The Global ANALYST: The Indian Banking System: Safe, Secure and Trustworthy

The Global ANALYST, February, 2017
Indian Banking System:
Safe, Secure and Trustworthy*

M G Warrier, Former General Manager, RBI

Indian banking System is robust to meet the current challenges and the depositors’ savings are safe, secure and remunerative, and will remain so, till such time the government becomes greedy and kills the golden goose by exercising falsely assumed ownership rights!


Reserve Bank of India Governor Urjit Patel in his brief and crisp 2017 New Year message to RBI family summed up his perception about the events during 2016 and the tasks ahead asunder:
 “During  the year  gone by, we have  continued  our efforts  at restoring  macroeconomic  stability  in  the economy.  While the policy  actions  have already shown positive effects, nevertheless  they are work in progress and need to be fine-tuned constantly to keep pace with the changing environment. Internally we continue to focus on enhancing specialization within the organization, even while strengthening the performance evaluation system to help identify areas requiring improvement and initiating appropriate skilling interventions. ***   *** It is said that nothing is constant except change and we are in the midst of constantly changing times, throwing new challenges our way every day. I am confident that all of us working  together will rise to the occasion and face these  challenges in a manner befitting the reputation of this esteemed organization. Our recent engagement  with withdrawal of SBNs is a case in point.
While on the subject, let me emphasize that one thing we should all zealously guard is the integrity  and reputation of our organization and any act belittling  the same should deserve zero tolerance from all of us. Needless to add, the Ban has achieved the present level of excellence only due to our collective efforts towards a common goal.”
In his speech at the Vibrant Gujarat Investor Summit on January 11, 2017, RBI Governor, among other things, observed asunder:
“***   *** while some government guarantees and limited subventions can help, steep interest rate subventions and large credit guarantees also impede optimal allocation of financial resources and increases moral hazard. The mandates for these have to be narrow, and thus perforce be deployed judiciously, within a regulatory framework, which RBI has suggested. Guarantees increase government’s contingent liabilities, and add to risk premia for its own borrowing. Guarantees per se at the end of the day have limited utility in solving important sector issues. For example, for small scale enterprises, perhaps non- pecuniary and transaction costs related to clearances, inspections and the taxation bureaucracy are more important *** *** our general government deficit (that is borrowing by the centre and states combined) is, according to IMF data, amongst the highest in the group of G-20 countries. In conjunction, the level of our general government debt as a ratio to GDP is cited by some as coming in the way of a credit rating upgrade. We have to take cognisance of these comparisons and facts as we go forward to make progress. Specifically, this will help us to better manage risks for ourselves, and thereby mitigate financial volatility. In the context of an already adverse external environment that I mentioned earlier, thisassumes more importance.
Borrowing even more and pre-empting resources from future generations by governments cannot be a short cut to long-lasting
higher growth. Instead, structural reforms and reorienting government expenditure towards public infrastructure are key for durable gains on the Indian growth front. ”
Excerpts quoted above are only to draw attention to the short speech (accessible at rbi.org.in) which is a timely warning to policy makers in government against taking adverse long term decisions for short term gains. The takeaways in the RBI Governor’s guidance include:
·        Need to balance interest rate subventions and subsidies with real time benefits vis a vis other options to exhilarate economic growth,
·        Not to look at long term government borrowings as a soft option, and
·        Be mindful of criticism from international agencies so that creditworthiness of the nation is preserved.
Keeping the broad perspectives about the state of the economy and perceptions about the tasks ahead spelt out by Urjit Patel, let us have a look at the present status and future prospects of the Indian Financial Sector.
Monetary Policy
Monetary policy announced by RBI on  December 7, 2016 made the following observations which have a bearing on banking business:
“Liquidity conditions have undergone large shifts in Q3 so far. Surplus conditions in October and early November were overwhelmed  by the impact of the withdrawal of SBNs from November 9. Currency in circulation plunged by 7.4 trillion up to December 2; consequently, net of replacements, deposits surged into the banking system, leading to a massive increase in its excess reserves. The Reserve Bank scaled up its liquidity operations through variable rate reverse repo auctions of a wide range of tenors from overnight to 91 days, absorbing liquidity (net) of 5.2 trillion. The Reserve Bank allowed oil bonds issued by the Government as eligible securities under the LAF. From the fortnight beginning November 26, an incremental CRR of 100 per cent was applied on the increase in net demand and time liabilities (NDTL) between September 16, 2016 and November11, 2016 as a temporary measure to drain excess liquidity from the system. From November 28, liquidity absorption fell back and the Reserve Bank undertook variable rate repo auctions of 3.3 trillion on November 28. As expected, money market conditions tightened thereafter and the weighted average call rate (WACR) traded near the upper bound of the LAF corridor on that day before dropping back to the policy repo rate on November 30. All other rates in the system firmed up in sympathy, with term premia getting restored gradually.
Through this episode, active liquidity management prevented the WACR from falling even to the fixed rate reverse repo rate, the lower bound of the LAF corridor. Liquidity management was bolstered by an increase in the limit on securities under the market stabilization scheme (MSS) from 0.3 trillion to 6 trillion on November 29. There have been three issuances of cash management bills under MSS for 1.4 trillion by December 6, 2016.”
Without further analysis or elaboration, let us take the message that when media and analysts were busy with the blame-game, India’s central bank was doing its best to minimize the pains of demonetization not only to the common man by managing currency within the constraints but also to banking system and the economy in general.

Financial Sector Regulation
The Financial Sector Legislative Reforms Commission(FSLRC) went deep into several issues concerning financial sector regulators and GOI’s debt management, but did not do much work on legislative reforms to improve the functioning of the institutional framework which is the conduit for resources mobilization and deployment of credit (banking business, in general). Thus, the institutional reforms, including licensing of new private sector banks, introduction of small banks and payment banks initiated during the Rajan Era in RBI, did not emanate from the recommendations of  FSLRC.
The changes in the outreach, business pattern and expectations of the government of the day from different categories of financial institutions carrying out banking business during the current decade call for a re-look at the Banking Regulation Act to realign the regulatory requirements and methods of supervision to meet the current needs. Such a review will have to consider every aspect including capital adequacy, regulatory requirements, business priorities and specialization, outreach, HR issues  and supervision of the institutional arrangement for banking in India.
HR issues
The government should not further delay a revamp of the policy relating to recruitment, training, placement and compensation strategies across government, public and private sectors. A long-term solution may  have to be found for HR-related problems, including inability to hire experts at market related compensation (this is applicable up to the position of secretary/CEO in government and public sector), skills becoming obsolete in short periods, employees’ reluctance to change and demands from trade unions emanating from job security concerns. There may not be a “fit-for-all” remedy, as the issues are diverse and sometimes sector/institution-specific.

The government and public sector organizations may have to consider how best the “Cost to Company” (C to C) principles can be integrated into their existing recruitment, training, placement and career progression policies. This may involve convincing the existing employees that the changes will only improve the working results of the government departments and organizations they belong to and they will get opportunity to share the benefits and new job opportunities and so long as they are prepared to learn new things/upgrade their skills the infusion of ‘experts’ will not eat into their career progression opportunities. Inter-mobility of executives at higher levels among comparable departments of government and public and private sector organizations should be possible, on transparent norms and strictly based on merits.
 Changes may have to come first in the recruitment and training procedures for IAS and relates services, management trainees in public/private sector undertakings including probationary officers in public sector banks (PSBs). Recent revamping of Tata Administrative Service gives enough food for thought for thinking on these lines. Specialized services like one for banking/financial sector could be evolved for institutions including those in the private sector and all regulatory bodies in the financial sector.

A transparent guidance for a remuneration package based on the paying capacity/need for skills for different sectors and ensuring social security should come from the government without always worrying about what will be the impact on cabinet secretary’s salary or trade union demands. If the government secretary deserves a higher salary, the government should not raise budgetary concerns for not paying it. Instead, merger of some departments and utilizing the surplus manpower for new job opportunities should be a wiser option.

Time is opportune for both private and public sector organizations to have some introspection on their HR practices right from recruitment at the lowest level to the selection of CEOs, remuneration packages, training facilities and social security measures for their employees. While organizations in the private sector may have to review the optimum pressure they can put on their executives and managers, government and public sector counterparts may dispassionately examine and modify their remuneration packages to ensure attracting and retaining competitive talent in the present market scenario. Let us not forget that the civil services, executives and staff of public/private sector undertakings have to supplement the skills of the increasing number of political masters who were not as fortunate to get trained or groomed. The nation is immensely dependent on them for carrying out the development agenda on hand.

Till, perhaps ten years back, employers could depend on a growing population of educated unemployed from which they could hire and fire candidates on their terms. The position has changed with the opening up of the economy and sooner we realize it and act, the better. Dodging real issues could take us back to pre-reform days.
Silver lining
There are positive indications coming from those responsible for advising GOI in matters relating to overhaul of HR policies in banks. According to media reports, on January 5, 2017, speaking on the occasion of business chamber Assocham’s foundation day in New Delhi, Banks Board Bureau (BBB) chairman Vinod Rai observed that “Maybe we are not able to do much with the fixed part of the compensation package but on the variable part, we are hopeful that in the next financial year, we will be able to introduce a far more attractive package, with monetary or non-monetary benefits, to make it more attractive for professionals to enter into the PSB space.”
Rai admitted that PSBs are facing a talent crunch, and entry of more universal and payment banks are expected to add to this, besides recognizing the need for longer tenure at top level in banks to infuse accountability in the system. Rai felt that executive directors or whole time directors or a CEO should be in position at an age where he has got a minimum of six years or more to go in the institution, so that he can be held accountable for decisions.
Rai can convince the policy makers to take good care of Public Sector Banks at this juncture both from balance sheet and human resources management angles, as they account for more than 70 per cent of the banking business in India and any sign of weakness in their functioning will have long term negative impact on the country’s economic growth.
Cooperatives
Cooperatives across the country had more than their due share of  problems post-demonetization. While primary(urban) cooperative banks  whose functioning is similar to mini-commercial banks are regulated and supervised by RBI, the three/two tier structure of cooperatives comprising State and District Cooperative Banks and thousands of primary cooperative societies have multiple regulatory and supervisory oversight involving RBI, NABARD and Registrar of Cooperative Societies(State Government). There is urgency in finding a solution to a problem that has arisen due to continued neglect of an institutional system which has been serving the semi-urban and rural areas of the country, with all constraints. Re are no alternative conduits to ensure  banking service to their clientele in semi-urban and rural areas. The cooperatives need to survive, and ssues like politicization, inadequate skills or problems arising from the dual control of cooperatives by Centre and states should be set aside by judiciary, governments and cooperatives themselves for a short period. There is need for cooperation among these agencies in solving the immediate problems the clientele of cooperatives are facing today.
Several short-cuts are being tried by state governments and cooperatives which can only lead to more complications. The short-cuts include bypassing DCCBs by state cooperative bank (as in Kerala), diverting the business now being done by cooperatives to other agencies and taking the problems to courts which helps in postponing decision-making. At this stage Centre should assert and empower state level task forces involving RBI, NABARD, banks and state governments to resolve the problems locally in a time bound manner.
Indian Banking System is robust
Since the setting up of Reserve Bank of India in 1935 and introduction of the Banking Regulation Act, 1949 (which was partially made applicable to cooperatives in 1966 through legislation), the institutional system providing banking service in India has grown both in size and geographical coverage. GOI and RBI have ensured that depositors’ money remained safe and remunerative in banks and credit flow is being regulated to ensure provision of adequate funds for development needs and economic growth. While there is always scope for improvement, vigilance of the regulator has ensured timely intervention whenever things went wrong in individual institutions or sectors preventing big bank failures. When smaller banks, many in the primary(urban) bank category faced problems mainly on account of mismanagement, damage was minimized by RBI by encouraging prompt liquidation/merger proceedings. While Indian banks are complying with international norms of capital adequacy and income recognition, a lesser known fact is the high reserve requirements (CRR and SLR) work as a support system for government borrowings and serve as a cushion in adverse situations. In sum, despite all criticism, Indian banking System is robust to meet the current challenges and the depositors’ savings are safe, secure and remunerative, and will remain so,  till such time the government becomes greedy and kills the golden goose by exercising falsely assumed ownership rights!
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*Submitted version of the article


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