“Having done two rounds of bank consolidation earlier, this is what we want to do for a robust banking system and a $5-trillion economy. We are trying to build next-generation banks, big banks with the capacity to enhance credit”
Union Finance Minister Nirmala Sitharaman
THE CONTEXT: On 30th August 2019, Union Finance Minister announced the consolidation of state-owned banks (PSBs) in which 10 PSBs being merged to form 4 bigger banks. The move was aimed at clean up of the Bank Balance Sheets and creating lenders of global scale that can support the economy’s surge to $5 trillion by 2024. The key factors for the mergers were - Technological platform, Customer reach, Cultural similarities, and Competitiveness.
ABOUT THE MERGER
In a merger, there is an anchor bank and an amalgamating bank or banks, where the latter gets merged with the former.
Banks to be merged resultant bank size.
1. Punjab National Bank (PNB) will take over Oriental Bank of Commerce (OBC) and United Bank of India (UBI). It will create a second largest state-owned bank with Rs 17.95 lakh crore business and 11,437 branches. These three banks are technologically compatible as they use Finacle Core Banking Solution (CBS) platform.
2. Canara Bank will subsume Syndicate Bank. It will create the fourth largest public sector bank with Rs 15.20 lakh crore business and a branch network of 10,324 branches.
3. Andhra Bank and Corporation Bank will merge with Union Bank of India. It will create India’s fifth largest public sector bank with Rs 14.59 lakh crore business and 9,609 branches.
4. Allahabad Bank will become part of Indian Bank. It will create the seventh largest public sector bank with Rs 8.08 lakh crore business with strong branch networks in the south, north and east of the country.
5. The mega merger has left untouched six other banks out of which two are national banks and the four have regional focus. The untouched banks are Bank of India, Central Bank of India, Indian Overseas Bank, UCO Bank, Bank of Maharashtra and Punjab & Sind Bank which will continue as separate entities as before.
6. With these series of mergers the number of state-owned banks is down to 12 from 27.
RATIONALE BEHIND THE BANK MERGER
The government chose these banks on the basis of ensuring that there is no disruption in banking services and that these banks benefited from higher current and savings accounts (CASA) and greater reach. Moreover, banks have been merged on the basis of likely operating efficiencies, better usage of equity and their technological platform.
It has listed out three broad gains out of the current consolidation exercise: increased capacity to lend, strong national presence and global reach and operational efficiency gains to reduce cost of lending.
In the past, the government and the RBI had discussed potential mergers taking into account banks that operated in a particular geographical region or had strengths in such regions.
In the currently proposed mergers, this argument may apply mainly to the Bengalaru-based Canara Bank and Syndicate Bank. In the PNB-led merger, Oriental Bank is also a Delhi-based lender, while the strengths of midsized banks such as Andhra Bank and Corporation Bank in the South may complement Union Bank that has a stronger presence in the West and elsewhere.
For Indian Bank, a conservative bank and one of the few to have reported profits, the high CASA of Allahabad Bank is bound to help. That will imply cheaper source of funds.
For years, expert committees starting from the M Narasimham Committee have recommended that India should have fewer but bigger and better-managed banks to ensure optimal use of capital, efficiency, wider reach and greater profitability. The logic is that rather than having several of its own banks competing for the same pie (in terms of deposits or loans) in the same narrow geographies, leading to each one incurring costs, it would make sense to have large-sized banks.
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.The government said this merger has been “a good learning experience” as profitability and business of the merged entity has improved.
The creation of more large-sized banks will mean the RBI will have to improve its supervisory and monitoring processes to address increased risks.
MAJOR CHALLENGES AHEAD:
The government highlighted BOB,Vijaya Bank and Dena Bank merger as a success story with 'wide ranging benefits'. BOB and SBI merger and current mergers are different.
First, the SBI merger with associates was an easy one as associate banks were part of the SBI network, culture, technology umbrella and also synergy in management. The SBI chairman used to be the chairman of associate banks.
Similarly, the BOB merger was different as the government brought in two professionals -- P S Jayakumar, a former Citibanker and Ravi Venkatesh, former chairman Microsoft India, who completely transformed the bank with new technology, digitisation, tie-ups with Fintechs, lateral talent and new products.
These four mergers are completely different from one another. They all are facing similar issues like falling profitability, asset quality deterioration, ageing work force and being laggards in digitisation.
PROS AND CONS OF BANK MERGERS
· With the large scale expertise available in every sphere of banking operation, the scale of inefficiency which is more in case of small banks, will be minimized
· A larger bank can manage its short and long term liquidity better. There will not be any need for overnight borrowings in call money market and from RBI under Liquidity Adjustment Facility (LAF) and Marginal Standing Facility (MSF)
· In the global market, the Indian banks will gain greater recognition and higher rating
· With a larger capital base and higher liquidity, the burden on the central government to recapitalize the public sector banks again and again will come down substantially
· Multiple posts of CMD, ED, GM and Zonal Managers will be abolished, resulting in substantial financial savings
· Bank staff will be under single umbrella in regard to their service conditions and wages instead of facing disparities.
· Larger banks may be more efficient and profitable than smaller ones and generate economies of scale and scope. Furthermore, the reorganisation of the merged bank can have a positive impact on its managerial efficiency. The efficiency gains may lead to lower cost of providing services and higher quality as the range of products and services provided by larger banks is supposedly wider than what is offered by smaller banks. Experience in some countries indicates cost efficiency could improve if more efficient banks acquire less efficient ones.
· Consolidation may facilitate geographical diversification and penetration towards new markets. Big banks are usually expected to create standardised mass-market financial products. The merging banks may try and extend marketing reach and enhance their customer-base.
· Most of the problems arising due to mergers and acquisitions are more emotional and social in nature than technical or managerial.
· Compliance needed in every decision which might not be favorable as thinking perspectives and risk taking abilities of different organizations are different. It leads to friction and rift which, if not managed well may lead to the downfall of the organization as a whole.
· Banks are merged only on papers. Their people and culture are difficult to change. It is a recipe for disaster as it leads to poor culture fit not ideal for the organization or the economy.
· Impact of customers on banking merger or acquisition is often quite emotional. If customer perception is not managed with frequent and careful communication it may lead to loss of business which is never good for the Economy.
· Many banks focus on regional banking requirements. With the merger the very purpose of establishing the bank to cater to regional needs is lost.
· Large bank size may create more problems also. Large global banks had collapsed during the global financial crisis while smaller ones had survived the crisis due to their strengths and focus on micro aspects.
· With the merger, the weaknesses of the small banks are also transferred to the bigger bank.
· Empirical evidence suggests that financial consolidation led to higher concentration in countries such as US and Japan, though they continue to have much more competitive banking systems as compared with other countries. However, in several other countries, the process of consolidation led to decline in banking concentration, reflecting increase in competition.
BANK MERGERS BOOST ECONOMY?
Reduced number of NPAs should help in curbing bad loans
Increase CASA of banks (Current Account Savings Account balance) should increase capacity to lend
Increased ability to absorb shocks by the stronger banks. This should help in reaping economies of scale
Fewer banks could improve operational efficiency and management quality. This should help the center track, monitor and control effectively.
Fewer banks mean stronger national presence and global reach.
Larger size of the Bank will help the merged banks to offer more products and services and help in integrated growth of the Banking sector.
Banks are indeed the backbone of the economy in their role in credit intermediation. Fewer but larger banks will help the Centre monitor their performance better, ease credit decisions and facilitate quicker restructuring or resolution plan in a consortium in the event of defaults.
Not helpful for economy - Arguments.
The four merged entities have more than 10% of their loan exposure towards NBFCs which is likely to inhibit the flow of credit
The capital profile and asset quality of the ‘stronger’ banks are in a poor state. The merger of weak banks with stronger ones could turn counterproductive.
There is a lack of synergy among the amalgamated banks which is not very promising
The restructuring of banks can create unrest in bank employees (even though government has reassured). This could result in fewer bank branches and impact job opportunities, ultimately detrimental to the economy
The combined personnel and non-performing debt of the merged banks could impact the interim profitability.
Size alone won't guarantee better results. The largest, SBI, is a classic example.The largest bank doesn't figure in the top quartile in terms of performance.
Former RBI Governor Y V Reddy had said the idea that consolidation of banks will solve the problem of public sector banks is not correct. According to him, if the problem is structural and of governance, it does not matter whether the banks are large or small. For sure, bank mergers are not the only solution to re-stabilize the dwindling Indian economy. The government/authorities must take adequate steps to – increase consumer spending power and improve the market sentiment – to boost the economy.
Product differentiation is completely missing and it seems the technology platform was one of the major drivers for deciding the banking mix of banks. Experts suggest there should be a differentiation in terms of product category, say SME or emerging corporate focused banks or purely retail banks or large corporate bank. Currently, there are specialised banks in the market. For instance, HDFC Bank, Kotak Bank etc are emerging as retail banks. There is a Bandhan Bank and host of Small Finance Banks who are focused on catering to unbanked and underserved segments of micro loans.
The PSB model of banking with government ownership, control and also lending support to government's agenda (priority sector, financial inclusion, Mudra etc) has been a big stumbling block for bringing about a change in their functioning.
The merger announcement doesn't address the core structural and fundamental issues plaguing the PSBs. The setting up of Bank Board Bureau (BBB) in the NDA-1 was path-breaking, but this model was not pursued to its logical end. The power of BBB was restricted only to appointments of senior management and directors.The government didn't extend BBB's scope to human resource (HR) reforms, NPA and stressed assets resolution, risk management etc.
This announcement has given power to bank boards and also offers operational flexibility in hiring from the market, but the question is whether the talent would be willing to join a PSB. Market linked compensation is a big challenge for PSBs to offer.
v Bank mergers don’t address crux of crisis:
The nexus between lenders, borrowers and election funding. CEOs of public banks tend to be under structural pressures as members of the Government of India ask them to lend some money to industrialists. The nexus between businessmen and politicians is based on a classic exchange of favours: The former help the latter to get access to credit in return for funds for election campaigns. There is need of more rigorous management autonomy under the aegis of a robust regulator.
Mergers are important for the consolidation and expansion purpose that is why in today’s scenario many private sector banks are genuinely interested in mergers and acquisition. However,merger creates variety of problems which can cause great damage if the process of merging is not executed properly.
If merging is needed it must be executed in a manner which leads to an environment of trust and agreement among the people of both the organizations. If people, work culture and vision are blended together nicely, merging will definitely have synergic effects and create a win-win situation.
BANK CONSOLIDATION IN INDIA (Historical Perspective)
A committee under the chairmanship of Maidavolu Narasimham (13th Governor of RBI) was constituted in 1991 and again in 1998 to recommend reforms required in banking sector.
Narsimhan Committee 1991 Recommendations: (Structural Reorganizations of the Banking sector)
Actual numbers of public sector banks need to be reduced
It recommended mergers to form a three-tier structure
· Three to four big banks including SBI should be developed as international banks
· Eight to ten banks having nationwide presence should concentrate on the national and universal banking services.
· A large number of Regional Banks focusing on agriculture and rural financing.
· No further nationalization
· Liberal entry norms for private and foreign banks
Narsimhan Committee 1998 Recommendation: (Strengthening Banks in India) It recommended the merger of strong banks which will have 'multiplier effect' on the industry.
v PJ Nayak Committee in 2014 had also suggested that government either merge or privatize state-owned banks.
PROCEDURE OF MERGING
Bank mergers are regulated under the Banking Regulation Act, 1949.
Any two public sector banking entities can initiate merger talks, but the scheme of the merger must be finalized by the government in consultation with the RBI and it must be placed in the Parliament.
Parliament reserves the right to modify or reject the mergers.
Recently, the government has put in place an Alternative Mechanism Panel headed by the Finance Minister to oversee merger proposal of PSBs. The other members of the panel are Railway Minister and Defence Minister.
It is made to fast-track consolidation process to create strong lenders.The first proposal was the merger of Bank of Baroda, Vijaya Bank and Dena Bank.
HISTORY OF MERGERS IN INDIAN BANKING
Merger & Nationalization during the period from 1961-1969: The period is called pre-nationalization period because in 1969 the government nationalized 14 private banks. As many as 46 mergers took place mostly of private sector banks in order to revive the poorly performing banks which proved to be quite a successful move for the underperforming banks.
The period from 1969-1991: The period was called post-nationalization period. It saw six private banks being nationalized in 1980. In this period 13 mergers took place mostly between public and private sector banks.
The post liberalization period, which stretches from 1991-2015, saw major economic reforms initiated by Government of India. Many new policies were framed. Greater FDI and foreign investment was allowed which saw resurgence in Indian Banking. As many as 22 mergers took place - some to save weaker banks and some for the sake of synergic business growth.
Bank Mergers (1993-2004): The merger of Oriental Bank of Commerce with Global Trust bank in 2004 saved the latter after its net worth had wiped off and also handed OBC a million depositors and a decent market in South India. Mergers of Punjab National Bank (PNB) with the then eroded New Bank of India (NBI) in 1993-94 and that of Benaras State bank Ltd with Bank of Baroda in 2002 also proved to be life saving for the weaker bank.
Bank Mergers & Consolidation 2008-2010: SBI first merged State Bank of Saurashtra with itself in 2008. Two years later in 2010, State Bank of Indore was merged with it. SBI had approved separate schemes of acquisition for State Bank of Patiala and State Bank of Hyderabad.
Consolidation of Banks (2015-2017) – This phase saw five associates of SBI and Bhartiya Mahila Bank getting merged in SBI. The vision was to have strong banks rather than having large number of banks.
Merger of Banks 2018- The government had merged Dena Bank and Vijaya Bank with Bank of Baroda, creating the third-largest bank by loans in the country in 2018.
1. The government’s decision to consolidate 10 Public Sector Banks (PSBs) into four mega state-owned lenders will act as a building block for achieving $ 5 trillion economy target. Examine.
2. Discuss in detail rationale behind recent merger of 10 Public Sector Banks (PSBs) into four bigger banks. Also highlight few challenges in achieving its objective.