THE BANKING sector is all set to open up next year. It warrants that the existing players - be they the new, hi-tech local players or the good old, smaller yet hi-tech local players from the private sector or the public sector players, pull their socks up. The opening-up of the banking sector has implications for all these players.

The present scenario, characterised by hardening interest rate, spiralling inflation and depreciating Indian rupee (INR) will need a lot more time to register any improvement. So much so, it is believed in banking circles that by the time the ‘improvement phase’ settles in, the banking sector will have opened up. It is in this context the said players have to view the implications.

As of now, the existing players may have to resort to further belt-tightening, courtesy the Central bank. A CRR hike will definitely pinch their bottom line. Consequently, to mobilise additional resources, banks have to tap costlier sources of funds. Already it is proving difficult for banks to convince the depositors to stay put with them. Depositors are bitter with the banks since the real rate of return (the interest rate allowed by banks on deposits minus the inflation rate) on the money they park with the banks has been in the negative zone for some time. Banks therefore have willy-nilly raised the interest rate they allow on deposits. But the real interest rate is still in the negative zone. Where credit lines have been already committed, banks will find it a bit difficult to effect the actual disbursement.

As for public sector banks, the government may find itself pushed into a corner in the context of their liquidity needs. It is better that it brings down its stake from the current minimum of 51 per cent to 26 per cent. If the government insists on sticking to 51 per cent, then it has to allow the public sector banks to go to the market to raise capital. Even when the banks go to the market to raise resources the government has to contribute to the banks’ kitty to ensure that its level of stake, viz., 51 per cent does not come down. This is not going to be easy considering that the government does not have a deep pocket to dip into. Within the next six months, it has to pay out at least INR 20,000 crores to its employees by way of arrears and increased salaries, courtesy the Sixth Pay Commission (SPC) report. Within the next two years, it has to spend at least USD 12 billion since it has committed to host the Commonwealth Games, 2010. In the circumstances, there can be nothing sacrosanct about the government holding on to the 51 per cent level in banks’ capital. A 26 per cent stake is adequate to retain control over the banks. With 26 per cent, any special resolution that works against the interests of the government can be blocked. Additionally, should the banks act funny, there are adequate weapons in the RBI armoury, which the government can count upon.

Diluting the government’s participation in public sector banks to 26 per cent can help the latter in gaining a certain degree of autonomy. Wages can be deregulated. Employee compensation can be linked to productivity and as a result, it will become impossible to distinguish between public sector and private sector banks in terms of employee productivity. The current practice of spontaneously identifying public sector banks with the owner, viz, the government of India, should become obsolete. The ‘individual identity’ of the public sector bank concerned should stand out and not its constitution (viz, government-owned). However, instead of bringing down its stake to 26 per cent, if the government, as is its wont, issues non-SLR-status bonds to banks to help meet their balance sheet requirements, then it will be unfortunate since such bonds take the banks neither here nor there.

Not long ago, the boss of ‘Bata’, the well known footwear manufacturer, told the press after his company embarked on product diversification, ‘we also make footwear’. Similarly our banks should be in a position to say, ‘we also lend’ to drive home the message that they do a lot more than advance loans and accept deposits. In other words, it is not interest income alone that they should focus on. This helps even in a situation like the one that obtains right now. Q1 results of banks convince us that all banks have taken a hit in their treasury operations. All the same, some banks have bucked the trend and put up impressive performances thanks to their realisation that obsession with net interest margin (NIM) will take them nowhere in the prevailing situation. Their poor performance in the treasury department has been more than made up by stellar performance in fee-based activities (other income). Optimal management of NPA’s or non-performing assets has also helped. Exploitation of CASA (current accounts and savings accounts) has greatly helped some of the banks which have posted excellent financials during Q1.

Unfortunately, most of the banks have failed to exploit CASA. CASA will stand them in good stead in the post-liberalisation era set to dawn in the year 2009, as already said. Poor branch network in rural and semi-urban areas is the soft underbelly of foreign banks and they can never beat the public sector banks in their coverage of the said areas. This advantage should be leveraged by the public sector banks to mobilise CASA funds, the cheapest source of funds for them. Merinews has brought this to the notice of its readers on several occasions, its latest article on the subject being, ‘ICICI Bank grew aggressively in 2007-08’, dated April 27, 2008. Unfortunately, our public sector banks have been focusing on time deposits, often raising the said deposits at prohibitive costs. A CASA-focused bank will find it easier to tackle margin pressures.