Banking Sector Reforms in India Since 1991

Before 1991, the Indian banking system faced financial repression, high reserve requirements, directed credit allocations, political interference, and inadequate capital. High Cash Reserve Ratio (CRR) and Statutory Liquidity Ratio (SLR) pre-empted over half of bank deposits for government funding. Pre-1991 interest rate controls suppressed bank profitability, resulting in low asset quality and uncompetitive financial institutions. The 1991 balance of payments crisis prompted structural economic reforms, making banking sector modernization essential for economic stabilization and credit expansion.

First Generation Reforms (Narasimham Committee I – 1991)

The Committee on the Financial System, chaired by former RBI Governor M. Narasimham, submitted its report in November 1991. The committee laid the foundation for market-oriented banking operations, operational autonomy, and financial health restoration.

Reduction in Statutory Pre-emptions

• The committee recommended reducing the Statutory Liquidity Ratio from 38.5% to 25% over a phased timeline.
• The Cash Reserve Ratio was recommended to be lowered from 15% to 3–5% to release commercial capital for productive economic sectors.
• Lowering these ratios increased loanable funds with banks, improving liquidity and interest-earning capacities.

Interest Rate Deregulation

• The Reserve Bank of India deregulated interest rates on deposits and advances in a phased manner.
• Banks gained authority to determine lending rates above a prime lending rate based on risk assessments rather than administered interest schedules.
• Interest rates on domestic term deposits were deregulated, allowing market forces of supply and demand to dictate interest structures.

Prudential Norms and Capital Adequacy

• Prudential norms were introduced in April 1992 covering Income Recognition, Asset Classification, and Provisioning (IRAC norms).
• Assets were categorized into four distinct classes: Standard, Sub-standard, Doubtful, and Loss assets.
• Capital Adequacy Ratio (CAR) norms based on Basel I guidelines were mandated at 8% against risk-weighted assets, achieved by all public sector banks by 1996.

Entry of Private and Foreign Banks

• RBI issued guidelines in January 1993 allowing new private sector banks to establish operations, ending public sector dominance.
• Licensing of private entities introduced competitive practices and advanced operational technology into commercial banking.
• Foreign banks were permitted to expand branch networks and enter joint ventures with Indian partners.

Legal Infrastructure for Debt Recovery

• Parliament passed the Recovery of Debts Due to Banks and Financial Institutions Act in 1993.
• The law established specialized Debt Recovery Tribunals (DRTs) and Debt Recovery Appellate Tribunals (DRATs) to expedite default recoveries.

Second Generation Reforms (Narasimham Committee II – 1998)

The Committee on Banking Sector Reforms, also headed by M. Narasimham, submitted its report in April 1998. The second phase focused on strengthening financial infrastructure, structural re-organization, capital adequacy, and non-performing asset (NPA) management.

Capital Adequacy and Narrow Banking

• The committee recommended raising the target Capital to Risk-Weighted Assets Ratio (CRAR) from 8% to 9% to align with global standards.
• Risk weights were introduced for government securities to reflect sovereign market risk accurately.
• For weak public sector banks with high non-performing assets, the committee advocated narrow banking, directing funds into risk-free government securities.

Management of Stressed Assets

• The committee targeted reducing gross NPAs across commercial banks to 3% by 2002.
• It recommended establishing Asset Reconstruction Companies (ARCs) to take over bad loan portfolios from commercial bank balance sheets.
• This recommendation led directly to the enactment of the SARFAESI Act in 2002.

Regulatory Autonomy and Governance

• The committee advised separating the RBI’s dual roles as regulator and owner of public sector banks.
• Pursuant to these recommendations, the RBI transferred its equity shareholding in State Bank of India, National Housing Bank, and NABARD to the central government.
• The Board for Financial Supervision (BFS) was established within the RBI in 1994 to streamline institutional oversight.

Modern Structural and Institutional Reforms

Asset Quality and Stressed Asset Resolution

• The RBI launched the mandatory Asset Quality Review (AQR) in 2015, forcing banks to identify hidden non-performing assets transparently.
• Parliament enacted the Insolvency and Bankruptcy Code (IBC) in 2016, establishing a time-bound, creditor-in-control resolution process.
• The government created the National Asset Reconstruction Company Limited (NARCL) in 2021 as a bad bank to aggregate and resolve stressed debt.

Consolidation and Governance of Public Sector Banks

• The central government executed large-scale bank mergers, reducing the number of Public Sector Banks from 27 in 2017 to 12 in 2020.
• The Indradhanush Plan was launched in 2015, covering seven strategic areas: Appointments, Board of Directors, Capitalization, De-stressing, Empowerment, Framework of Accountability, and Governance Reforms.
• The Banks Board Bureau (BBB), established in 2016, was restructured into the Financial Services Institutions Bureau (FSIB) in 2022 to select top management for public sector financial entities.

Differentiated Banking and Digital Infrastructure

• Following the Nachiket Mor Committee recommendations (2013), the RBI introduced specialized niche banking licenses: Payments Banks and Small Finance Banks.
• The introduction of the Unified Payments Interface (UPI) by the NPCI in 2016 transformed retail electronic payments across the banking sector.
• Under Pradhan Mantri Jan Dhan Yojana (PMJDY) launched in 2014, over 50 crore basic savings bank accounts were opened to achieve universal financial inclusion.

Comparative Summary of Major Banking Reform Committees

Key Facts and Data Summary

• The Statutory Liquidity Ratio (SLR) was reduced from a high of 38.5% in 1991 down to statutory minimum limits over two decades.
• The Cash Reserve Ratio (CRR) was lowered from 15% in 1991 to help banks increase lending capacity.
• The RBI issued licenses to 10 new private sector banks in 1993, including ICICI Bank, HDFC Bank, and Axis Bank (formerly UTI Bank).
• Basel I norms were adopted in India in 1992 with an 8% capital adequacy requirement.
• The SARFAESI Act was passed in 2002, enabling banks to auction residential or commercial properties to recover bad loans without court intervention.
• The Insolvency and Bankruptcy Code (IBC) was enacted in 2016, setting a statutory maximum timeline of 330 days for corporate insolvency resolution.
• Under the 2020 mega-merger scheme, ten public sector banks were consolidated into four large institutions, bringing the total number of PSBs to 12.
• Payments Banks are restricted from issuing credit cards and accepting fixed deposits, with individual deposit limits set at ₹2 lakh per customer.
• Small Finance Banks must deploy at least 75% of their Adjusted Net Bank Credit (ANBC) to priority sector lending targets.