Insights into Editorial: Big bank theory: On Public Sector Bank mergers
In second set of major policy announcements to address economic concerns, Union Finance Minister Nirmala Sitharaman announced merger of six public sector banks (PSBs) with four better performing anchor banks.
This comes as a mega banking realignment by the Narendra Modi government in order to streamline their operation and size.
For its sheer magnitude, the scale and the ability to disrupt the status quo, the mega bank mergers announced by Finance Minister Nirmala Sitharaman must go down as the most significant the banking industry has seen in the five decades since nationalisation.
Number of public sector banks in India is 12:
The Oriental Bank of Commerce (OBC) and the United Bank of India (UBI) have been merged into the Punjab National Bank (PNB). The PNB will now be the second largest PSU bank after the State Bank of India, which earlier saw a similar consolidation with all its associates merging with it.
The Syndicate Bank has been merged with the Canara Bank while the Andhra Bank and Corporation Bank will be merged with the Union Bank of India.
Besides this, the Allahabad Bank will merge into the Indian Bank. This will make it the seventh largest state-owned bank in India.
With this announcement of merger of banks, the total number of PSU banks will come down to 12. Before 2017, when the government rolled out bank-merger plan, the number of public sector banks in India was 27.
Last year, the government had merged Dena Bank and Vijaya Bank with Bank of Baroda, creating the third-largest bank by loans in the country.
Bank employees stage protest against Centre’s merger plan:
Members of the All India Bank Employees’ Association staged a protest here against the Centre’s decision to merge 10 public sector banks into four entities.
Employees of all public and private sector banks wore black badges to work as a mark of protest to the government’s decision.
The Association’s General Secretary said the government’s move was “ill timed” and needs a review.
They alleged the merger of public sector banks would mean closure of six banks.
However, Finance minister allayed fears of job losses following the proposed merger of public sector banks, saying not even one employee shall be removed following the amalgamation.
Challenges that requires immediate Attention:
- Narasimhan Committee in late 1990s had recommended shutting down of the weaker banks and not merging them with the strong ones as is being done now.
- Current mergers may face more friction. In the present case, the mergers are mostly among larger banks, with absorbing bank not necessarily in strong health.
- However, given the merged banks are on similar technology platform, the integration should be smoother.
- Further initially there will be more focus on management streamlining, which would impact the loan growth and reduce focus on strengthening asset quality in the short term.
- The key reforms to be made are at the board level, including in appointments, especially of government nominees. Professionalism in governance is a key to the success not just the size of the banks.
- It has been argued that a failure of a very large bank may have adverse impact on the economy as witnessed during the financial crisis of 2008. The 2008 crisis highlighted that presence of large financial institutions pose systemic risk to the economy and such institutions are too big to fail.
- Although It enables the consolidated entities to meaningfully improve scale of operations and help their competitive position.
- However, at the same time, there will not be any immediate improvement in their credit metrics as all of them have relatively weak solvency profiles.
- While there may be some geographical synergies between the banks being merged, unless they realise cost synergies through branch and staff rationalisation, the mergers may not mean much to them or to the economy.
- Further, in event of any such crisis in future, the onus would lie on the government to bail out the institutions, thus posing a moral hazard.
Other Reform Measures needed:
Out of the 10 banks that the government has decided to merge to create four, nine have net non-performing assets (NPAs) of over 5%. Only Indian Bank’s net NPA is below 5%, at 3.75%, as on March 31, 2019.
United Bank of India, for example, has a net NPA of 8.67% as on March 31 with provision coverage ratio (PCR) of only 51.17%. As a result, the merged entity will have a net NPA of 6.61% and PCR of 59.59%.
United Bank of India is also under the prompt corrective action framework (PCA) of the RBI due to high NPA.
The amalgamation will require harmonisation of asset quality and provisioning levels among the merging banks and may spike the credit provisions this year as was seen in the recent merger of Bank of Baroda.
Given the sizeable capital infusion being announced for amalgamating banks, the merger was unlikely to be credit negative for merging banks.
Other reform measures were aimed at increasing the engagement of non-official directors, allowing bank boards to reduce or rationalise the number of committees, and increasing the effectiveness of the directors on the Management Committees of Boards by increasing the length of their terms.
Finance Minister said the government was planning no more banks mergers after the current announcement. The FM said the earlier bank mergers had resulted in rapid growth, high profit and valuation gains.
Finance Ministry mentioned that banks would play an important role in making India a $5 trillion economy, for that they needed more lending capacity so they could provide better services using modern technology.
Consolidation is the way forward. The FM said with the merger of these banks, the bigger banks would focus on international markets, while middle-level banks would focus on the national market.
Along with merger the focus should be on adequate reforms in governance and management of these banks.