Thursday, September 13, 2007

C Rangarajan on bank consolidation

Former RBI Governor and Chairman of the PM's Council of Economic Advisors, C Rangarajan, takes stock of the Indian banking sector in the first R K Talwar memorial lecture instituted by SBI and the Indian Institute of Finance.

R K Talwar was the legendary chairman of SBI in the seventies and must rank among the most respected figures in Indian banking. Rangarajan rightly refers to his pioneering role in the financing of small firms.

Talwar was just as respected for his integrity. He fell foul of the Indira Gandhi regime during the Emergency. The story goes that Sanjay Gandhi wanted SBI to grant a loan to one of his cronies. Talwar was not willing to oblige. The SBI Act was amended to permit the removal of the SBI chairman before his tenure had ended. Talwar did not wait to receive marching orders: he proceeded on leave and subsequently resigned.

To come to Rangarajan's views on bank consolidation. I note that Rangarajan is guarded on the subject. Yes, there will be possibilities for mergers but these should be driven by the market, not by government dictat, nor should banks consider themselves doomed if they don't go in for bigger size through mergers.

As the bottom lines of domestic banks come under increasing pressure and the options for organic growth exhaust themselves, banks in India will need to explore ways for inorganic expansion. This, in turn, is likely to unleash the forces of consolidation in Indian banking. However, there are two caveats.

<>First, any process of consolidation must come out of a felt need for merger rather than as an imposition from outside. The synergic benefits must be felt by the entities themselves. The process of consolidation that is driven by fiat is much less likely to be successful, particularly if the decision by fiat is accompanied by restrictions on the normal avenues for reducing costs in the merged entity. Thus, any meaningful consolidation among the public sector banks must be driven by commercial motivation by individual banks, with the government and the regulator playing at best a facilitating role.

Second, the process of consolidation does not mean that small or medium sized banks will have no future. Many of the Indian banks are of appropriate size in relation to the Indian situation. Actual experience shows that small and medium sized banks even in advanced countries have been able to survive and remain profitable. These banks have survived along with very large financial conglomerates. Small banks may be the more natural lenders to small businesses.

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