What India can do to fix its crumbling banking sector

Businessmen can get away by declaring bankruptcy which leads to job losses for many people and an indirect financial burden on common masses.

 |  3-minute read |   13-03-2018
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Recently exposed scams of certain corporate groups in public sector banks have shaken the faith of depositors and raised a question mark on the overall functioning of the mainstream banking system.

These banking frauds will ultimately come back to hit the common man in the form of increased taxes that may be imposed on them to recover the money that the banks have been defrauded of.

The Punjab National Bank (PNB) has sought the shareholders' approval to raise funds from the government at a per-share issue price of Rs 163.38, almost 68 per cent higher than its stocks' closing price of Rs 97.75 on the Bombay Stock Exchange on February 27, and it may fall further.

Since the fraud of Gitanjali-promoter Nirav Modi at PNB has been unravelled, several other banks such as Allahabad Bank and Oriental Bank of Commerce have reported cases of loan defaults. In all likelihood, more such cases will surface soon.

This has lifted the veil from the vicious circle of financial bunglings that have been going on in the banking sector with an active collusion of banking officials and politicians, who sanction high-risk loans to their favourite corporate without proper risk assessment.

India ranks fifth among major global economies when it comes to countries with highest non-performing assets (NPAs). A non-performing asset is created when borrowers fail to honour their loans.

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As of March 2017, the NPA ratio against the total advances in India was 9.86 per cent, which is substantially higher compared to China's 1.7 per cent. During the last four years, the size of NPAs in India has increased 198.51 per cent. The amount which stood at Rs 2,394 billion in March 2014 mounted to Rs 7,148 billion in March 2017. NPAs are higher for public sector banks at 12.46 per cent as opposed to 3.5 per cent in private sector banks.

Numerous reasons like the slowdown of the economy, unprofessional scrutiny of projects, banking corruption and plutocracy could be said to be behind the huge NPAs, but the main problem is with the mainstream commercial banking sector.

There is hardly any scrutiny of whether loans sanctioned for a particular purpose are actually used for it. Banks can only lend and then wait for borrowers to pay interests and the principal back.

In the event of non-payment, while banks harass farmers and poor people to pay up, corporate honchos escape without paying by declaring themselves bankrupt. Banks only have to report these wilful defaults under NPAs to get done with their job.

This kind of fraud could worsen if the Financial Resolution and Deposit Insurance (FRDI) Bill becomes a law as it will do away with the security innocent depositors get from the government.

The present system is that of financial anarchy. It allows scamsters to take money from banks in the form of loans and direct it towards a luxurious life without paying back the lenders. This has been seen in the case of both Vijay Mallya and Nirav Modi.

Banks therefore need to evaluate the performance of businesses on regular basis so that failure or loss of funds can be detected early on.

Banks encourage the productive business activities that directly contribute to better economic growth and employment creation.

Recent cases of bank frauds have been reported from those in the diamond, liquor, and sports businesses, which are less productive and generally not associated with the welfare of masses. This is what banks must keep in mind.

Businessmen can get away by declaring bankruptcy which leads to job losses for many people and an indirect financial burden on common masses.

The participatory method of financing provides higher returns for depositors when profits are high and creates a scope for bailout in the eventuality of losses. It will go a long way in fixing the rot.

Also read: 7th Pay Commission: What no one will tell you

Writer

Shafeeq Rahman, PhD Shafeeq Rahman, PhD @shafeeqrahman

A New Delhi based researcher. Comments & Tweets reflect my personal view, not linked to any of my association.

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