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Last Friday (15 November) at the annual Bankers' Conference (Bancon) in Mumbai, Finance Minister P Chidambaram called for more innovative business models in banking. As the man who controls more than 70 percent of the Indian banking system – the public sector banks – one would have thought he should be asking himself this question: why are public sector banks unable to innovate?
Chidambaram said: "I sincerely hope that when new bank licences are given out, they are given to people with innovative models. It will be a pity if the new banks are clones of existing banks...We need different kinds of banks to cater to different segments of Indian society."
He's right, of course, on this observation, but wrong is presuming that he has not contributed to this atrophying of innovation. The main reason why we have undifferentiated banking in India is the heavy hand of government. Combine that with regulatory over-caution, and you will only get clones of the same banking business model.
Before we discuss the issues raised by Chidambaram more fully, it is worth pointing out that banking models have indeed been innovated upon ever since the private sector was allowed in in the 1990s. Internet banking and seamless trading, any branch banking, and large scale retail banking are all innovations brought about with the entry of private competition. Today, thanks to technology, almost any financial or physical product can be bought or financed by the click of a mouse, and banks today are the biggest custodians of investor wealth, having seamlessly integrated banking, broking and demat accounts.
Chidambaram should be asking why his own public sector banks were so slow to adopt technology that private sector banks easily walked away with their best customers.
A related issue is how will the unbanked get banked, if all banks follow the same net margins-based model based on "class" banking? How is it that the public sector banks, once the pioneers in mass banking after nationalisation, are also aping the private banks?
The answer is simple: government ownership is the biggest barrier to innovation. It is impacting the pace of innovation even in private sector banks because competition is weak from public sector banks. Private sectors banks look super efficient primarily because public sector banks are so poorly run. The latter are racking up huge amounts of bad loans based on politically mandated lending to favoured sectors, with crony capitalists being indulged endlessly.
Public sector banks need high spreads between lending and borrowing rates to hide bad loans, and the private sector is happy to use this same spread to make super profits. When super profits can be earned in the shadow of inefficient public sector banking, why should private banks take risks with innovative business models?
Government ownership also comes with low levels of financial and managerial autonomy. Consider State Bank and HDFC Bank. Since its inception, HDFC Bank has had only one CEO, Aditya Puri – that's nearly 20 years at the helm. As against that, SBI has had around 10 chairmen weaving in and out since 1994, and, with one exception (OP Bhatt), they had tenures ranging from as little as two months to an average of two-three years. Which SBI Chairman will think of anything innovative if he (or she) has just a two-year entitlement to the chair? Forget innovation, even long-term vision will go out of the window.
To make matters worse, Chidambaram himself has been making arbitrary announcements and decisions that make nonsense out of bankers' autonomy.
For example, a new form of inclusive banking took hold when non-bank finance companies started lending against gold. The Reserve Bank and Chidambaram banned banks from selling gold and curtailed lending against it, killing off growth in this business. Is it the FM's business to decide which businesses banks should do or not do?
In his last budget, Chidambaram announced the creation of a women's bank – without any thinking on why women need a separate bank.
Chidambaram has also been pressuring banks to cut lending rates at a time when inflation is still high. Is it his business to tell banks what to do?
If banks are told how much to lend and to whom, at what rate to lend and for what tenures, where is the scope for innovation? The only way to ensure innovative banks is to do the following.
One, start reducing government holdings in banks to below 51 percent. At 51 percent, public sector banks will always be under the thumb of the finance ministry – and hence will be unable to innovate. The Bank Nationalisation Act has to be amended to privatise government banks one by one.
Two, we need sharp, but differentiated, regulation. If we need different kinds of banks with different models, we need differential regulation too. India already has a large variety of banks – from commercial banks to cooperative banks to regional rural banks to urban banks – but regulation is either the same or diffused. We need wide banks (that do everything) and narrow banks (that only collect deposits), we need urban banks and rural banks, we need wholesale banks and retail banks, and we need non-bank financial institutions – the works. We also need a path of migration from one form of banking to another – and back.
Three, the new banks to be created in the public sector – the women's bank and the Post Bank of India – can be used to create innovative models. For example, why can't the Post Bank, instead of trying to be a full-fledged bank be a narrow banks that merely collects deposits and sells financial products? It can then lend wholesale money to those who need it. Why can't the women's bank be a focused lender to women's self-help groups and women entrepreneurs? Women even today no problem in saving money with banks; it is in receiving loans they may be discriminated against – if at all.
Many ideas are possible, but innovative thinking must start at the finance ministry – which has been unwilling to let go of its control of banks.
Chidambaram himself may be happy to privatise a few public sector banks, but his government is a dyed-in-the-wool believer in public ownership. Like the CBI, our public sector banks are "caged parrots" answerable to different masters – politicians, the RBI, investors, and North Block, among others. Little wonder, there is little innovation.
The writer is editor-in-chief, digital and publishing, Network18 Group
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