CENTRE FOR NEW AND EMERGING MARKETS

Discussion Paper Series

Number 17

THE INDIAN BANKING INDUSTRY: A COMMENTARY

Sumon Kumar Bhaumik

London Business School
Paramita Mukherjee
ICRA Limited, Calcutta

July 2001

Contact details:
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Abstract:
(YVMRK XLI W XLI -RHMER FEROMRK WIGXSV [MXRIWWIH QSVI VIJSVQW XLER QSWX SXLIV

WIGXSVW SJ XLI -RHMER IGSRSQ] -RXIVIWX VEXIW LEZI FIIR HIVIKYPEXIH ERH IRXV] MRXS XLI

FEROMRK WIGXSV LEW FIIR PMFIVEPM^IH 8LI GEWL VIWIVZI VEXMS ERH XLI WXEXYXSV] PMUYMHMX]

VEXMS EVI EX XLIMV LMWXSVMG PS[W XLIVIF] KVERXMRK XLI FEROW GSRXVSP SZIV E KVIEXIV WLEVI

SJ XLIMV HITSWMX FEWI &EROW EVI RS[ EPPS[IH XS MRZIWX MR LMXLIVXSJSVI GSRXVEFERH

EWWIXW PMOI IUYMX] *YVXLIV RSRMRXIVIWX MRGSQI F] [E] SJ JIIW ERH SJJFEPERGIWLIIX

EGXMZMXMIW MW MRGVIEWMRKP] FIGSQMRK ER MQTSVXERX TEVX SJ FEROWk VIZIRYIW *MREPP] FEROW

VSYXMRIP] XEOI TSWMXMSRW MR XLI QEVOIXW JSV GSQTPI\ MRWXVYQIRXW PMOI HIVMZEXMZIW %X XLI

WEQI XMQI LS[IZIV XLIWI JMRERGMEP MRXIVQIHMEVMIW EVI WYTTSWIH XS QEMRXEMR GETMXEP

EHIUYEG] VEXMS EX XLI WXMTYPEXIH QMRMQYQ PIZIP QEVO EWWIXW XS QEVOIX GPEWWMJ] EWWIXW

XS MHIRXMJ] HSYFXJYP ERH PSWW PSERW ERH QEOI TVSZMWMSRW JSV RSRTIVJSVQMRK EWWIXW

(IWTMXI XLI WTEXI SJ VIJSVQW XLI -RHMER FEROMRK MRHYWXV] GSRXMRYIW XS JEGI WIZIVEP

TVSFPIQW QER] FEROW QSWXP] MR XLI TYFPMG WIGXSV GSRXMRYI XS YRHIVTIVJSVQ MR XIVQW

SJ VIXYVR XS EWWIXW XLI ZSPYQI SJ RSRTIVJSVQMRK EWWIXW GSRXMRYI XS FI EX ER

EPEVQMRKP] LMKL PIZIP ERH XLI MWWYI SJ HITSWMX MRWYVERGI VIQEMRW LSWXEKI XS XLI JEGX

XLEX EFSYX  TIVGIRX SJ XLI HITSWMXW MR XLI GSYRXV] VIQEMR MR XLI GSRXVSP SJ TYFPMG

WIGXSV FEROW 8LI TETIV XEOIW E GPSWI PSSO EX XLI MWWYIW ERH GLEPPIRKIW JEGMRK XLI

-RHMER FEROMRK MRHYWXV] -X GSRGPYHIW XLEX XLI IZSPYXMSR SJ XLI FEROMRK WIGXSV MR -RHME

MW PMOIP] XS XEOI XLI JSVQ SJ IQIVKIRGI SJ YRMZIVWEP SV UYEWMYRMZIVWEP FEROW ERH XLEX

XLIVIJSVI VMWO QEREKIQIRX ERH HIZIPSTQIRX SJ ER ETTVSTVMEXI VIKYPEXSV] W]WXIQ

VIQEMR XLI QEMR GLEPPIRKIW JEGMRK XLI FEROMRK MRHYWXV] MR XLI JSVIWIIEFPI JYXYVI

.)0 'PEWWMJMGEXMSRW + + +

2
Non-Technical Summary
-RHITIRHIRX -RHME MRLIVMXIH E [IEO JMRERGMEP W]WXIQ 'SQQIVGMEP FEROW QSFMPM^IH

LSYWILSPH WEZMRKW XLVSYKL HIQERH ERH XIVQ HITSWMXW ERH HMWFYVWIH GVIHMX TVMQEVMP]

XS PEVKI GSVTSVEXMSRW -RHIIH FIX[IIR XLI ]IEVW  ERH  XLI TVSTSVXMSR SJ

GVIHMX KSMRK XS MRHYWXV] ERH XVEHI MRGVIEWIH JVSQ ER EPVIEH] LMKL  TIVGIRX XS 

TIVGIRX 8LMW MRGVIEWI [EW EX XLI I\TIRWI SJ WSQI GVYGMEP WIKQIRX SJ XLI IGSRSQ] PMOI

EKVMGYPXYVI ERH XLI WQEPP WGEPI MRHYWXVMEP WIGXSV 8LMW PSTWMHIH TEXXIVR SJ GVIHMX

HMWFYVWEP ERH TIVLETW XLI WTEXI SJ FERO JEMPYVIW HYVMRK XLI WM\XMIW JSVGIH XLI

KSZIVRQIRX XS VIWSVX XS REXMSREPM^EXMSR SJ FEROW

8LI QEMR XLVYWX SJ REXMSREPM^EXMSR [EW WSGMEP FEROMRK [MXL XLI WXEXIH SFNIGXMZI SJ

MRGVIEWMRK XLI KISKVETLMGEP GSZIVEKI SJ XLI FEROMRK W]WXIQ ERH I\XIRWMSR SJ GVIHMX XS

XLI TVMSVMX] WIGXSVW 8LMW TLEWI SJ FEROMRK MR -RHME [EW GLEVEGXIVM^IH F] EHQMRMWXIVIH

MRXIVIWX VEXIW ERH XLI KSZIVRQIRX ERHSV 6IWIVZI &ERO SJ -RHME

W 6&- MRXIVZIRXMSR

[MXL VIWTIGX XS GVIHMX HMWFYVWEP *YVXLIV E WMKRMJMGERX TEVX SJ XLI FEROW

HITSWMX FEWI

[EW TVIIQTXIH XS WYTTSVX KSZIVRQIRX I\TIRHMXYVI XLVSYKL WXEXYXSV] QIEWYVIW PMOI XLI

GEWL VIWIVZI VEXMS '66 ERH XLI WXEXYXSV] PMUYMHMX] VEXMS 706 8LIVI MW PMXXPI HSYFX

EFSYX XLI JEGX XLEX XLI X[MR SFNIGXMZIW SJ REXMSREPM^EXMSR LEH FIIR QIX F] XLI PEWX

HIGEHI SJ XLI X[IRXMIXL GIRXYV] 8LI RYQFIV SJ FVERGLIW SJ XLI REXMSREPM^IH FEROW

MRGVIEWIH F]  FIX[IIR  ERH  ERH XLI IQIVKIRGI SJ E PEVKI RYQFIV SJ

VYVEP FVERGLIW LIPTIH [MHIR XLI HIPMZIV] TSMRXW JSV VYVEP GVIHMX

,S[IZIV HIWTMXI XLI WYGGIWWIW SJ FERO REXMSREPM^EXMSR MR -RHME XLI FEROMRK WIGXSV

VIQEMRIH QMVIH MR TVSFPIQW ERH [EW MRGSQTEXMFPI [MXL XLI TEVEHMKQ SJ XLI QEVOIX

IGSRSQ] [LMGL [EW KVEHYEPP] IQIVKMRK EW XLI HSQMRERX IGSRSQMG TEVEHMKQ

[SVPH[MHI %W PEXI EW  XLI MRXIVIWX VEXIW [IVI WXMPP FIMRK JM\IH F] XLI 6&- HMVIGXIH

GVIHMX [EW WXMPP MR ZSKYI ERH KSZIVRQIRX S[RIVWLMT SJ  TIVGIRX SJ XLI FEROMRK

MRHYWXV] QIEWYVIH MR XIVQW SJ HITSWMX FEWI GVIEXIH IRSVQSYW QSVEP LE^EVH TVSFPIQW

JSV XLI HITSWMXSVW ERH XLI FEROW

QEREKIQIRX EPMOI 8LI GVMWMW MR XLI FEROMRK MRHYWXV]

[EW QERMJIWXIH MR XLI JMRERGMEP TIVJSVQERGI SJ XLI FEROW [LMPI XLI KVSWW STIVEXMRK

TVSJMX SJ WGLIHYPIH GSQQIVGMEP FEROW EW E TVSTSVXMSR SJ XSXEP EWWIXW VSWI QEVKMREPP]

JVSQ  TIVGIRX MR W XS  TIVGIRX MR W XLI RIX TVSJMX SJ XLIWI FEROW

HIGPMRIH

3
;MXL IGSRSQMG VIJSVQ IQIVKMRK EW XLI TVMQEV] EKIRHE SJ XLI GIRXVEP KSZIVRQIRX MR

 XLI FEROMRKJMRERGMEP WIGXSV MR -RHME [MXRIWWIH E WMKRMJMGERX HIKVII SJ

PMFIVEPM^EXMSR WMRGI XLI IEVP] RMRIXMIW &IX[IIR  ERH  MRXIVIWX VEXIW [IVI

PMFIVEPM^IH ERH FEROW [IVI EPPS[IH XS JM\ PIRHMRK VEXIW WYFNIGX XS E GET SJ  FEWMW

TSMRXW SZIV XLI TVMQI PIRHMRK VEXI 406 *YVXLIV XLI '66 [EW VIHYGIH XS  TIVGIRX

F]  ERH XLI 706 [EW VIHYGIH XS  TIVGIRX &EROW [IVI JYVXLIV IRGSYVEKIH XS

MRGVIEWI XLI VIXYVRW SR XLIMV STIVEXMRK EWWIXW [LIR MR  XLI] [IVI EPPS[IH XS

MRZIWX MR IUYMX] %X XLI WEQI XMQI MR TYVWYERGI SJ XLI VIGSQQIRHEXMSRW SJ XLI JMVWX

2EVEWMQLEQ 'SQQMXXII IRXV] SJ RI[ FEROW ERH XLI I\TERWMSR SJ FVERGLMRK RIX[SVO

SJ I\MWXMRK FEROW [IVI HIVIKYPEXIH %X XLI WEQI XMQI FEROW [IVI EWOIH XS QEMRXEMR

VMWO [IMKLXIH GETMXEP EHIUYEG] VEXMS SJ  TIVGIRX QEVO EWWIXW XS QEVOIX MHIRXMJ]

TVSFPIQ PSERW SR XLIMV FEPERGI WLIIXW ERH QEOI TVSZMWMSRW JSV FEH PSERW 8LMW TLEWI

SJ VIJSVQW [EW GSQTPIXIH F] 1EVGL  

(YVMRK XLMW TIVMSH XLI GSQTIXMXMSR YRPIEWLIH EQSRK FEROW F] [E] SJ XLI HIVIKYPEXMSR

SJ IRXV] ERH FVERGLMRK RSVQW [EW WYTTPIQIRXIH F] GSQTIXMXMSR JVSQ RSRFERO

JMRERGMEP GSQTERMIW 2&*' 8LI HITSWMX FEWI SJ 2&*'W KVI[ JVSQ 6W  GVSVI

MR  XS 6W  GVSVI MR  E VMWI SJ  TIVGIRX XLI VMWI SJ XLI

HITSWMX FEWI SJ GSQQIVGMEP FEROW HYVMRK XLI WEQI TIVMSH FIMRK  TIVGIRX WII *MKYVI

 8LI 2&*'W [LMGL X]TMGEPP] SJJIVIH LMKLIV MRXIVIWX VEXIW SR HITSWMXW XLER

GSQQIVGMEP FEROW KEMRIH VIWTIGXEFMPMX] [MXL XLI MRXVSHYGXMSR SJ TVYHIRXMEP RSVQW

EMQIH EX QEOMRK XLIQ WEJI HITSWMXSVMIW JSV WEZMRKW %PP VIKMWXIVIH 2&*'W [IVI

VIUYMVIH XS EGLMIZI E QMRMQYQ GETMXEP EHIUYEG] RSVQ SJ  TIVGIRX F] 1EVGL 

 ERH  TIVGIRX F] 1EVGL   *YVXLIV XLI] [IVI VIUYMVIH XS SFXEMR E VEXMRK

JVSQ -RHMER GVIHMX VEXMRK EKIRGMIW ERH MRZIWX  TIVGIRX SJ XLIMV HITSWMXW MR PMUYMH

EWWIXW

&YX [LMPI XLI MRGVIEWMRK GSQTIXMXMSR MR XLI FEROMRK MRHYWXV] PIH XS TVSHYGX MRRSZEXMSR

ERH UYEPMX] GSQTIXMXMSR QENSV TVSFPIQW GSRXMRYIH XS TIVWMWX 4VSJMXEFMPMX] SJ

REXMSREPM^IH FEROW GSRXMRYIH XS FI E TVSFPIQ ERH XLI VEXMS SJ RIX TVSJMXW XS XSXEP

EWWIXW SJ XLIWI FEROW VIQEMRIH EX  TIVGIRX PS[IV XLER XLI GSVVIWTSRHMRK VEXMS JSV

HSQIWXMG TVMZEXI  TIVGIRX ERH JSVIMKR FEROW  TIVGIRX )ZIR QSVI [SVV]MRK

[EW XLI JEGX XLEX XLI RIX RSR TIVJSVQMRK EWWIXW 24% SJ WGLIHYPIH GSQQIVGMEP FEROW

GSRXMRYIH XS VMWI WXSSH EX 6W  GVSVI MR  8LI TYFPMG WIGXSV FEROW

GSRXVMFYXIH XS EFSYX  TIVGIRX SJ XLI RIX 24%W 8LI TVSFPIQ MW JYVXLIV GSQTPMGEXIH

4
F] XLI JEGX XLEX XLI JIEV SJ EGGYQYPEXMRK 24%W ERH XLI VIUYMVIH TVSZMWMSRMRK JSV XLI

WEQI QMKLX LEZI VIRHIVIH FEROW YR[MPPMRK XS QEOI PSERW XS RSRFPYI GLMT GSQTERMIW

*MREPP] MR SVHIV XS QIIX XLIMV GETMXEP EHIUYEG] VIUYMVIQIRXW FEROW VEMWIH XMIV --

GETMXEP XLVSYKL FSRHW [LMGL [IVI X]TMGEPP] WYFWGVMFIH XS F] SXLIV FEROW XLIVIF]

MRGVIEWMRK XLI W]WXIQ [MHI HS[RWMHI TSXIRXMEP SJ EHZIVWI WLSGOW

8LI TETIV I\EQMRIW XLI JSPPS[MRK MWWYIW GSRGIVRMRK XLI -RHMER FEROMRK MRHYWXV] E

[LIXLIV TYFPMG WIGXSV FEROW WLSYPH FI TVMZEXM^IH F LS[ XLI FEROW GER FIWX HIEP [MXL

XLI 24%W XLEX LEZI ER EHZIVWI IJJIGX SR XLIMV FEPERGI WLIIXW G LS[ XLI FEROW GER

FIWX HIEP [MXL KVIEXIV GSQTIXMXMSR ERH QEREKI XLI RI[ JSVQW SJ VMWO ERH H [LIXLIV

XLIVI WLSYPH FI HITSWMX MRWYVERGI VIJSVQ WYGL XLEX XLIVI MW KVIEXIV GSRJMHIRGI MR XLI

FEROMRK W]WXIQ ERH ]IX VIHYGXMSR SJ QSVEP LE^EVH SR XLI TEVX SJ WXEOILSPHIVW -X

GSRGPYHIW XLEX MR XLI EFWIRGI SJ ER] TSPMXMGEP GSRWIRWYW EFSYX TVMZEXM^EXMSR SJ XLI

TYFPMG WIGXSV FEROW ERH LIRGI GSRWSPMHEXMSR SJ XLI FEROMRK WIGXSV ERH KMZIR XLI

TSPMG] ERH FYWMRIWW XVIRHW MR XLI JMRERGMEP WIGXSV MR KIRIVEP XLI -RHMER FEROW EVI PMOIP]

XS STX JSV XLI YRMZIVWEP FEROMRK VSYXI XS VMWO HMZIVWMJMGEXMSR ERH VIZIRYI KIRIVEXMSR

8LI GLEPPIRKI JEGMRK XLI -RHMER TSPMG] QEOIVW XLIVIJSVI MW XS HIWMKR TSPMGMIW XLEX GER

VIKYPEXI [IPP XLI GSQTPI\ JMRERGMEP MRWXMXYXMSRW XLEX EVI TSMWIH XS IQIVKI MR XLI -RHMER

QEVOIX

5
Introduction
8LI PEWX XLVII HIGEHIW SJ XLI X[IRXMIXL GIRXYV] [MXRIWWIH XLI IQIVKIRGI SJ E RYQFIV SJ

MWWYIW XLEX WTYVVIH HIFEXIW ERH HMWGYWWMSRW EQSRK IGSRSQMWXW (YVMRK XLI WIZIRXMIW

IGSRSQMWXW KVETTPIH [MXL XLI FVIEOHS[R SJ XLI &VIXXSR ;SSHW W]WXIQ ERH XLI

IQIVKIRGI SJ WXEKJPEXMSR MR XLI EJXIVQEXL SJ XLI 34)' MRHYGIH SMP WLSGO 0EXIV HYVMRK

XLI IMKLXMIW HIFEXIW VEKIH EFSYX XLI WYTTP] WMHI XE\ GYXW SJ 6SREPH 6IEKER ERH XLI

IQIVKIRGI SJ QIVKIVW ERH EGUYMWMXMSRW ERH NYRO FSRHW EW QENSV GSVTSVEXIJMRERGMEP

TLIRSQIRE *MREPP] MR XLI RMRIXMIW IGSRSQMWXW WTPMX LEMV EFSYX XLI lRI[z IGSRSQ]

ERH XLI lXEQMRKz SJ FYWMRIWW G]GPIW ,S[IZIV [LMPI XLI [SVPH UYMGOP] EHNYWXIH XS

JPI\MFPI I\GLERKI VEXIW ERH [LMPI [MPH K]VEXMSRW MR XLI IUYMX] TVMGIW SJ XIGLRSPSK]

VIPEXIH GSQTERMIW HS RSX QEOI LIEHPMRIW ER] QSVI SRI TLIRSQIRSR GSRXMRYIW XS

LEYRX IGSRSQMWXW XLVSYKL XLI HIGEHIW JVEKMPMX] SJ XLI FEROMRK W]WXIQ

*VSQ 7[IHIR XS &VE^MP ERH JVSQ XLI 9RMXIH 7XEXIW SJ %QIVMGE 97% XS .ETER FEROW

WIIQ XS lKS FEHz [MXL QSRSXSRMG VIKYPEVMX] 8LI 7SYXL )EWX %WMER GYVVIRG] GVMWMW SJ

 FVSYKLX XS XLI JSVI XLI JEGX XLEX [LMPI WYGL E GVMWMW QE] RSX FI XVMKKIVIH F] FEH

FEROW TIV WI XLI I\XIRX SJ XLI GVMWMW ERH XLI EFMPMX] SJ E GSYRXV] XS IQIVKI SYX SJ XLI

GVMWMW JEWX IRSYKL HITIRHW GVYGMEPP] SR XLI WSYRHRIWW SJ MXW FEROMRK W]WXIQ 8S QEOI

QEXXIVW [SVWI XLI FEROMRK MRHYWXV] MXWIPJ MW IZSPZMRK VETMHP] XLIVIF] JSVGMRK

IGSRSQMWXW ERH TSPMG]QEOIVW XS PSSO EX XLI MRHYWXV] XLVSYKL XLI TVSZIVFMEP GV]WXEP

FEPP VEXLIV XLER MR VIXVSWTIGX -R WYQ MX MW QSVI HMJJMGYPX XLER IZIV XS HMWGYWW XLI

IGSRSQMG TVSWTIGXW SJ E GSYRXV] [MXLSYX XEOMRK E PSSO EX XLI TVSFPIQW ERH TVSWTIGXW

SJ MXW FEROMRK W]WXIQ

-RHITIRHIRX -RHME MRLIVMXIH E [IEO JMRERGMEP W]WXIQ 'SQQIVGMEP FEROW QSFMPM^IH

LSYWILSPH WEZMRKW XLVSYKL HIQERH ERH XIVQ HITSWMXW ERH HMWFYVWIH GVIHMX TVMQEVMP]


XS PEVKI GSVTSVEXMSRW -RHIIH FIX[IIR XLI ]IEVW  ERH  XLI TVSTSVXMSR SJ

GVIHMX KSMRK XS MRHYWXV] ERH XVEHI MRGVIEWIH JVSQ ER EPVIEH] LMKL  TIVGIRX XS 

TIVGIRX 8LMW MRGVIEWI [EW EX XLI I\TIRWI SJ WSQI GVYGMEP WIKQIRX SJ XLI IGSRSQ] PMOI

EKVMGYPXYVI ERH XLI WQEPP WGEPI MRHYWXVMEP WIGXSV 8LMW PSTWMHIH TEXXIVR SJ GVIHMX


HMWFYVWEP ERH TIVLETW XLI WTEXI SJ FERO JEMPYVIW HYVMRK XLI WM\XMIW  JSVGIH XLI

KSZIVRQIRX XS VIWSVX XS REXMSREPM^EXMSR SJ FEROW

1
This was due to the fact that the commercial banks were controlled by a handful of people
through interlocking of directorships, and these people were entrenched in the corporate sector (Ghosh,
1988).
2
Bank failures and mergers led to a decline in the number of banks from 566 in 1951 to 90 in
1968 (India Banking Yearbook, 1995).

6
8LI QEMR XLVYWX SJ REXMSREPM^EXMSR [EW WSGMEP FEROMRK [MXL XLI WXEXIH SFNIGXMZI SJ

MRGVIEWMRK XLI KISKVETLMGEP GSZIVEKI SJ XLI FEROMRK W]WXIQ ERH I\XIRWMSR SJ GVIHMX XS

XLI TVMSVMX] WIGXSVW 8LMW TLEWI SJ FEROMRK MR -RHME [EW GLEVEGXIVM^IH F] EHQMRMWXIVIH

MRXIVIWX VEXIW ERH XLI KSZIVRQIRX ERHSV 6IWIVZI &ERO SJ -RHME

W 6&- MRXIVZIRXMSR

[MXL VIWTIGX XS GVIHMX HMWFYVWEP *YVXLIV E WMKRMJMGERX TEVX SJ XLI FEROW

HITSWMX FEWI

[EW TVIIQTXIH XS WYTTSVX KSZIVRQIRX I\TIRHMXYVI XLVSYKL WXEXYXSV] QIEWYVIW PMOI XLI


GEWL VIWIVZI VEXMS '66 ERH XLI WXEXYXSV] PMUYMHMX] VEXMS 706 8LIVI MW PMXXPI HSYFX

EFSYX XLI JEGX XLEX XLI X[MR SFNIGXMZIW SJ REXMSREPM^EXMSR LEH FIIR QIX F] XLI PEWX

HIGEHI SJ XLI X[IRXMIXL GIRXYV] 8LI RYQFIV SJ FVERGLIW SJ XLI REXMSREPM^IH FEROW

MRGVIEWIH F]  FIX[IIR  ERH  ERH XLI IQIVKIRGI SJ E PEVKI RYQFIV SJ

VYVEP FVERGLIW LIPTIH [MHIR XLI HIPMZIV] TSMRXW JSV VYVEP GVIHMX 7EVOEV 

,S[IZIV HIWTMXI XLI WYGGIWWIW SJ FERO REXMSREPM^EXMSR MR -RHME XLI FEROMRK WIGXSV

VIQEMRIH QMVIH MR TVSFPIQW ERH [EW MRGSQTEXMFPI [MXL XLI TEVEHMKQ SJ XLI QEVOIX

IGSRSQ] [LMGL [EW KVEHYEPP] IQIVKMRK EW XLI HSQMRERX IGSRSQMG TEVEHMKQ

[SVPH[MHI %W PEXI EW  XLI MRXIVIWX VEXIW [IVI WXMPP FIMRK JM\IH F] XLI 6&- HMVIGXIH

GVIHMX [EW WXMPP MR ZSKYI ERH KSZIVRQIRX S[RIVWLMT SJ  TIVGIRX SJ XLI FEROMRK

MRHYWXV] QIEWYVIH MR XIVQW SJ HITSWMX FEWI GVIEXIH IRSVQSYW QSVEP LE^EVH TVSFPIQW

JSV XLI HITSWMXSVW ERH XLI FEROW

QEREKIQIRX EPMOI 8LI GVMWMW MR XLI FEROMRK MRHYWXV]

[EW QERMJIWXIH MR XLI JMRERGMEP TIVJSVQERGI SJ XLI FEROW [LMPI XLI KVSWW STIVEXMRK

TVSJMX SJ WGLIHYPIH GSQQIVGMEP FEROW EW E TVSTSVXMSR SJ XSXEP EWWIXW VSWI QEVKMREPP]

JVSQ  TIVGIRX MR W XS  TIVGIRX MR W XLI RIX TVSJMX SJ XLIWI FEROW

HIGPMRIH

;MXL IGSRSQMG VIJSVQ IQIVKMRK EW XLI TVMQEV] EKIRHE SJ XLI GIRXVEP KSZIVRQIRX MR

 XLI FEROMRKJMRERGMEP WIGXSV MR -RHME [MXRIWWIH E WMKRMJMGERX HIKVII SJ

PMFIVEPM^EXMSR WMRGI XLI IEVP] RMRIXMIW &IX[IIR  ERH  MRXIVIWX VEXIW [IVI

PMFIVEPM^IH ERH FEROW [IVI EPPS[IH XS JM\ PIRHMRK VEXIW WYFNIGX XS E GET SJ  FEWMW

TSMRXW SZIV XLI TVMQI PIRHMRK VEXI 406 *YVXLIV XLI '66 [EW VIHYGIH XS  TIVGIRX

F]  ERH XLI 706 [EW VIHYGIH XS  TIVGIRX &EROW [IVI JYVXLIV IRGSYVEKIH XS

MRGVIEWI XLI VIXYVRW SR XLIMV STIVEXMRK EWWIXW [LIR MR  XLI] [IVI EPPS[IH XS

3
The CRR requires banks to maintain a specified fraction of their total time and demand
deposits as cash balances with the RBI. The SLR, on the other hand, requires them to invest a specified
proportion of time and demand deposits in government securities and quasi-government securities like
bonds issued by the Industrial Development Bank of India (IDBI). As late as 1991, the magnitudes of
CRR and SLR were 15 percent and 38.5 percent respectively.

7
MRZIWX MR IUYMX] %X XLI WEQI XMQI MR TYVWYERGI SJ XLI VIGSQQIRHEXMSRW SJ XLI JMVWX

2EVEWMQLEQ 'SQQMXXII IRXV] SJ RI[ FEROW ERH XLI I\TERWMSR SJ FVERGLMRK RIX[SVO


SJ I\MWXMRK FEROW [IVI HIVIKYPEXIH %X XLI WEQI XMQI FEROW [IVI EWOIH XS QEMRXEMR

VMWO [IMKLXIH GETMXEP EHIUYEG] VEXMS SJ  TIVGIRX QEVO EWWIXW XS QEVOIX MHIRXMJ]

TVSFPIQ PSERW SR XLIMV FEPERGI WLIIXW ERH QEOI TVSZMWMSRW JSV FEH PSERW 8LMW TLEWI

SJ VIJSVQW [EW GSQTPIXIH F] 1EVGL  

(YVMRK XLMW TIVMSH XLI GSQTIXMXMSR YRPIEWLIH EQSRK FEROW F] [E] SJ XLI HIVIKYPEXMSR

SJ IRXV] ERH FVERGLMRK RSVQW [EW WYTTPIQIRXIH F] GSQTIXMXMSR JVSQ RSRFERO

JMRERGMEP GSQTERMIW 2&*' 8LI HITSWMX FEWI SJ 2&*'W KVI[ JVSQ 6W  GVSVI

MR  XS 6W  GVSVI MR  E VMWI SJ  TIVGIRX XLI VMWI SJ XLI

HITSWMX FEWI SJ GSQQIVGMEP FEROW HYVMRK XLI WEQI TIVMSH FIMRK  TIVGIRX WII *MKYVI

 8LI 2&*'W [LMGL X]TMGEPP] SJJIVIH LMKLIV MRXIVIWX VEXIW SR HITSWMXW XLER

GSQQIVGMEP FEROW KEMRIH VIWTIGXEFMPMX] [MXL XLI MRXVSHYGXMSR SJ TVYHIRXMEP RSVQW

EMQIH EX QEOMRK XLIQ WEJI HITSWMXSVMIW JSV WEZMRKW %PP VIKMWXIVIH 2&*'W [IVI

VIUYMVIH XS EGLMIZI E QMRMQYQ GETMXEP EHIUYEG] RSVQ SJ  TIVGIRX F] 1EVGL 

 ERH  TIVGIRX F] 1EVGL   *YVXLIV XLI] [IVI VIUYMVIH XS SFXEMR E VEXMRK

JVSQ -RHMER GVIHMX VEXMRK EKIRGMIW ERH MRZIWX  TIVGIRX SJ XLIMV HITSWMXW MR PMUYMH

EWWIXW

&YX [LMPI XLI MRGVIEWMRK GSQTIXMXMSR MR XLI FEROMRK MRHYWXV] PIH XS TVSHYGX MRRSZEXMSR

ERH UYEPMX] GSQTIXMXMSR QENSV TVSFPIQW GSRXMRYIH XS TIVWMWX 4VSJMXEFMPMX] SJ

REXMSREPM^IH FEROW GSRXMRYIH XS FI E TVSFPIQ ERH XLI VEXMS SJ RIX TVSJMXW XS XSXEP

EWWIXW SJ XLIWI FEROW VIQEMRIH EX  TIVGIRX PS[IV XLER XLI GSVVIWTSRHMRK VEXMS JSV

HSQIWXMG TVMZEXI  TIVGIRX ERH JSVIMKR FEROW  TIVGIRX )ZIR QSVI [SVV]MRK

[EW XLI JEGX XLEX XLI RIX RSR TIVJSVQMRK EWWIXW 24% SJ WGLIHYPIH GSQQIVGMEP FEROW

GSRXMRYIH XS VMWI WXSSH EX 6W  GVSVI MR  8LI TYFPMG WIGXSV FEROW

GSRXVMFYXIH XS EFSYX  TIVGIRX SJ XLI RIX 24%W 8LI TVSFPIQ MW JYVXLIV GSQTPMGEXIH

4
Between 1991-92 and 1996-97, the number of domestic private banks and foreign banks rose
from 23 to 34, and from 23 to 39 respectively. Between June 1993 and March 1997, the number of
branches of domestic private and foreign banks rose from 3,887 to 4,535, and from 141 to 181
respectively.
5
The fiscal and financial years in India run from April 1 to March 31 of the following year.
6
Despite the regulatory measures, uncertainty about the asset portfolios and business practices
of NBFCs subsequently affected the growth of NBFCs. Their deposit base on March 31, 1999 stood at
Rs. 20,428.93 crore.
7
The average PLR of banks declined by about 200 basis points between 1991-92 and 1997-98,
but the cheap money policy followed by the RBI have been responsible for it than price competition
among banks.
8
The volume of gross NPAs has been estimated to be double the volume of net NPAs.

8
F] XLI JEGX XLEX XLI JIEV SJ EGGYQYPEXMRK 24%W ERH XLI VIUYMVIH TVSZMWMSRMRK JSV XLI

WEQI QMKLX LEZI VIRHIVIH FEROW YR[MPPMRK XS QEOI PSERW XS RSRFPYI GLMT GSQTERMIW

*MREPP] MR SVHIV XS QIIX XLIMV GETMXEP EHIUYEG] VIUYMVIQIRXW FEROW VEMWIH XMIV --

GETMXEP XLVSYKL FSRHW [LMGL [IVI X]TMGEPP] WYFWGVMFIH XS F] SXLIV FEROW XLIVIF]

MRGVIEWMRK XLI W]WXIQ [MHI HS[RWMHI TSXIRXMEP SJ EHZIVWI WLSGOW -R ZMI[ SJ XLIWI

HIZIPSTQIRXW FIX[IIR  ERH  XLI GIRXVEP KSZIVRQIRX ERH XLI 6&- WIX YT X[S

HMJJIVIRX GSQQMXXIIW XS TVSZMHI KYMHIPMRIW JSV XLI WIGSRH KIRIVEXMSR VIJSVQW JSV XLI

FEROMRK WIGXSV XLI WIGSRH 2EVEWMQLEQ 'SQQMXXII XS TVSZMHI KYMHIPMRIW JSV XLI

WIGSRH KIRIVEXMSR VIJSVQW SJ XLI FEROMRK WIGXSV ERH XLI :EVQE 'SQQMXXII XS TVSZMHI

KYMHIPMRIW EFSYX XVIEXQIRX SJ [IEO TYFPMG WIGXSV FEROW

Second generation banking reforms

8LI WIGSRH 2EVEWMQLEQ 'SQQMXXII YRHIVXSSO MXW IZEPYEXMSR SJ XLI -RHMER FEROMRK

WIGXSV EX E GVYGMEP TSMRX SJ XMQI XLI GYVVIRG]FEROMRK GVMWMW MR 7SYXL )EWX %WME ERH XLI

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SR XLI GETMXEP EGGSYRX SJ XLI FEPERGI SJ TE]QIRXW 8LI VITSVX SJ XLI GSQQMXXII

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8LI VITSVX WXVIWWIH X[S EWTIGXW SJ FEROMRK VIKYPEXMSR GETMXEP EHIUYEG] ERH EWWIX


GPEWWMJMGEXMSR ERH VIWSPYXMSR SJ XLI 24%VIPEXIH TVSFPIQ -X VIGSQQIRHIH XLEX XLI

GETMXEP EHIUYEG] VEXMS FI MRGVIEWIH XS  TIVGIRX F]  ERH JYVXLIV XS  TIVGIRX F]

 -X EPWS WYKKIWXIH XLEX QIEWYVIW SJ GETMXEP EHIUYEG] WLSYPH XEOI MRXS EGGSYRX


QEVOIX VMWO SJ XLI FEROW
EWWIXW MRGPYHMRK XLI I\GLERKI VEXI VMWO SJ JSVIMKR GYVVIRG]

LIPH F] XLI FEROW *YVXLIV MX TVSTSWIH XLEX XLI IRXMVI TSVXJSPMS SJ KSZIVRQIRX

WIGYVMXMIW [MXL FEROW FI QEVOIH XS QEVOIX [MXLMR E ]IEV TIVMSH *MREPP] XLI

GSQQMXXII WYKKIWXIH XLEX ER EWWIX WLSYPH FI GPEWWMJMIH EW lHSYFXJYPz MJ MX MW MR XLI

WYFWXERHEVH GEXIKSV] JSV  QSRXLW XS FIKMR [MXL ERH XLEX XLMW TIVMSH FI VIHYGIH XS


 QSRXLW SZIV XMQI

9
The committee proposed that the average level of net NPAs as a fraction of credit outstanding
for all banks be reduced to 5 percent or less by 2000 and to 3 percent by 2002. For banks with
international presence, the corresponding targets for gross and net NPAs were proposed to be 5 percent
and 3 percent, and 3 percent and 0 percent respectively.
10
In conjunction with this, the banks were encouraged to undertake risk management by way of
value at risk (VaR) modelling.

9
-R SVHIV XS VIHYGI XLI QSVEP LE^EVH EWWSGMEXIH [MXL KSZIVRQIRX S[RIVWLMT XLI

GSQQMXXII WYKKIWXIH XLEX FEROW WLSYPH RSX FI VIGETMXEPM^IH YWMRK KSZIVRQIRX JYRHW

,S[IZIV MX EGORS[PIHKIH XLI JEGX XLEX XLI KSZIVRQIRX QMKLX LEZI XS TPE] E VSPI MR

XLI VIQSZEP SJ 24%W JVSQ XLI FEROW

FEPERGI WLIIXW F] [E] SJ EWWIX VIGSRWXVYGXMSR

GSQTERMIW %6'W 7TIGMJMGEPP] XLI KSZIVRQIRX QMKLX LEZI XS KYEVERXII XLI FSRHW

MWWYIH F] XLI %6'W XLI TVSGIIHW JVSQ [LMGL [SYPH FI YWIH XS FY] XLI FEH EWWIXW SJ

XLI FEROW EX E HMWGSYRX

-QTPMGMXP] PMROMRK S[RIVWLMT [MXL TIVJSVQERGI XLI WIGSRH 2EVEWMQLEQ 'SQQMXXII

WYKKIWXIH E VIHYGXMSR MR XLI QMRMQYQ WXMTYPEXIH LSPHMRKW SJ XLI KSZIVRQIRX MR XLI


IUYMX] SJ TYFPMG WIGXSV FEROW XS  TIVGIRX -X EPWS JEZSVIH WITEVEXMSR SJ QSRIXEV]

TSPMG] ERH FERO WYTIVZMWMSR ERH WYKKIWXIH XLEX E WYTIVZMWSV] FSH] JSV FEROW FI

JSVQIH MR PMRI [MXL XLI *MRERGMEP 7IVZMGIW %YXLSVMX] *7% SJ 9RMXIH /MRKHSQ

;LMPI XLI WIGSRH 2EVEWMQLEQ 'SQQMXXII TVSTSWIH VIJSVQW [LMGL [IVI MRHYFMXEFP]

KSSH MR WS JEV EW XLI LIEPXL SJ XLI FEROMRK W]WXIQ MW GSRGIVRIH MX WXSTTIH WLSVX SJ

TVSTSWMRK GPSWYVI SJ TYFPMG WIGXSV FEROW PMOI 9RMXIH &ERO SJ -RHME 9RMXIH 'SQQIVGMEP

&ERO ERH -RHMER &ERO [LMGL [IVI GPIEVP] YRHIVTIVJSVQMRK IZIR F] XLI QSHIWX

WXERHEVHW SJ XLI TYFPMG WIGXSV FEROW 8LI YRIRZMEFPI XEWO SJ JSVQYPEXMRK E TSPMG] XS

HIEP [MXL [IEO TYFPMG WIGXSV FEROW [EW MRWXIEH PIJX JSV XLI :EVQE 'SQQMXXII

8LI :EVQE 'SQQMXXII GSRGPYHIH XLEX XLI TYFPMG WIGXSV FEROW [IVI YRHIV TVIWWYVI

FIGEYWI SJ XLI TVYHIRXMEP RSVQW VIKEVHMRK EWWIX GPEWWMJMGEXMSR ERH TVSZMWMSRMRK JSV

24%W ERH FIGEYWI SJ XLI MRXIRWMJMGEXMSR SJ GSQTIXMXMSR WYFWIUYIRX XS XLI JMVWX TLEWI

SJ FEROMRK WIGXSV VIJSVQW ,S[IZIV XLI GSQQMXXII TSMRXIH SYX XLEX XLI HMWQEP

TIVJSVQERGI SJ XLI [IEO TYFPMG WIGXSV FEROW [IVI RSX QIVIP] SR EGGSYRX SJ I\SKIRSYW

WLSGOW FYX VEXLIV XLEX MRXIVREP TVSFPIQW PMOI PMQMXIH RYQFIV SJ TVSHYGXW TSSV VMWO

QEREKIQIRX W]WXIQW ERH QIHMSGVI WIVZMGI LEH EPWS GSRXVMFYXIH XS XLI [IEO

TIVJSVQERGI -X GSRGPYHIH XLEX QIVKIVW ERH REVVS[ FEROMRK EVI YRPMOIP] XS VIWSPZI XLI

TVSFPIQ SJ [IEO FEROW ERH [LMPI TVMZEXM^EXMSR MW TIVLETW XLI FIWX GSYVWI SJ EGXMSR MX

[SYPH FI HMJJMGYPX XS EXXVEGX TVMZEXI FMHW JSV TYFPMG WIGXSV FEROW XLI GSWX SJ

VIWXVYGXYVMRK [LMGL [SYPH FI TVSLMFMXMZIP] LMKL

11
The committee suggested that the banks be asked to adopt the international standard with
respect to income recognition, thereby reducing the relevant time period from 180 days to 90 days.
12
The central government is attempting to effect such a reduction with the help of appropriate
legislation, but the proposal has met with significant resistance from the opposition parties.

10
8LI GSQQMXXII MHIRXMJMIH TIVWMWXIRGI SJ XLI PEVKI ZSPYQI SJ 24%W EW XLI FMKKIWX

GLEPPIRKI JEGMRK XLI [IEO TYFPMG WIGXSV FEROW ERH TVSTSWIH XLEX %6'W FI YWIH EW XLI

ZILMGPI JSV EPPIZMEXMRK XLMW TVSFPIQ -QTSVXERXP] XLI GSQQMXXII GEXIKSVMGEPP] WXEXIH

XLEX XLI [IEO FEROW [SYPH LEZI XS VIHYGI GSWX SJ STIVEXMSR F] [E] SJ VIHYGXMSR MR

WXEJJ WXVIRKXL ER IGSRSQMGEPP] WSYRH TVSTSWMXMSR XLEX LEW FIIR HMJJMGYPX XS MQTPIQIRX


MR PMKLX SJ XLI -RHMER TSPMXMGEP IGSRSQ] -X TVSTSWIH XLEX XLI WXEJJ WXVIRKXL SJ [IEO

TYFPMG WIGXSV FEROW FI VIHYGIH F]  TIVGIRX 1SVISZIV MX EVKYIH XLEX MJ :67 JEMPW XS

VIHYGI XLI STIVEXMSRW GSWX SJ XLIWI FEROW XLIVI WLSYPH FI EGVSWWXLIFSEVH [EKI GYXW

JSV XLIMV IQTPS]IIW 3RGI EKEMR KMZIR XLI TSPMXMGEP IGSRSQ] SJ XLI -RHMER FEROMRK

MRHYWXV] XLMW [EW E VEHMGEP TVSTSWEP

;LMPI XLI ZEVMSYW GSQQMXXIIW LEZI EGGYVEXIP] MHIRXMJMIH XLI QEPEMWI EHZIVWIP]

EJJIGXMRK XLI IZSPYXMSR SJ XLI -RHMER FEROMRK W]WXIQ MRXS ER IJJMGMIRX ERH KPSFEPP]

GSQTIXMXMZI MRHYWXV] ERH LEZI TEZIH XLI [E] JSV QER] E VIJSVQ XVEHI YRMSRMWQ PEGO

SJ TSPMXMGEP [MPP XS XEOI LEVH HIGMWMSRW QSVEP LE^EVH ERH WLIIV MRIJJMGMIRG] GSRXMRYI XS

LEYRX XLMW GVMXMGEP GSQTSRIRX SJ XLI -RHMER JMRERGMEP W]WXIQ ;LMPI ER] GSQQIRXEV]

EFSYX XLI MRHYWXV] GERRSX HMZSVGI MXWIPJ JVSQ TSWMXMZI EREP]WMW XLIVIF] XEOMRK MRXS

GSRWMHIVEXMSR XLI TSPMXMGEP IGSRSQMG VIEPMXMIW MX MW EPWS MQTIVEXMZI XS XSYGL YTSR

RSVQEXMZI EWTIGXW SJ TSPMG] QEOMRK [MXLSYX [LMGL XLIVI GERRSX FI E ZMWMSR EFSYX XLI

[E] JSV[EVH %XXEMRMRK E FEPERGIH QM\ SJ XLI TSWMXMZI ERH XLI RSVQEXMZI [SYPH FI XLI

GLEPPIRKI XLEX LEW FIIR EHHVIWWIH MR XLI WYFWIUYIRX EREP]WMW

Issues facing the Indian banking system

8LI MWWYIW JEGMRK XLI -RHMER FEROMRK W]WXIQ XSHE] EVI MVSRMGEPP] ZIV] WMQMPEV XS XLI

MWWYIW XLEX [IVI VEMWIH RIEVP] E HIGEHI EKS 8LI PMFIVEPM^EXMSR SJ XLI FEROMRK MRHYWXV]

ERH XLI MRXVSHYGXMSR SJ TVYHIRXMEP RSVQW LEZI STIRIH XLI HSSV JSV KVIEXIV GSQTIXMXMSR

SR XLI SRI LERH ERH LEZI VIHYGIH XLI ZYPRIVEFMPMX] SJ XLI FEROMRK W]WXIQ SR XLI

SXLIV ,S[IZIV XLI FERI SJ XLI -RHMER FEROMRK WIGXSV GSRXMRYI XS FI E GPYXGL SJ FEROW

[MXL [IEO FEPERGI WLIIXW ERH [IEOIV TVSWTIGXW SJ MQTVSZMRK EWWIX UYEPMX] ERH

TVSJMXEFMPMX] WMQYPXERISYWP] *YVXLIV XLI PEVKI ]IX [IEO FEROW EVI MR XLI TYFPMG WIGXSV

%W E GSRWIUYIRGI XLI TSPMG] HIFEXI EFSYX FEROW GSRXMRYIW XS IRGSQTEWW XLI JSPPS[MRK

MWWYIW E [LIXLIV TYFPMG WIGXSV FEROW WLSYPH FI TVMZEXM^IH F LS[ XLI FEROW GER FIWX

13
However, a generous voluntary retirement scheme (VRS) offered by the State Bank of India
and some other banks in the recent past was successful in the sense that more people opted for VRS
than was originally envisaged.
14
In harmony with the proposal to reduce operating cost and staff strength, the Varma
Committee proposed that the branch network of the weak banks be rationalised.

11
HIEP [MXL XLI 24%W XLEX LEZI ER EHZIVWI IJJIGX SR XLIMV FEPERGI WLIIXW G LS[ XLI

FEROW GER FIWX HIEP [MXL KVIEXIV GSQTIXMXMSR ERH QEREKI XLI RI[ JSVQW SJ VMWO ERH

H [LIXLIV XLIVI WLSYPH FI HITSWMX MRWYVERGI VIJSVQ WYGL XLEX XLIVI MW KVIEXIV

GSRJMHIRGI MR XLI FEROMRK W]WXIQ ERH ]IX VIHYGXMSR SJ QSVEP LE^EVH SR XLI TEVX SJ

WXEOILSPHIVW

Privatization
8LIVI WIIQW XS FI KIRIVEP EKVIIQIRX EFSYX XLI L]TSXLIWMW XLEX TYFPMG WIGXSV FEROW

47&W YRHIVTIVJSVQ ZMW E ZMW XLI HSQIWXMG TVMZEXIP] S[RIH FEROW 4Z7&W ERH XLI

JSVIMKR FEROW *&W 8LMW ZMI[ MW YWYEPP] FEWIH SR EREP]WMW SJ XLI TVSJMXEFMPMX] SJ XLI

FEROW ERH XLI UYEPMX] SJ XLIMV FEPERGI WLIIXW TYFPMG WIGXSV FEROW SR EZIVEKI EVI PIWW

TVSJMXEFPI ERH LEZI PEVKIV 24% XS EWWIX VEXMS XLER XLI HSQIWXMG TVMZEXI FEROW ERH XLI

JSVIMKR FEROW WII *MKYVIW  XLVSYKL  -RXIVIWXMRKP] LS[IZIV XLIVI LEW FIIR SRP]

SRI W]WXIQEXMG IQTMVMGEP WXYH] EXXIQTXMRK XS XIWX XLI EJSVIQIRXMSRIH L]TSXLIWMW 8LI

IGSRSQIXVMG EREP]WMW SJ 7EVOEV 7EVOEV ERH &LEYQMO  VITSVXIH XLEX EW SJ 

XLI TVSJMXEFMPMX] SJ XLI TVMZEXI RSRXVEHIH FEROW ERH XLEX SJ XLI TYFPMG WIGXSV FEROW

[IVI RSX WMKRMJMGERXP] HMJJIVIRX *YVXLIV XLIVI [EW TVEGXMGEPP] RS HMWXMRGXMSR FIX[IIR

TVMZEXI HSQIWXMG ERH TYFPMG WIGXSV FEROW MR XIVQW SJ GSWX IJJMGMIRG]

8LI WXYH] MW WM\ ]IEVW SPH ERH XLI HEXE HSIW RSX VIJPIGX XLI JYPP MQTEGX SJ XLI TVSGIWW SJ

PMFIVEPM^EXMSR XLEX [EW MRMXMEXIH MR XLI EJXIVQEXL SJ XLI JSVQYPEXMSR SJ XLI JMVWX

2EVEWMQLEQ 'SQQMXXII ,S[IZIV IZIR XLMW PMQMXIH WXYH] VEMWIW XLI TSWWMFMPMX] XLEX

TVSJMXEFMPMX] ERH XS ER I\XIRX GSWX IJJMGMIRG] SJ FEROW MW WMKRMJMGERXP] HIXIVQMRIH F]

XLI I\XIRX SJ QEVOIX HMWGMTPMRI XS [LMGL XLI FEROW

QEREKIQIRX EVI WYFNIGXIH 8LMW

TVSTSWMXMSR JMRHW JYVXLIV WYTTSVX JVSQ E GEWYEP GSQTEVMWSR SJ XLI TIVJSVQERGIW SJ XLI

RI[ HSQIWXMG TVMZEXI WIGXSV FEROW 24Z7&W [LSWI WLEVIW EVI TYFPMGP] XVEHIH SPH

HSQIWXMG TVMZEXI FEROW 34Z7&W [LSWI WLEVIW EVI TYFPMGP] XVEHIH ERH SPH HSQIWXMG


TVMZEXI FEROW [LMGL EVI WXMPP GPSWIP] LIPH

15
As of March 31, 2000, the return on assets (ROA) for public sector banks was 0.15 percent
while that of old private sector banks, new private banks and foreign banks were 0.2 percent, 0.08
percent and 0.49 percent respectively. On the same day, the net NPA to asset ratio of public sector
banks stood at 2.9 percent, the ratio being 2.3 percent for domestic private banks and 1 percent for
foreign banks.
16
See Tables 1 and 2 in the Appendix. They control for ownership/majority stake, and highlights
the difference between the performance between listed and non-listed banks. The average ROA for the
closely held private banks should be taken into account after omitting Ganesh Bank which is clearly an
outlier. Similar, the ROA of public sector banks should be taken into account after omitting Indian
Bank and UCO Bank.

12
4VEKQEXMG TSPMG] QEOMRK GERRSX HMZSVGI MXWIPJ JVSQ XLI TSPMXMGEP IGSRSQ] ERH ER

IWWIRXMEP TEVX SJ TVEKQEXMWQ MR XLI -RHMER GSRXI\X MW XLEX TYFPMG WIGXSV FEROW EVI


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XLEX EW ER MRXIVQIHMEXI WXIT MX [SYPH TIVLETW FI TVYHIRX XS GSVTSVEXM^I EPP TYFPMG

WIGXSV FEROW XLEX EVI RSX EPVIEH] PMWXIH EX WXSGO I\GLERKIW WIPP EX PIEWX  TIVGIRX ERH

TIVLETW E LMKLIV TVSTSVXMSR SJ XLI FEROW

IUYMX] XS TVMZEXI MRZIWXSVW ERH PMWX XLI

FEROW EX XLI &SQFE] ERH 2EXMSREP WXSGO I\GLERKIW ,S[IZIV MR WYGL ER IZIRX XLI

KSZIVRQIRX [SYPH GSRXMRYI XS FI XLI QENSVMX] WLEVILSPHIV ERH XLIVIJSVI XLI FEROW

[SYPH VIQEMR STIR XS TSPMXMGEP WYEWMSR [LMPI XLI QEREKIQIRX VIQEMR WXIITIH MR QSVEP

LE^EVH ,IRGI [LMPI MR TVMRGMTPI XLI TVIWIRGI SJ SXLIV WXEOILSPHIVW [MXL E ZSMGI

[SYPH MRGVIEWI XLI TVSFMX] SJ XLI FEROW ERH TEZI XLI [E] JSV WSQI JSVQ SJ QEVOIX

HMWGMTPMRI LS[IZIV [IEO XLI TVSFEFMPMX] SJ SJJPSEHMRK QMRSVMX] WLEVIW SJ TYFPMG WIGXSV

FEROW XS TVMZEXI MRZIWXSVW VIQEMR PS[

-R SXLIV [SVHW MR SVHIV XS IJJIGXMZIP] WIPP WLEVIW SJ TYFPMG WIGXSV FEROW XS QMRSVMX]

WLEVILSPHIVW XLI KSZIVRQIRX [SYPH LEZI XS WMKREP XLEX MX EW XLI S[RIV MX IRGSYVEKIW

QE\MQM^EXMSR SJ TVSJMXW ERH WLEVILSPHIV ZEPYI ,IRGI XLI JMVWX WXEKI SJ XLI TVSGIWW SJ

VIWXVYGXYVMRK LEW XS MRZSPZI ER MQTVSZIQIRX MR XLI UYEPMX] SJ XLI FEROW

FEPERGI


WLIIXW 8LMW TVSGIWW [SYPH LEZI XS MRZSPZI E VIWSPYXMSR SJ XLI FEROW
TVSFPIQW [MXL

VIWTIGX XS 24%W ERH XLI MRXVSHYGXMSR SJ QIEWYVIW ERH MRWXMXYXMSRW XLEX EPPS[ FEROW XS

XEOI E VIEWSREFPI EQSYRX VMWO XS EYKQIRX XLIMV VIXYVRW [LMPI TVSZMHMRK STXMSRW XS

QEREKI ERH LIHKI EKEMRWX XLIWI VMWOW EHIUYEXIP]

Non Performing Assets

4IVLETW XLI FMKKIWX GSRGIVR SJ XLI [IEOIV FEROW MR -RHME QSWX SJ [LMGL EVI WXEXI

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1EVGL   XLI ZSPYQI SJ RIX 24%W MR XLI -RHMER FEROMRK W]WXIQ [EW 6W 

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17
In any event, privatization of state owned banks may not be easy because an examination of a
bank’s book provides very imperfect information about the possibility of loans/assets turning bad in the
future. Hence, a private investor would insist on thorough due diligence that might make the process of
privatization very costly. Alternatively, he would insist on a steep discount over any valuation, thereby
making the process of privatization politically infeasible.

13
SJJPSEHIH XS %6'W 7YGL E QSZI [SYPH XEOI XLI 24%W SJJ XLI FEPERGI WLIIXW SJ XLI

FEROW ERH XLIVIF] MQTVSZI XLIMV TVSJMXEFMPMX] F] [E] SJ PS[IV TVSZMWMSRMRK

VIUYMVIQIRX %X XLI WEQI XMQI MX MW I\TIGXIH XLI %6'W [SYPH FI EFPI XS VIGSZIV QSVI

FEH PSERW ERH TIVLETW EX E JEWXIV TEGI FIGEYWI XLI] [SYPH FI HIHMGEXIH XS[EVHW PSER

VIGSZIV]

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XLI GVIHMXSVW [SYPH FI GSQTIRWEXIH -R E WIRWI XLIVIJSVI XMPP XLI PSER MW IZIRXYEPP]

VITEMH XLI GSQTER] MW FSYRH F] E GSQQMXQIRX XLI XIVQW SJ [LMGL GER FI WIX F] XLI

18
This would indeed be a tall order. The fact that the shares of public sector banks are being
traded below their issue price at the stock exchanges indicate that the private investors have little faith
in the ability of the government to turn the banks around with hard and politically difficult measures.
19
Of course, the extent of loan recovery in central and eastern European countries was minimal
and much of these bad loans eventually had to be written off.

14
%6' SV XLI FERO -R -RHME WMRGI QENSV HIJEYPXIVW MRGPYHI TYFPMG WIGXSV GSQTERMIW

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KVSYTW SJ TISTPI XLI TVMQEG] SJ XLI %6' QE] RSX FI EGGITXEFPI RSV TVEGXMGEFPI *SV

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EXXVMFYXIH XS XLI IQIVKIRGI SJ XLI RI[ HSQIWXMG TVMZEXI WIGXSV FEROW [LS GSRXVSP

EFSYX  TIVGIRX SJ XLI HITSWMXW -R SXLIV [SVHW XLIVI MW TVMQE JEGMI IZMHIRGI XLEX XLI

-RHMER FEROMRK WIGXSV MW FIGSQMRK QSVI GSQTIXMXMZI

20
In fact, the defaulting debtor may also get fresh loans but these loans enjoy seniority.
21
In Thailand, in a variation of this strategy, ownership of defaulting companies were handed
over to investors who did not want to make lump sum payments for the bad assets, but who entered
into profit-sharing agreements with the creditors.
22
Since the ability of a bank to expand its business and increase its business depends on the
amount of deposits it controls, the share of deposits it controls is a fairly good proxy for the extent of
its market power, when market power of a firm itself is negatively related to the extent of competition
in the industry.

15
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RIKEXMZI WLSGOW SR EGGSYRX SJ XLIMV SJJFEPERGI WLIIX I\TSWYVIW 8LI I\TIVMIRGI SJ

23
Banks had to compete for deposits with the money market mutual funds and hence once
Regulation Q was abolished banks increased their deposit rates. Hence the cost of funds of the banks
reflected the relatively high interest regime of the post oil shock period. At the same time, a significant
part of the banks’ assets were in the form of long term government bonds that had been issued during
the low inflation era prior to the OPEC induced oil shock. Hence, there was a severe mismatch of
returns on assets and liabilities.
24
Since it is risky to lend to non-blue chip companies, and given that addition of appropriate risk
premia to the PLR might result in averse selection, banks in India have often preferred to lend through
the commercial paper route than through traditional banking channels. Evidence abound that blue chip
companies with good credit ratings are able to raise money with commercial papers at yields that are
100 basis points or more lower than the PLR.
25
Brokers at the Calcutta Stock Exchange had provided bank guarantees against their equity
market exposures. In the aftermath of a rapid fall in the equity prices during March 2001, the brokers

16
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HIVMZEXMZIW 4IIO ERH 6SWIRKVIR 

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were unable to meet their commitments and hence the stock exchange was forced to invoke the bank
guarantees.
26
As of now, Indian banks are required to match swaps and options back-to-back in the foreign
exchange market. The internal market for interest rate swaps is in its infancy, and equity options have
not yet been introduced. However, with further liberalization of the Indian financial sector, the banks
may be allowed to run options books and enter into other contingent claims contracts that would
increase their risk exposure significantly.
27
Note that the informational asymmetry between the banks in the prosperous and the weaker
regions, sellers and buyers respectively, would be significant. However, since the seller bank would
have to interact repeatedly with the buyer bank and other banks, it can be assumed that signalling
issues related to reputation would prevent the seller bank from systematically making and passing on
“bad” loans to the buyer bank.

17
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LEZI XS TVIGIHI QIVKIVW MJ MXW WXVEXIKMG TSXIRXMEP MW XS FI JYPP] VIEPM^IH

28
Indeed, there is some degree of agreement among economists that mergers do not contribute
to scale economies, and that, in fact, there can even be scale efficiency losses in the aftermath of
mergers (Berger, Demsetz and Strahan, 1998).
29
Indeed, mergers among banks might reduce the number of banks within a country, but the
extent of competition is ever increasing. Technology has allowed banks to reach out “virtually” into
geographical areas where they have no physical presence. At the same time, non-bank financial
organisations like money market mutual funds are offering bank-type services like check writing
facilities. Hence, it is by no means certain that merger would augment the market power of two or more
banks.
30
Earlier attempts at merger involve merger of “good” and “bad” banks at the behest of the
government and the RBI. However, such mergers often do not work, and affect the viability of the
good bank rather than enhancing the (joint!) profitability of the merged entity. A case in point is the
merger of Punjab National Bank with New Bank of India.

18
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31
In 1998, the returns on the investments of UTI declined because of a decline in equity prices.
However, UTI had made a pre-commitment to pay its investors a reasonably high return on their US-64
investments, and the promised return was clearly not in harmony with the returns accruing to UTI. The
mutual fund honoured it commitments, but it was pressurized by the government to agree to link the
subsequent returns of their schemes to market returns.
32
A RBI committee set up for evaluating and proposing changes to India’s deposit insurance
system suggested that the paid up capital for each of the deposit insurance funds, one for the
commercial and another for the cooperative banks, should be Rs. 500 crore. However, the aggregate
amount of savings deposits with scheduled commercial banks stood at Rs. 199,120 crore on March 31,

19
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2000, and hence it is not obvious as to whether a Rs. 500 crore corpus would be enough to instil
confidence among depositors without invoking visions of implicit government guarantee.
33
An example of assets – from the creditors’ viewpoint – typically not covered by a deposit
insurance scheme is subordinated debt.
34
The optimal premium for any level of risk can be estimated using the methodology proposed
by Ronn and Varma (1986) which treats deposit insurance as a put option. The RBI committee
proposed that the banks be charged premia in accordance with the riskiness of their asset portfolios, as
indicated by their CAMEL ratings.
35
The RBI committee proposed that a bank’s deposits should not be covered unless it has a
minimum CAMEL rating of C, and it satisfies capital adequacy requirements as laid down by the RBI.
36
The RBI committee felt that the Indian deposit insurance system should continue to provide
coverage per deposit and not per depositor. However, it argued that certificates of deposits issued by
the banks, and deposits that were essentially cash collateral against bank loans should not be covered
by deposit insurance.

20
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37
The committee also suggested that deposits up to Rs. 90,000 should be insured completely,
but that any amount in excess of Rs. 90,000, and less than the cap of Rs. 100,000, should be insured to
the extent of 90 percent.

21
 
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38
The regulators in the USA, for example, continue to distinguish between a commercial and an
investment bank. But it allows bank holding companies to own financial institutions of various types,
thereby allowing de facto existence of a weak form of universal banking.
39
In general, there can be conflict of interest arising out of the different functions of an universal
bank (RBI, undated). For example, in order to ensure that the investment banking division of the bank
does not suffer underwriting losses, and thereby loss of reputation, an universal bank may be tempted
to use part of its deposit base to prop up the prices of the pre-existing securities of a firm whose new
security the bank is underwriting. This would expose the depositors of the banks to risk for which they
may not receive the appropriate risk premium.

22
 
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40
Laderman’s empirical analysis involving all possible combinations of bank holding companies
and nonbank financial companies in the USA indicated that the standard deviation of a bank holding
company’s return on assets declined with such exposure.
41
Note that if banks are allowed to make term loans, they would not face asset-liability
mismatch problem because they already have long term liabilities like term deposits on their balance
sheets. Indeed, if banks are allowed to make long terms loans, as in the current regime, it would
provide them with an alternative to holding illiquid long term government bonds to effect asset-liability
mismatch. However, if DFIs are allowed to tap short term funds, they would also have to be allowed to
make short term loans and own other short term assets so that they are able to avoid the aforementioned
mismatch.

23
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42
The Khan Committee’s report recognized the importance of risk management in a complex
financial organization, and emphasized the need to mandate extensive in-house risk management
capabilities for the post-evolution DFIs.

24
References

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GSQTIXMXMSR 7SQI MRWMKLXW JVSQ -RHMEz -RXIVREXMSREP .SYVREP SJ (IZIPSTQIRX

&EROMRK   

7XMVSL / . l'SQTSWMXMSREP H]REQMGW ERH XLI TIVJSVQERGI SJ XLI 97 FEROMRK

MRHYWXV]z *IHIVEP 6IWIVZI &ERO SJ 2I[ =SVO 7XEJJ 6ITSVX RS  

27
%44)2(-<

8EFPI 

28
8EFPI 

29
 *MKYVI 

Percentage listed at stock exchanges

120.0

100.0

80.0
Percent

60.0

40.0

20.0

0.0
1994-95 1995-96 1996-97 1997-98 1998-99 1999-00
Financial year

PSB OPvSB NPvSB

30
 *MKYVI 

Share of deposit base

10.0 85.0
9.0 84.0
8.0 83.0
7.0 82.0
Percent

Percent
6.0
81.0
5.0
80.0
4.0
3.0 79.0
2.0 78.0
1.0 77.0
0.0 76.0
1993-94 1994-95 1995-96 1996-97 1997-98 1998-99 1999-00
Financial year

OPvSB NPvSB FB NBFC (% of bank deposits) PSB

2SXI 8LI WLEVI SJ HITSWMXW SJ 47&W MW FIMRK QIEWYVIH SR XLI WIGSRHEV] E\MW

31
 *MKYVI 

Return on total assets

0.60
0.50
0.40
0.30
Percent

0.20
0.10
0.00
-0.10
-0.20
-0.30
-0.40
1993-94 1994-95 1995-96 1996-97 1997-98 1998-99 1999-00
Financial year

PSB OPvSB NPvSB FB

32
 *MKYVI 

Net interest margin as percent of total assets

4.5
4
3.5
3
Percent

2.5
2
1.5
1
0.5
0
1993-94 1994-95 1995-96 1996-97 1997-98 1998-99 1999-00

Financial year

PSB OPvSB NPvSB FB

33
 *MKYVI 

Operating cost as percent of total assets

4.00
3.50
3.00
2.50
Percent

2.00
1.50
1.00
0.50
0.00
1993-94 1994-95 1995-96 1996-97 1997-98 1998-99 1999-00
Financial year

PSB OPvSB NPvSB FB

34
 *MKYVI 

Intermediation cost as percent of total assets

4
3.5
3
2.5
Percent

2
1.5
1
0.5
0
1991-92 1996-97 1997-98 1998-99 1999-00
Financial year

PSB PvSB FB

35
 *MKYVI 

Net non-performing assets

3000 30000

2500 25000
Rupee crore

Rupee crore
2000 20000

1500 15000

1000 10000

500 5000

0 0
1994-95 1995-96 1996-97 1997-98 1998-99 1999-00
Financial year

OPvSB NPvSB FB NBFC PSB

2SXI 8LI ZSPYQI SJ 24%W SJ 47&W MW FIMRK QIEWYVIH SR XLI WIGSRHEV] E\MW

36
 *MKYVI 

Non performing assets of public sector banks

30

25
Number of banks

20

15

10

0
1994 1998 1999 2000
Financial year

MT20 10-TO-20 LT10

2SXI 18  QSVI XLER  TIVGIRX

83   r  TIVGIRX
08  PIWW XLER  TIVGIRX

37