RBI measures- Consolidation in the Banking Sector
At the outset it must be recognized that the improvements in efficiency of the financial sector in India, in particular banking sector have won the respect and admiration of most observers, including capital markets. The banking sector in India is poised for a quantum jump in productivity and scope for expansion in view of the competitive strengths acquired in Indian industry. Public sector banks have shown substantial improvements, though in view of their large presence and some institutional constraints, further progress in reform is desirable. The analysis in the Report on Trends and Progress of Banking in India a few weeks ago provides an excellent overview of problems, prospects, and areas for further reforms, and hence that will not be covered here. The ongoing efforts of RBI, in close co-ordination with Government and consultations with market participants, especially in moving up the policy as well as regulatory regimes to global standards, have been narrated in successive announcements on Monetary and Credit Policy statements by Dr. Rangarajan, Dr.Bimal Jalan, and most recently in the Mid-term Review. These narrations would indicate that RBI’s effort is to open up the economy, maximize benefits from globalization while minimizing risks and enable as well as equip banks to face global competition. This is an ongoing process and I believe we in India are better equipped now than ever before to globalise with a sense of confidence and pride. Having said this, it is useful to mention a few initiatives being considered by RBI at this juncture.
Governor Jalan in his Inaugural address to this forum in January 2001, said – "The long term vision for India’s banking system to transform itself from being a domestic one to the global level may sound far fetched at present. However, it is not beyond our capacity provided we have the will and the determination". It is interesting that this year, the subject chosen relates to globalization and perhaps I should enlist a few measures taken by RBI to demonstrate the will and determination to make our banking industry really global.
As mentioned by Governor Jalan in his address to this forum in 2002, "In financial systems worldwide, todays buzzwords are competition, consolidation and stability". There has been impressive stability and considerable competition in India but the process of consolidation in banking industry has just commenced. The issue of consolidation has been addressed by the Narasimham Committee Report on Banking Sector Reforms (1998) but the issue in regard to policy is yet to be pursued vigorously. There are three aspects to consolidation viz. clear cut legal and regulatory regime governing consolidation, enabling policy framework especially where several banks are owned by Government, and market conditions that facilitate such consolidation, recognising that all mergers and acquisitions may not necessarily be in the interests of either the parties concerned or the system as a whole.
As regards the legal framework, the Reserve Bank is not very comfortable with lack of clear statutory provision regarding takeover of management of banks. In 1970, the Reserve Bank had issued directions to the banks requiring them to seek the Reserve Bank’s permission or acknowledgement before effecting any transfer of shares in favour of any person which would take the holding of shares to more than one per cent (subsequently raised to five per cent) of the total paid up capital of such banking company. Since shares are acquired first and then lodged for registration, the Reserve Bank’s directions create a somewhat piquant situation. To plug the gap, a Bill has now been introduced in the Parliament relating to banking regulation. The RBI’s proposals in this regard should reasonably take care of takeover of the management by one from another and Reserve Bank will have appropriate regulatory power to satisfy itself that persons proposing to acquire such shares are fit and proper persons.
The procedure for amalgamation of two banking companies under Section 44A of the Banking Regulation Act, 1949 (the Act) is easy to follow and cost effective. After the two banking companies have passed the necessary resolution in their general meetings representing not less than two third value of the shareholding of each of the two banking companies, proposing for the amalgamation of one bank with another bank, such resolution containing scheme of amalgamation is submitted to the Reserve Bank for its sanction and if sanctioned, by an order in writing by the Reserve Bank, is binding not only on the banking company concerned, but also on all shareholders thereof. While sanctioning the scheme of amalgamation, the Reserve Bank takes into account the financial health of the two banking companies to ensure, inter alia, that after the amalgamation, the new entity will emerge as much stronger bank. The experience of the Reserve Bank has been by and large satisfactory in approving several schemes of amalgamation in the recent past.
These provisions, however, do not apply to the banks in public sector, viz., the nationalised banks, State Bank of India and its subsidiary banks. As regards the nationalised banks, the Act authorises the Central Government, after consultation with Reserve Bank, to prepare or make a scheme, inter alia, for transfer of undertaking of a corresponding new bank (i.e. a nationalised bank) to another corresponding new bank or transfer of whole or part of any banking institution to a corresponding new bank. Under this procedure, the New Bank of India was amalgamated with Punjab National Bank but the experience in this regard was considered to be not altogether satisfactory. Unlike the sanction of schemes by the Reserve Bank under Section 44A of the Act, the scheme framed by the Central Government is required under Section 9(6) of the Nationalisation Act to be placed before the two Houses of Parliament.
The State Bank of India Act, 1955, empowers the State Bank of India with the consent of the management of any banking institution (which would also include a banking company) to acquire the business, including the assets and liabilities of any bank. Under this provision, what is required is the consent of the concerned bank and the approval of the Reserve Bank and the sanction of such acquisition by the Central Government. Several banks were acquired by the State Bank of India by invoking this section.
Section 23A of the Regional Rural Banks Act, 1976 (RRBs Act), empowers the Central Government, in consultation with the NABARD, concerned State Government and sponsored bank, to amalgamate two RRBs, by issue of notification in the official gazette, with such liabilities, duties and obligations as may be specified in the notification. As in the case of amalgamation of a nationalised bank under Section 9(2) of the Nationalisation Act, every notification under this section is also required to be laid before both the Houses of Parliament.
Of course, in the case of a banking company in financial distress and having been placed under the order of moratorium, on an application being made by the Reserve Bank to the Central Government under sub-section (2) of Section 45 of the Act, the Reserve Bank can frame a scheme of amalgamation for transferring the assets and liabilities of such distressed bank to a much better and stronger bank. Such a scheme framed by the Reserve Bank is required to be sanctioned by the Central Government and has to be notified in the official gazette. As in case of amalgamation sanctioned by the Central Government under the Nationalisation Act and RRBs Act, the notification issued for compulsory amalgamation under Section 45 of the Act is also required to be placed before the two Houses of Parliament.
One area of concern to the Reserve Bank is amalgamation of non-banking companies with banking companies as the law does not impose any obligation on the part of such non-banking company (for that matter, even of the concerned banking company) to seek the Reserve Bank’s regulatory approval before filing the scheme of amalgamation in the High Courts under Sections 391 of the Companies Act, 1956. To take care of these gaps, Reserve Bank has proposed some amendments to the legislation on Banking Regulation Act that amalgamation of a non-banking company with a banking company will be made by following the similar procedure which is applicable for amalgamation of two banking companies.
[Extract from the Inaugural Address by Dr.Y.V.Reddy Governor, Reserve Bank of India at Twenty-Fifth Bank Economists’ Conference (BECON- 2003) on 11th December, 2003]