#63 Public or Private?
Revisiting the age-old argument in Indian banking
Bank privatisation is the news again.
More specifically, news about the government trying to sell IDBI bank has reached international headlines as well.
I’m assuming you’ve opened this newsletter to understand where it all began, or at the very least, the context behind bank privatisation. Let’s dive right in.
It all started on an eventful day of July 19th, 1969, when in a sudden unexpected move, the headlines looked like this:
Citing an excerpt from Raghuram Rajan’s essay “An Alternate Vision for India’s growth”,
…we have examples of decisions taken by charismatic leaders without much public (or even intra-government) debate or protest. These include the 1969 bank nationalizations, the 1975 Emergency, and the 2016 demonetization. Few would argue these turned out well for India.”
The fourteen banks that were nationalised:
What does it mean?
Nationalisation essentially means transferring a particular entity from private control to public or state-owned control. In essence, these private banks were suddenly controlled by the government, overnight.
Why was it done?
Of course, there are a lot of political intricacies involved, but the official reasoning given by the then Prime Minister over All India Radio was that “they (the banks) served merely the interests of crony capitalists and hardly bothered with the vast farm sector.”
By having government control, the state could direct resources and impact the livelihoods of farmers and other under-banked population.
One should definitely read up on all the drama that unfolded and quirks that followed in a span of 72 hours (the duration in which this idea was planted, written and executed)":
My favourite is this one:
How was it received?
Despite the fact that economists and political leaders still debate over it, as expected, the management of these banks were furious. They even went up to the Supreme Court to challenge the decision. It was also promised that no further nationalisation would follow.
However, considering the move was pretty successful from a political angle, Indira Gandhi went on to nationalise 6 more banks eleven years later, 5 of which doesn’t even exist today (they’ve all been merged). The only one remaining is Punjab and Sind Bank.
So if they’re supposed to be a success,
Why is the government trying to privatise banks again?
Political reasons are less documented than economic ones. Hence, some members of the Opposition have called out for a white paper, asking to explain their rationale. Once we understand the motives, it becomes easier to identify which banks should be first in line for privatisation.
So it’s important to ask the right questions:
Is the privatisation driven by the desire to reduce government influence on banking? Or is it simply driven by the need to reduce the proportion of government resources going towards banking?
In this case, it would make sense to reduce the stake in weak lenders where the government keeps infusing money.
From the latest Budget Speech,
“An amount of ₹80,000 crore in 2017-18, ₹1,06,000 crore in 2018-19 and ₹65,443 crore in 2019-20 was infused for recapitalisation of Public Sector Banks (PSBs). For this purpose, a provision of ₹15,000 crore has been made in 2021-22”
This is a huge drain on government resources and cutting off the bad apples makes sense here.
Is the government doing this to raise resources for its budget or is it more a signal?
If it’s raising money, then a large well-functioning bank with actual buyer interest would make sense.
As of today, the government is testing the waters with IDBI Bank, which is currently valued at ~₹47,000 crore. At this valuation, sale of 61% would fetch the government a cool ~₹29,000 crore.
However, the government (along with LIC) would still hold 34% post the sale - will any buyer take the risk of controlling an entity with such a large government stake? Will the assurance of not vetoing any resolution assuage investors?
"There should not be any such concern. If we are selling a 60.72 per cent stake and transferring management control, it should be clear to investors that we are not interested in controlling the institution and hence will not oppose any resolution," an official said. - (Source)
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What does economists have to say?
A paper by economists Poonam Gupta and Arvind Panagariya released this year actually started this debate all over again.
I’ve tried to summarize the points made by the two authors below (zoom in to avoid squinting)
In essence, their conclusion is pretty straight-forward: All pubic banks are shit; private banks are the best. So the government should privatise all public banks (except SBI) as soon as possible. They leave out SBI since they realize that in a realistic situation, no government would want to let go of the single largest bank in India.
What does RBI have to say?
If you consider the Governor as the spokesperson for the central bank of India, they all had different opinions.
Urjit Patel (2016-2018) in his book Overdraft, has mentioned “meaningful privatisation” may never be possible.
“Where is the fun in owning banks if control over operations, managing them and determining their regulation is not possible?”
- Patel, Urjit. Overdraft (p. 117). Harper India.
When asked in an interview, Raghuram Rajan (2013-2016) had a more structured answer to provide,
Maybe this is why we’re yet to see a successful privatisation effort till today.
Shaktikanta Das (2018-Present) is “ownership-neutral”. Unlike the former Governors who made their statements post stepping down from their office, the present Governor’s response is more measured:
“…it is our job to ensure that regulatory guidelines are adhered to and the banking sector functions in an orderly manner… banks are robust, they are well capitalised, their financial parameters should be strong; so we are agnostic to ownership”
Nevertheless, his statement comes at the back of an article that RBI has recently published - “Privatisation of Public Sector Banks: An Alternate Perspective”
In fact, the article was a silent response to Poonam and Arvind’s paper.
The key arguments that the authors of the RBI article propose are highlighted below (mostly around financial inclusion and transmission of monetary policy):
If you notice, the RBI article pointedly contradicts almost every argument made in the economists’ paper, as if it was a direct rebuttal. The RBI authors dismissed the idea of a “big bang” approach to privatisation; instead suggesting a gradual “slow and steady” approach.
Considering this “suggestion” was against the current sentiment, RBI actually had to come out and clarify that the article did not represent the views of the RBI.
What do you think?
Bank privatisation has always been a nuanced topic, especially since you can twist data (and banking has a lot of them) to suit a particular narrative - just like any other topic.
Nevertheless, I hope this piece helped you think from both sides of a particular view.
That’s it for this week.
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Note that this was not the first instance of bank nationalisation.