Two day 'Gyan Sangam – A Retreat for Banks’ at SBI academy 'Gurukul', Gurgaon is over. Finance Minister Mr Arun Jaitley has hinted that government is going to set up an expert group to look into consolidation of public sector banks, as the country needs stronger banks rather than large number of banks.   Ramnath Pradeep, former chairman of Corporation Bank has suggested, “SBI, BoI and BoB should be merged to be among the largest banks in the world. The second step is merger of Canara Bank, Indian Bank, BoM, IOB and UBI to form the second largest bank. PNB, Vijaya Bank, Andhra Bank and IDBI can be merged to form the third largest. Allahabad Bank, Central Bank, Corporation Bank and P&S Bank should be the fourth largest. OBC, Syndicate Bank, UCO Bank and Dena Bank can become the fifth".

PSBs have since long adopted the concept of specialised branches to cater to the needs of large corporate borrowers and  mid corporate/SME sector. Ramnath Pradeep's suggestions are in this direction for the post consolidation era.  The expert committee on public sector banks consolidation should ponder over the innovative structure of banks. Having 20, or in its place, five nationalised banks will not serve the purpose if they do the same type of business, selling similar products and competing among themselves.

Let there be specialised banks: large banks for projects and infrastructure financing and having overseas presence; small and medium enterprise (SME) banks to meet the needs of the SME sector, thus aiding Make in India; retail banks that concentrate on the retail and priority sectors, tax collection and miscellaneous functions such as financial inclusion and subsidy distribution. Let the consolidation be based on the core strength of banks, existing and proposed, and their jurisdiction clearly demarcated.

As per RBI data, major portion of NPAs are from big corporates rather than the priority sector or retail advances. When banks  already have the specialised branches, then why the corporate loans are defaulting. Reasons may be varied, but banks have diluted the demarcated areas allowing small loans in large corporate branches and corporate loans in small branches, just not to let any business go away. Government should learn from past mistakes of banks and remain strict in the areas of operations.

The capital requirement of these banks should be stipulated. As the large banks would be competing with those around the world, their capital requirement should be according to Basel norms. SME banks would mainly work within India, so their capital requirement could be less than that of the large banks. Retail banks' capital requirement would be the least, as their operations would be local, and they would have government guarantee.

The government has promised to infuse fresh capital of Rs 25,000 crore into public sector banks this year (Rs 70,000 crore by 2019). Instead of giving this capital proportionately, let it be bifurcated into developmental capital and survival capital. The bigger chunk should be allotted as developmental capital and given to large banks and SME banks. Retail banks should be given only survival capital. This way the government would not have to shell out a large amount of funds and yet the social responsibility of public sector banks would be met.

To tide over the NPA problem, suggestions from different corners have emerged.   One is the creation of an India Revival Fund in line with the US Troubled Asset Relief Program (TARP) of 2008 under which US government, says Sunil Kanoria, vice-chairman, Srei Infrastructure Finance Limited, "bought stressed assets of US$426.4 billion, which helped financial sector to recover quickly. In 2014, TARP sold all its investment for $441.7 billion, thereby ending the programme without making any loss". On the similar lines in India, there are talks of forming a bad bank that will take over the non-performing assets of banks. For that, the government has to provide Rs 4 lakh crore, the estimated amount of NPAs as on March 31. This figure will rise till March 2017, the last date for cleaning up the balance sheets of banks. Making arrangements for such a proposition does not seem realistic.

The other suggestion is to permit standstill period of five years under Strategic Debt Restructuring (SDR). Reserve Bank has observed that in many cases of restructuring of accounts, borrower companies are not able to come out of stress due to operational/managerial inefficiencies despite substantial sacrifices made by the lending banks. In such cases, change of ownership is the preferred option. With a view to provide banks with enhanced capabilities to initiate change of ownership in accounts which fail to achieve the projected viability milestones, banks have been provided a new tool of ‘Strategic Debt Restructuring (SDR)’. Under SDR, lending banks convert debt into equity to become major shareholders in the borrower entity, then search for new promoters and divest the entire equity to new promoters. This entire process is required to be completed within a period of eighteen months. However, certain section of people wants this period to increase to five years.

 Banks are incurring losses due to higher provisioning on sick advances. This time they have somehow got by, as they have operating profits and margins on capital funds to fall back on. In the next quarter, operating profits would drop on account of increase in NPAs, causing some banks to register operating losses. The burden of entire provisions will then be upon capital funds. With the squeezing of capital, the scope of further lending will be reduced. Even if the government provides capital, that will get absorbed in provisions. The only alternative left is recovery, that too at the earliest, to keep funds rotating and the business of banks growing. The accounts identified under SDR are deadwood; giving them a five-year standstill period will lead to the death of banks.

The survival of public sector banks (PSB) depends on increasing income and reducing cost. In the present situation of an economic downturn, avenues for income enhancement are limited. The best way to reduce cost is through the merger of PSBs. The exorbitant establishment costs of similar products of one owner, the government, are not judicious. If this experiment does not work, then the age old adage should be allowed to have its way, “government should govern and not to do business” and the government should come out of financial services sector.