RBI Released the Discussion Paper on ‘Banking Structure in India – The Way Forward’

The Reserve Bank of India on 27 August 2013 released the Discussion Paper on ‘Banking Structure in India – The Way Forward’. 

Primary Features of the Discussion Paper on ‘Banking Structure in India – The Way Forward’

• The paper focuses on certain building blocks for the reorientation of the banking structure with a view to addressing various issues such as enhancing competition, financing higher growth, providing specialised services and furthering financial inclusion.
• The paper also emphasised the need to address the concerns arising out of such changes with a view to managing the trade off for ensuring financial stability.
• The paper discussed that the overall thrust of the reorientation is to impart dynamism and flexibility to the evolving banking structure, while ensuring that the structure remains resilient and promotes financial stability.

Crucial issues covered by the Discussion Paper on ‘Banking Structure in India – The Way Forward’

• Small banks vs. large banks: The paper discussed how small local banks play an important role in the supply of credit to small enterprises and agriculture and banking services in unbanked and under-banked regions in India. However, while permitting large number of small banks, there are certain issues which need to be addressed suitably and these issues include their size, numbers, capital requirements, exposure norms, regulatory prescriptions, corporate governance and resolution.
• Universal Banking: The paper discussed that the universal banking model remains the dominant and preferred model in most of the post crisis world because of the failure of many investment banks during the crisis. In this banking model, the Financial Holding Company (FHC) structure offers a range of benefits and therefore becomes a preferred model. The paper discussed that there is a need of promoting investment banks as well as investment banking activities. 
• Continuous Authorisation: The RBI, in its paper discussed that there is a case for reviewing the current ‘Stop and Go’ licensing policy and consider adopting a continuous authorisation policy, as continuous authorisation keeps the competitive pressure on the existing banks and also does not strain the banking system as the block licensing may do. The entry norms should however be stringent in order to encourage the entry of only well-qualified entities. 
• Conversion of UCBs into commercial banks: The RBI in its paper discussed the possibilities of converting the UCBs to commercial banks or small banks in order to help them reach the regions that are characterised by poor banking outreach.
• Consolidation: The RBI suggested, in its paper that taking into account the pros and cons of consolidation, it has to be taken into consideration that while consolidation of commercial banks with established synergies and on the basis of voluntary initiatives is welcome, it cannot be imposed on banks. A measured approach is to be made both on consolidation and global presence even if attaining global size is not imminent.
• Presence of Foreign Banks in India: The importance of the foreign banks in India has increased tremendously after the crisis. Domestic incorporation of these banks through the route of subsidiarisation has gained momentum. 
• Presence of Indian Banks at International Locations: The RBI suggested local incorporation by large banks either individually or in joint venture mode with other banks or with overseas banks, at the international locations. This will enable the large Indian banks to engage in a much wider range of activities and have greater potential for growth. Eventually, this may facilitate banks increasing their global reach.
• Government Ownership: The Central Bank suggested that optimal ownership mix in the banking sector is required to promote a balance between efficiency, equity and financial stability. The Government of India may consider options from menu of choices available such as issue of non-voting equity shares or differential voting equity shares, adopting FHC structure or diluting stake in PSBs.
• Deposit Insurance and resolution: The RBI, in its paper discussed that the existence of an effective resolution regime is essential for any type of banking structure India may pursue. The FSB key attributes could be the guiding principles for setting up a resolution framework in India.
• Indicative reorientation of the banking structure: The RBI suggested that the reoriented banking structure would comprise four tiers. The first tier may consist of three or four large Indian banks with domestic and international presence along with branches of foreign banks in India. The second tier is likely to comprise several mid-sized banking institutions including niche banks with economy-wide presence. The third tier may encompass old private sector banks, Regional Rural Banks, and multi state Urban Cooperative Banks. The fourth tier may embrace many small privately owned local banks and cooperative banks.

The need of Discussion Papers by the Reserve Bank of India

The need of reviewing the banking systems has been taken up by various jurisdictions, primarily after the global meltdown. The motive of current exercise in reviewing the banking structure in India is to put forth various options to enable the banking system to cater to the needs of a growing and increasingly globalising economy. 

Various studies have been undertaken in order to examine whether the nature of the banking structure matters for the economic growth of a country.

In the light of all this, the Reserve Bank of India issued guidelines for licensing of new banks in the private sector on 22 February 2013. In those guidelines, it was stated that there was a need for an explicit policy on banking structure in India, keeping in view the recommendations of the Narasimham Committee, Raghuram Rajan Committee and other viewpoints.