. The government is not opposing consolidation in the public sector banking industry. We need efficient match-makers who can persuade the groom and the bride. Once you decide on a merger, the government will extend all support it but it will not be a top down process.

Bandyopadhyay: This brings us to the end of a very stimulating discussion. All the bankers present here firmly believe that the banking system can definitely support the growth even though there are issues ranging from HR, technology and skill to resources, capital and consolidation. The CEOs are all for consolidation to build the scale. On behalf of the government Rai has given the assurance that it will support the consolidation drive.

Nayar: Tamal, You have not summarised one thing: All of us here said that it was the right time to initiate the change. The operative word is to get going.

Bandyopadhyay: Thank you all.

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ON RESOURCES

M BALACHANDRAN: There are 600 million people still outside the banking purview. Given the opportunities they will become savers. This is a vast reservoir for resources

MBN RAO: India should be made an international banking centre so that more funds would come and get parked here

AK KHANDELWAL: At some point of time deregulation of saving bank interest could also help move more money into the banking system

SANJAY NAYAR: The portfolio fabric can be opened up further and the FDI can automatically bring in long-term resources

NAINA LAL KIDWAI: Banks will raise money abroad but let us make sure that they raise it at the best price

OP BHATT: I don't know whether there can be a perpetual amnesty for the people who have unaccounted money

K V KAMATH: Allocation of money in the saving basket is not appropriate because of the tax issues

VINOD RAI: Yes, there are tax issues and regulatory issues. Let's see if we can whip the horse on those issues... Converting gold into bank deposits is a challenge and we need to address that

ON CONSOLIDATION

K V KAMATH: The smaller guys need to look at the consolidation exercise and if the industry is not doing it on its own, a gentle push will be needed

M B N Rao: If a bank gets more than 10 per cent market share through consolidation, that will create monopoly

V P Shetty: Consolidation can be based on three specific criteria -- regulatory prescription, a voluntary action and the owner's decision

Sanjay Nayar: As far as we are concerned, 2009 is just a date when RBI may open up the sector. I don't think we are holding our plans to that

Naina Lal Kidwai: A small deal takes as much energy and time as a large one. We need to think big and act big... 2009 is still a pipe dream

OP Bhatt: If the amendments to the SBI Act goes through, we can look to merging some of our associate banks with State Bank. We have to catch the bull by the horns; 2009 is knocking at the doors

Vinod Rai: Once you decide on a merger, the government will support it but it will not be top down process

ON CAPITAL

Vinod Rai: Even if the government stake in banks were to be brought down, that would be the most expensive equity... Is equity the most efficient way of raising capital?

OP Bhatt: Is it possible to issue differential voting shares which would protect the government's voting rights and at the same time release more capital?

Sanjay Nayar: What about capital relief instruments? We used to have securitisation quite active till about a year ago

Naina Lal Kidwai: Securitisation gives immediate liquidity and relief. It is actually a crying need today

Kamath: Our banking system is one of the cleanest in the world and there should be no problem in raising capital