BANKING SECTOR IN INDIA- AN OVERVIEW

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BANKING SECTOR IN INDIA- AN OVERVIEW

Introduction

            The Indian financial system in the pre-reform period (i.e., prior to the Gulf crisis of 1991), essentially catered to the needs of planned development in a mixed-economy framework where the public sector had a dominant role in economic activity. The strategy of planned economic development required huge development expenditure, which was met through the Government’s dominance of ownership of banks, automatic monetization of fiscal deficit, and, subjecting the banking sector to large pre-emptions – both in terms of the statutory holding of Government securities (statutory liquidity ratio, or SLR) and cash reserve ratio (CRR). Besides, there was a complex structure of administered interest rates guided by social concerns, resulting in cross-subsidization. These not only distorted the interest rate mechanism but also adversely affected the viability and profitability of banks by the end of the 1980s. There is perhaps an element of commonality of such a ‘repressed’ regime in the financial sector of many emerging market economies. It follows that the process of reform of the financial sector in most emerging economies also has significant commonalities while being specific to the circumstances of each country. A narration of the broad contours of reform in India would be helpful in appreciating both the commonalities and the differences in our paths of reform.

 

            These reform measures have had a major impact on the overall efficiency and stability of the banking system in India. The present capital adequacy of Indian banks is comparable to those at the international level. There has been a marked improvement in the asset quality with the percentage of gross nonperforming assets (NPAs) to gross advances for the banking system reduced from percenter cent in 1998 to 7.2 percent in 2004. The reform measures have also resulted in an improvement in the profitability of banks. The Return on Assets (ROA) of the banks rose from 0.4 percent in the year 1991-92 to 1 percent in 2003-04. Considering that, globally, the ROA has been in the range of 0.9 to 1.5 percent for 2004, Indian banks are well placed. The banking sector reforms also emphasized the need to review the manpower resources and rationalize the requirements by drawing a realistic plan so as to reduce the operating cost and improve profitability. During the last five years, the business per employee for public sector banks more than doubled to around Rs.25 million in 2004.

 

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