SPECIAL ARTICLE Revisiting Bank Mergers Does Size Matter? Subhanil Banerjee The central government’s policy favouring bank mergers he drive towards bank merger in India began with the assumes enhanced efficiency of the merged banks recommendations of the Narasimham Committee on the Financial System in 1991. The committee’s recom- through economies of scale and scope. An econometric T mendations on merger were ignored at the time. They made a analysis of India’s scheduled commercial banks, stronger comeback in 1997–98 as part of the Narasimham however, establishes that in the Indian banking sector, Committee on Banking Sector Reforms’ recommendations on mergers may actually be detrimental to efficiency. This structural reforms. This time the government embraced the recommendations and paved the way for bank mergers (Bagchi paper argues that public sector banks were set up to and Banerjee 2005). serve the welfare needs of the underprivileged and to Apart from mobilising funds from savers to investors, in a promote financial inclusion, not to make profits. In the developing country like India, public sector banks (PSBs) are case of bank mergers, economies of scale and scope are expected to facilitate fi nancial inclusion and provide cheap loans to the poor, marginal farmers, small enterprises run by being used to veil the promotion of economies self-employed artisans and transport operators. The poor per- of exclusion. formance of the Indian banking sector in terms of fi nancial inclusion is evident in the speech of Usha Thorat, former deputy governor of the Reserve Bank of India (RBI): on an all-India basis ... 41% of the population is unbanked. In rural ar- eas the coverage is 39% against 60% in urban areas … [The] number of loan accounts constituted only 14% of [the] adult population … In rural areas, the coverage is 9.5% ... Regional differences are signifi - cant, with credit coverage at 25% for the southern region and as low as 7%, 8% and 9% respectively in [the] north-eastern, eastern and central regions … 89 million are farmer households. 51.4% of farm households have no access to formal or informal sources of credit, while 73% have no access to formal sources of credit … The share of moneylenders in the debt of rural households increased from 17.5% in 1991 to 29.6% in 2002. (Thorat 2007: 2–3) Iyer (2015: 20) also confi rms that “small and marginal farm- ers who own more than 80% of the agricultural holdings are ‘disturbingly’ becoming more indebted to the moneylenders.” It is apparent that the Indian fi nancial system has not only fall- en short of attaining meaningful fi nancial inclusion but also displays regional and urban–rural disparity and increased de- pendence on traditional moneylenders. Instead of considering these lacunae in the Indian fi nancial sector, the Indian govern- ment has been promoting bank mergers as a possible solution, on grounds of enhanced effi ciency through economies of scale I am indebted to Amiya Kumar Bagchi for his valuable comments and and scope. suggestions during the development of this paper. I am also grateful to Zakir Husain for his technical insights, and to Sailabala Debi, Ashok 1 Declining Welfare Role of Indian Public Sector Banks Kumar Sar, L K Vaswani, Rabi Narayan Subudhi, Prashant Parida, After the so-called fi nancial liberalisation, Indian PSBs have Jogendra Behera and Sankalpa Bhattacharjee for their encouragement skirted their welfare responsibilities. From 1969–70 to 2014–15, and belief in me. the total bank credit outstanding for all scheduled commercial Subhanil Banerjee ([email protected]) is a research scholar at the banks (SCBs) grew from `3,971 crore to `65,36,420 crore, and KIIT School of Management, KIIT University, Bhubaneswar, Odisha. aggregate deposits grew from `5,028 crore to `85,33,285 crore Economic & Political Weekly EPW FEBRuary 25, 2017 vol liI no 8 41 SPECIAL ARTICLE (RBI 2015: Table 48). Compare this staggering growth in credit rates, distancing themselves from the needs of common per- and deposits to the fact that only 53% of the adult Indian popu- sons and the underprivileged. Loans on consumer durables are lation had bank accounts in 2014 (Demirgüç-Kunt et al 2015)— at times interest-free, but such loans require a one-time pro- lower than what Thorat (2007) claimed—and defi nitely far cessing fee and are backed by high-value collaterals. Since fewer loan accounts than the 14% stated by Thorat (2007), and many types of personal loans are collateral-free, the higher it becomes obvious that the benefi ts of the Indian banking sys- percentage of personal loans signifi es the growing risk expo- tem have been skewed in the distribution. Indians bereft of sure of Indian PSBs. banking facilities comprise “marginal farmers, landless labour- The welfare role of PSBs has not been suffi ciently recognised ers, oral lessees, self-employed …” (Thorat 2007: 3). The Indi- by successive governments which, behind the veil of effi ciency, an Express, reporting National Sample Survey Offi ce (NSSO have “forced them to downsize their workforce and recapita- 2011) data stated that “51% of the country’s workforces are self- lised those PSBs whose non-performing assets were large” employed, while 33.5% are engaged as casual labour …” (Indian (Bagchi and Banerjee 2005: 1181). For example, in 1997–98 Express 2011). Hence, the majority of the working population— (when the Narasimham Committee on Banking Sector Reforms the self-employed and casual labourers—are not able to access was initiated), employees per branch in SBI and its associates the Indian banking system. Again, PSBs were set up not as profi t- (including administrative offi ces) numbered 23.16, which de- maximising bodies but to extend credit to small and marginal clined to 14.56 in 2012–13 (excluding administrative offi ces). farmers, small business holders and venture capitalists. In the Over the same time frame, employees per branch for other pre-liberalisation period (1975–76 to 1990–91), cumulative nationalised banks declined from 17.19 to 9.67 (RBI 1999, Tables 8 total credit (direct and indirect institutional credit, short- and and 33; RBI 2013, Tables B13 and B15). long-term) to agriculture and allied activities as a percentage of cumulative total credit by the SCBs was 17.06%. This decli- 2 Reasons for Financial Exclusion and Failure of ned in the post-liberalisation period (1991–92 to 2013–14) to Microfinance Institutions in India 13.07% (computed from RBI 2015, Tables 48 and 63). There are several reasons why microfi nance institutions (MFIs) Moreover, credit to agriculture and allied activities as a per- have failed to become a meaningful substitute to formal fi nan- centage of total credit of the State Bank of India (SBI) and its cial institutions for impoverished Indians. Ananth and Öncü associates, had increased from 8.72% (computed from RBI (2013) have illustrated that the rules imposed by the RBI and 1973, Table 4.1) in June 1973 to 17.09% (computed from RBI Government of India on the banking sector to extend formal 1991, Table 4.4) in March 1991, and declined to 11.73% (com- banking facilities to the underprivileged were mostly consid- puted from RBI 2014, Table 5.5) in March 2014. For small-scale ered a regulatory burden and the banks failed to anticipate industries, credit declined from 16.05% (computed from RBI prospective customers at the bottom of the pyramid. Norms 1973, Table 4.1) in June 1973 to 13.72% (computed from RBI such as “know your customer” jeopardised the situation fur- 1991, Table 4.4) in March 1991, and further to 4.99% (computed ther as impoverished Indians belonging mostly to the informal from RBI 2007, Table 5.5) in March 2007. For later years, the sector lacked the basic requirements to even get a formal in- data format has been changed and might not be comparable. troduction to the bank. Oblivious of the potential of these re- On the other hand, consumer durable credit and personal credit source-poor but high-potential customers, banks paid no at- (without housing credit) has increased from 2.22% (computed tention to designing customised savings products for them. from RBI 1973, Table 4.1) in June 1973 to 6.03% (computed from This led to the proliferation of informal fi nancial organisations RBI 1991, Table 4.4) in March 1991 and has further increased to through Ponzi schemes with false promises of abnormally high 9.98% (computed from RBI 2014, Table 5.5) in March 2014. returns that robbed customers of their last fi nancial resources. Outstanding credit to agriculture and allied activities as a Poor villagers often needed home loans, but because their percentage of total credit for the other nationalised banks had property rights are undefi ned, their properties cannot serve as increased from 9.45% (computed from RBI 1973, Table 4.1) in collateral and thus have no mortgage value. Informal money- June 1973 to 14.39% (computed from RBI 1991, Table 4.4) in lenders took advantage of this situation, charging higher inter- March 1991 and then declined to 13.62% (computed from RBI est on their loans and placing a huge interest burden on these 2014, Table 5.5) in March 2014. For small-scale industries, villagers. Landownership is also important in getting formal credit increased from 10.94% (computed from RBI 1973, Table credit (Kamath et al 2010). This keeps small and marginal 4.1) in June 1973 to 14.84% (computed from RBI 1991, Table farmers, share and hired tenants who have little or no land, 4.4) in March 1991 and then declined to 4.60% (computed beyond the consideration of formal credit.