Banking Sector Reforms

Banking Sector Reforms

The Banking Industry in India has made a remarkable progress since nationalization of private commercial banks. A number of innovations were made in the field of social banking. Starting with the policy intervention by the Government of India to regulate the flow of bank credit into the priority sectors, poverty alleviation programs were financed by the banking system. In fulfilling these objectives, the profitability of the baking sector has declined after the second phase of nationalization. It has also suffered serious decline in productivity and efficiency. It is possible to defend the low profitability and poor financial conditions of public sector banks by referring to their commitment to social obligations such as, opening rural branches, setting up and subsidizing Regional Rural Banks, financing IRDP and other poverty alleviation programs at concessional rate of Interest. These arguments hold good, to a large extent, to the private sector scheduled commercial banks too. But these banks are making more profits than public sector banks.

Need for Banking Sector Reforms

The major causes for poor profitability of public sector banks are therefore to be seen in political and administrative interference to consumer services. The vicious trade union activities, which periodically paralyze the banking system. More over banks are faced with the problem of rising cost of operation, uneconomic branch expansion etc. Because of server reasons profits have been squeezed and some of the public sector banks have been in the red for so many years. What ever be the causes of poor profitability, it is highly important that this state of affairs is rectified through reforms. Now we shall discuss the need for banking sector reforms with the following points.

• Directed Investment : Under statutory liquidity ratio (SLR) and cash reserve ration (CRR), banks had to keep as much as 25% of deposits. These funds have to keep in the form of government securities, which yield a low on interest. RBI had to pay 10.5% of the cash reserve kept by commercial banks with it under CRR and 5% on incremental cash balances. But these rates of interest were far below than the interest rate on one-year deposits. Thus, it led to continuous loss in potential income of banks that in turn, has adversely affected their profitability. Hence, it calls for reforms n this respect. 
• Directed Credit Programs : One of the major objectives of nationalization of banks in 1969 and 1980 was to the extent of the bank credit to the priority sector. The centre and the states directed public sector banks to continue to extend credit to sick industrial units. As a result, public sector banks have suffered badly. Hence, it required remedial measures to avoid or prevent the recurrence of these things. The system of government-directed credit program was hailed as a success during two decades since nationalization but this was achieved at the cost of banks. It was also no proper appraisal of credit applications, no collateral requirements and no post credit supervision and monitoring.
• Poor Capital Base : In banking, no less than in other business enterprise survival and growth depend on capital resources and their efficient use. A bank itself has on obvious responsibility ot its depositors and its shareholders to be capitalized in a prudent manner. In recent years the demand for capital in banking worldwide has raised to unprecedented levels. One argument for the low productivity and profitability of the Indian banks has been that the capital assets ratios of Indian banks are much lower than the international standard. It has been less than one percent in case of most of the Indian banks as against their counter parts in other countries having it more than 4 per cent. This has necessitated the need for improving the capital base. 
• Political Interference : The most serious damage to the banking system and one which contributed most to the decline of portfolio quality was the political and administrative interference in credit decision making. For instance, loan melas organized by the political leaders to direct bank credit to their supporters in rural and urban areas were contrary to the principal of sound banking. As much as 20 percent of agricultural and small industrial credit was infected or contaminated portfolio. 
• Unviable Rural Branches : The public sector banks have opened more number of branches in rural areas and many of them have not been able to attain viability. Hence, there was a need to revolve new guidelines for branch expansion. 
• Organizational Structure : Financing by banks necessitates modified organizational structure, pragmatic operational policies, sophisticated controlled mechanism and skilled personnel  for the overall strength of the banking system. Financing under non-availability of timely credit to meet the credit needs of borrowers have become a usual complaint against the banks. This is often because of lack of coordination between branch managers and the technical officers who are responsible for assessing the viability of schemes / projects. All these problems call for a through recognization of organization structure in the banks.
• Poor Customer Service : A number of complaints levelled against the banks in respect of the quality of customer service. Hence, there is a need to tone up the organizational systems and introduce new management techniques among the commercial banks. 
• Mounting Expenditure : Over the last two decades of Nationalization, there has been mounting expenditure due to the following reasons. 

1. Rapid growth of staff in number and accelerated promotions - this had led to deterioration in the quality of manpower, over manning at all levels etc.
2. Trade unions contributed to the restrictive practices regarding work culture, mechanizaiton and computerization etc.
3. Remuneration and upward revisions are not related to the productivity of the banking system.

• Institutional Overlapping : Institutional overlapping of different financial agencies in the rural areas has been the reason for some confusion as to operational areas, double financing, unhealthy competition, etc. A precise demarcation of geographical boundaries defining the areas with which different financial institutions like the commercial banks, regional rural banks and cooperative banks have to operate is immediate necessity.
• Problem of Recoveries : Mounting overdue and raising bad debts have pushed the public sector banks towards losses. Naturally this will have the effect of curtailing the recycling of funds which inturn affect the profitability of the banks. 

Thus, despite several problems, the commercial banks in India have made remarkable progress. But they were unable to meet the challenges of a competitive environment. Hence, there is a need for reforms in banking sector to overcome the above problems and to build a strong and efficient financial system. With a view to keep financial and banking sector more efficient.