The Reserve Bank had released the discussion paper on licensing of new banks in August 2010, seeking views of banks, NBFCs, industrial houses, other institutions, and the public.
The discussion paper reviewed the international and Indian experience on various issues and also indicated possible approaches with the pros and cons of each of the approaches.
Thereafter, detailed discussions were held with various associations of stakeholders from the industry, banks, NBFCs, and MFIs and some consultants in October, 2010.
In the Budget 2011-12, Finance Minister Pranab Mukherjee had said the RBI plans to issue guidelines for the grant of new banking licences.
The RBI was hoping that the legislation would go through in the Budget session but it got curtailed.
Financial sector employees and workers joined a strike by trade unions on September 7 2012 with a specific objective: to oppose a possible government decision to expand the presence of domestic and foreign private banks in India’s banking sector. The immediate provocation for their action was a “discussion paper” released by the Reserve Bank of India (RBI) delineating the “pros and cons” of permitting such an expansion. The objectives of permitting private entry noted by the paper are the oft-repeated ones: (i) the size and sophistication of the banking system needs to increase to accommodate the needs of a modern economy; (ii) the geographic coverage of the banks needs to be extended; and (iii) banking needs to be made more inclusive with increased access to banking services for all.
Though the RBI does not support a change in policy, the note is bringing the issue back to the table.
Now, The government has formally asked the Reserve Bank of India (RBI) to start the process for issuing new private bank licences and promised to put in place the necessary legal structures sought by the central bank no later than the budget session of Parliament.
Finance Minister P Chidambaram told reporters on Thursday 22nd nov that the government had written to the central bank to finalise the licence guidelines and start receiving applications
Let us see the pros & cons of the entry of new private bankers particulrly in priority sector lending
since lending to rural producers in a manner that is inclusive involves lending relatively small sums to a large number of remotely located borrowers. This inevitably raises transaction costs and given market or government determined ceilings to interest rates charged on priority sector credit, profits tend to be low or at times negative. If lending to rural borrowers has to be profitable it has to be at extremely high interest rates (as is the case even with microfinance institutions) that discourages the use of such credit for productive activities. If not, low profits or losses on such lending have to be cross-subsidised with profits earned by lending to other lucrative markets. The result would be lower profits on average, which public sector banks may be willing or persuaded to accept, but private banks, domestic or foreign, are unlikely to tolerate. Hence the inherent tendency among the latter is to circumvent norms with regard to lending to the priority sectors or to disadvantaged groups. Suggesting then that allowing entry of new private sector banks would make the financial system more inclusive is to go against both logic and experience.
If at all competition is being encouraged it must be for other reasons. But this too is surprising since competition in the financial sector has associated with it the potential for increased fragility. If easier entry conditions lead to competition between similarly placed financial firms, they would seek to attract depositors by offering higher interest rates. This forces them to lend to sectors offering higher returns which normally are sectors undertaking risky investments in pursuit of larger profits. When the principal financial intermediaries attract depositors by paying higher interest rates, there is an imperative to invest in assets offering high returns that are also risky and prone to default.
Moreover, as the experience in a number of countries shows, the liberalization of entry conditions, especially for foreign investors, does not lead to increased competition but to consolidation. The RBI’s discussion note recommends removing or diluting controls on the entry of new financial firms, subject to their meeting pre-specified norms with regard to capital investments. This aspect of liberalization would apply to both domestic and foreign financial firms, and caps on equity that can be held by foreign investors in domestic financial firms are likely to be gradually raised and done away with. Easier conditions of entry do not automatically increase competition in the conventional sense, since liberalization also involves freedom for domestic and foreign players to acquire financial firms and extends to permissions provided to foreign institutional investors, pension funds and hedge funds to invest in equity and debt markets. This often triggers a process of consolidation.
Let us see what happens in future.
The discussion paper reviewed the international and Indian experience on various issues and also indicated possible approaches with the pros and cons of each of the approaches.
Thereafter, detailed discussions were held with various associations of stakeholders from the industry, banks, NBFCs, and MFIs and some consultants in October, 2010.
In the Budget 2011-12, Finance Minister Pranab Mukherjee had said the RBI plans to issue guidelines for the grant of new banking licences.
The RBI was hoping that the legislation would go through in the Budget session but it got curtailed.
Financial sector employees and workers joined a strike by trade unions on September 7 2012 with a specific objective: to oppose a possible government decision to expand the presence of domestic and foreign private banks in India’s banking sector. The immediate provocation for their action was a “discussion paper” released by the Reserve Bank of India (RBI) delineating the “pros and cons” of permitting such an expansion. The objectives of permitting private entry noted by the paper are the oft-repeated ones: (i) the size and sophistication of the banking system needs to increase to accommodate the needs of a modern economy; (ii) the geographic coverage of the banks needs to be extended; and (iii) banking needs to be made more inclusive with increased access to banking services for all.
Though the RBI does not support a change in policy, the note is bringing the issue back to the table.
Now, The government has formally asked the Reserve Bank of India (RBI) to start the process for issuing new private bank licences and promised to put in place the necessary legal structures sought by the central bank no later than the budget session of Parliament.
Finance Minister P Chidambaram told reporters on Thursday 22nd nov that the government had written to the central bank to finalise the licence guidelines and start receiving applications
Let us see the pros & cons of the entry of new private bankers particulrly in priority sector lending
since lending to rural producers in a manner that is inclusive involves lending relatively small sums to a large number of remotely located borrowers. This inevitably raises transaction costs and given market or government determined ceilings to interest rates charged on priority sector credit, profits tend to be low or at times negative. If lending to rural borrowers has to be profitable it has to be at extremely high interest rates (as is the case even with microfinance institutions) that discourages the use of such credit for productive activities. If not, low profits or losses on such lending have to be cross-subsidised with profits earned by lending to other lucrative markets. The result would be lower profits on average, which public sector banks may be willing or persuaded to accept, but private banks, domestic or foreign, are unlikely to tolerate. Hence the inherent tendency among the latter is to circumvent norms with regard to lending to the priority sectors or to disadvantaged groups. Suggesting then that allowing entry of new private sector banks would make the financial system more inclusive is to go against both logic and experience.
If at all competition is being encouraged it must be for other reasons. But this too is surprising since competition in the financial sector has associated with it the potential for increased fragility. If easier entry conditions lead to competition between similarly placed financial firms, they would seek to attract depositors by offering higher interest rates. This forces them to lend to sectors offering higher returns which normally are sectors undertaking risky investments in pursuit of larger profits. When the principal financial intermediaries attract depositors by paying higher interest rates, there is an imperative to invest in assets offering high returns that are also risky and prone to default.
Moreover, as the experience in a number of countries shows, the liberalization of entry conditions, especially for foreign investors, does not lead to increased competition but to consolidation. The RBI’s discussion note recommends removing or diluting controls on the entry of new financial firms, subject to their meeting pre-specified norms with regard to capital investments. This aspect of liberalization would apply to both domestic and foreign financial firms, and caps on equity that can be held by foreign investors in domestic financial firms are likely to be gradually raised and done away with. Easier conditions of entry do not automatically increase competition in the conventional sense, since liberalization also involves freedom for domestic and foreign players to acquire financial firms and extends to permissions provided to foreign institutional investors, pension funds and hedge funds to invest in equity and debt markets. This often triggers a process of consolidation.
Let us see what happens in future.
