After doing mergers of several public sector banks, the government is planning for a second round of merger. Analyse how consolidation of banks can help in addressing the existing problems of the banking sector.

September 9, 2023 February 21, 2024

The central government in the past few years has extensively focused on merging smaller banks with larger ones to form a consolidated entity. Now the government is planning for a second round of merger of banks. The aim of the government is to form 4 to 5 banks which are as large and strong as the State bank.

This has brought into focus the role of consolidation of banks as a solution for problems of the banking sector.

Problems in banking sector:

  • Non-performing assets.
  • Lack of capital – affects lending.
  • Fragmentation of resources – branches, staff, ATMs.
  • Poor coverage in rural areas.
  • Overstaffing, lack of rationalization.
  • Lack of financial expertise – especially while disbursing loans.

Role of consolidation in addressing these problems:

  • Consolidation will help in taking adequate haircuts/rationalization of loans/NPAs.
  • Will give access to a wider capital pool for lending activity.
  • Expand reach of branches/ATMs to unbanked areas.
  • Eliminate fragmentation (presence of large number of banks in some areas, lack in other areas).
  • Lead to better quality of staff training – provide technical expertise, help eliminate chances of bad loans.
  • Overhaul of administration and scope for fresh ideas in leadership/management.

Concerns:

  • Consolidation should not deviate banks from welfare obligations (opening of JanDhan accounts in the rural areas).
  • Interests of staff should be taken into account.
  • Should be accompanied by governance/management reforms.
  • Larger capital leads to larger lending exposure which in turn leads to more risks – adequate precautions to be taken.

While consolidation of the banking sector will lead to greater synergy and coordination, it should be ensured that adequate precautions are taken to avoid financial distress to large capital banks.

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