RBI research paper seeks ‘gradual’ privatisation of banks

New Delhi: Researchers from the Reserve Bank of India’s (RBI) economic and policy research department wrote in a paper that a “big bang” strategy to privatising public sector banks (PSBs) may be counterproductive given their significant role in the transmission of monetary policy and financial inclusion.

“Against the backdrop of these findings (on the role of PSBs), a big bang approach of privatisation of these banks may do more harm than good,” said the article by Snehal S Herwadkar, Sonali Goel and Rishuka Bansal. The government has already announced its intention to privatise two banks.

“Such a gradual approach would ensure that large scale privatisation does not create a void in fulfilling important social objectives of financial inclusion and monetary transmission,” the article, published as part of the central bank’s bulletin for August 2022, added.

PSB lending patterns are less pro-cyclical than those of commercial banks, allowing counter-cyclical monetary policy measures to gain momentum. Even if the private sector has been more effective at profit maximisation, PSBs have a better track record than their peers in the area of financial inclusion, according to the article.

However, a disclaimer states that views expressed in the piece are those of the authors and do not represent that of the RBI.

The authors claim that the essay attempts to provide a different viewpoint on the subject of PSB privatisation “by taking inspiration from the strands of literature that justify the role of PSBs on various grounds.”

According to the paper, PSBs have improved the transmission of monetary policy, which has helped countercyclical monetary policy initiatives take off. “During the last easing cycle, for example, their reduction in lending rates was substantially higher than that of PVBs. At the same time, their deposit rates were relatively stickier,” it added.

The paper noted that PSBs have contributed to greater social aims by playing a significant role in monetary transmission, but the ensuing higher net interest margins (NIMs) of private banks is an evidence of their profit maximisation ambition.

The report noted that compared to commercial banks, PSBs routinely give a greater share of their total lending to agriculture and industry. Cooperative banks and regional rural banks (RRBs) have seen a decline in their proportion of agriculture lending over time, whereas PSBs have seen an increase. According to the report, PSBs account for the majority of infrastructure lending, and their function has been particularly significant given the demise of former development financial institutions.

According to the report, PSBs have a disproportionately large number of bank branches in semi-urban and rural areas, reflecting their dedication to the goal of financial inclusion. They also predominate in satisfying rural communities’ credit needs.

Private banks have made some headway in rural areas, but their development is still sluggish. For instance, PSBs have a greater share of ATMs in rural areas than private banks do.

The highest among the bank groups, the percentage of PSBs at business correspondent (BC) outlets in rural areas has continuously maintained above 60% throughout the years, according to the report. On the other hand, private banks have adapted the urban BC concept.

The analysis used in the paper demonstrated that, with the exception of 2016, PSBs’ labour cost efficiency was higher than that of private banks in most years. According to the study, PSBs’ superior cost efficiency can be attributed to their effective use of the banking BC model in conjunction with other cost-effective strategies. “This suggests that incurring lower cost on labour, the PSBs can achieve higher level of production,” it claimed.

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