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Janmejaya Sinha: The importance of being independent

The committee set up under P J Nayak to review the governance of boards of banks in India submitted its report recently to the Reserve Bank of India (RBI). The essential prognosis of the committee was that the financial position of public sector banks (PSBs) in India was fragile and in need of urgent attention. They correctly identify the problems under which PSBs operate due to the nature of their ownership, the Parliamentary Act they operate under, the excessive controls that the government exercises, the poor quality of their board membership and the onerous compulsions of complying with the oversight of India’s vigilance apparatus – Central Vigilance Commission, Comptroller Auditor General, Central Bureau of India. It is amply demonstrated that PSBs have done the bulk of the balance sheet business in India and more than 75 per cent of all lending sits on PSB books. Due to the downturn in the Indian economy and the number of infrastructure projects that are currently stuck, the impact on the health of PSB balance sheets is all the greater, and so their share of non-performing assets (NPAs) is disproportionately higher. The committee may have been a little too harsh in assessing their frailty at this moment of time when the economy is in a downturn and infrastructure projects are stuck. In fact, over 2,200 of the 5,200 projects of over Rs 150 crore, which were started since 2007, are stuck for want of clearances, and 64 per cent of restructured assets of the industry are in the core sectors – steel, power, telecom, infrastructure and textiles – on account of policy infirmities. Nevertheless, the need for creating an agenda for change that the committee highlights cannot be understated.

The committee has not highlighted the benefits of the first flush of reform PSBs underwent in the early part of the century – when they were allowed to list, go onto CBS, reduce NPAs, develop a profit mindset and undergo substantial transformation. Thereby, they become much more efficient in their cost-income ratio, which came down below 50 per cent, and they managed eight times as much business as a decade ago with less manpower. However, the committee’s underlying prognosis is not wrong and the need to reform PSBs must be an important agenda item for the new government. The issues the committee highlights are correct – PSB boards are poor, the government stake at 51 per cent carries great externalities and limits their ability to act. India and PSBs deserve better and the committee’s reference to Axis Bank as a great example of a future model PSB is appropriate. I completely agree and have argued before (most recently “Near national treatment for public sector banks” Business Standard, December 11, 2013) for the need to corporatise PSBs and State Bank of India, and take them out of the current Act of Parliament under which they operate. In fact, IDBI Bank operates under a different Act. Again, I have often argued before for fixed tenures of chairmen and directors, together with more market-linked compensation and reduction of government ownership below 51 per cent.

However, the one issue on which I disagree with the committee is the structure of its solution. It is surprising that the committee did not stay with the analogy of Axis Bank, but went on to create what I believe is an unduly complex and unnecessary solution of a bank investment company (BIC) and a bank boards bureau (BBB). Both may lead to the creation of the same problems that the committee seeks to avoid. Why do we want to shift all government holding into a central bank investment committee? Why can’t these banks be allowed to operate like other banks? The nomination committee of the board will pick the CEO and compensation will be market-based. When we can allow independent banks with independent boards to run their banks, all we need is that the government stake be brought below 51 per cent. I think it is simpler and more effective, after corporatising these banks, to reduce the government’s stake in each of the banks to, say, 25 per cent, than create a BIC. This one step simply addresses the issues that the committee wants to tackle.

There are too many hurdles in creating a BIC in the sovereign wealth fund mode to manage the government’s stake in these enterprises, when the national consensus remains that the government has the largest stake in PSBs. Also, creating a BBB to select the CEOs of these banks, especially with its composition of former senior bankers, smacks more of the final revenge of the bankers on the IAS, than being efficient for the banks. This power must go to empowered bank boards.

Another area that I did not see much need was creating a different class of investors called authorised bank investors with the right to hold a higher limit of 20 per cent. If required, the investment limit for non promoters could be pegged at 10 per cent. Further, in respect of distressed banks to allow private equity (PE) funds to acquire 40 per cent represents more hope than experience. In the recent North Atlantic financial crisis, I did not see PE funds coming in to invest in the US or UK banks when they ran into trouble. Personally, I would advise caution with PE ownership of banks at any time.

But overall, the report is timely and addresses a key critical issue. We need to address the serious stress PSBs in India are currently under and cannot brush the main issue of the government’s 51 per cent ownership under the carpet anymore. The Axis Bank model provides the appropriate blueprint for PSBs. The government should move to corporatise PSBs and bring its ownership below 51 per cent as early as possible. The time is now.

The writer is chairman, Asia Pacific, BCG. These views are personal


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