Banking Sector Reforms since 1991

 Introduction

          Indian Financial system consists of Banks, Equity markets, Bond markets and various other financial institutions. The role of financial sector reforms on the banking sector in India is crucial to its economic growth trajectory (Satija, n.d.). Private banks have played a key role by bringing new technology and products to the banking space as we walk through a long way since 1991 (Agarwal, 2021).

            In his budget speech (1991) Finance Minister, Dr Manmohan Singh announced that the objective of the reform would be to improve the health of Its institutions. As per Dr Singh’s announcements, a committee was appointed under the chairmanship of M Narasimham, former RBI Governor. The banking sector, after 30 years of reform continues to be a severe economic concern. Therefore, it’s important to analyse how this journey which started with much promise turned out to be a let-down.

            Talking about 1990, there were 75 banks and the size of the banking sector was about 50% of the GDP. The public sector banks comprised 91% of the banking system. The contribution of private banks was merely 3.4%. Whereas, in the year 2020, the assets of the banking are now at 135% of the GDP The bankings assets have multiplied 63 times. The decline in banking liabilities was captured by NPSBs(National Public Sector Banks) whose share stands at 26% in the year 2020. The NPSBs, along with foreign banks, have led the rise in the percentage of capital and reserves to liabilities to 8.21%, nearly five times the 1990 levels.

Impact of the 1991 Economic Reform on the Banking Sector in India

            It is crucial to assess the impact of reforms on major bank groups' comparative performance. As a result, impact is vividly investigated below:

Impact on the Performance of the Banks

1)     Impact on Banking Sector Structure:

In terms of private sector bank activities, the Indian banking system has experienced considerable changes. The number of local and international private sector banks has risen dramatically since the reforms began.

2)     Effect on Deposit and Advance Growth Rates (percentage):

During the Reforms period, the rate of growth of deposits for public sector banks was somewhat lower than in the pre-reforms period. Foreign banks' deposit growth rates have slowed, while local private banks' growth rates have risen.

The rise of non-bank financial intermediaries such as mutual funds, finance firms, and the stock market is one of the primary reasons for the general sluggish growth rate of bank deposits throughout the Reforms period. The rate of expansion of public sector bank advances has slowed, while private sector bank advances have grown. The potential of private sector banks to gain some of the public sector banks' corporate clients by providing better service and packages is connected to their performance in the advanced market.

3)     Banks' Non-Interest Income:

A bank's non-interest revenue originates from a variety of service-based operations including credit card transactions, merchant banking, leasing, and so on. Foreign banks had the largest share of non-interest revenue to total income prior to the reforms.

However, following the reforms, the percentage of non-interest revenue in the overall income of public sector and domestic banks has grown from 9% to 11%. Foreign banks, on the other hand, have seen their non-interest revenue share drop from 24 percent to 18 percent.The developments in non-interest revenue suggest that local banks are diversifying away from their main business and putting more pressure on international banks to provide fee-based services.

4)     Capital Adequacy and Non-Performing Assets:

For all bank groupings, the ratio of non-performing assets as a percentage of total loans has decreased after the reforms. Foreign banks, on the other hand, are the smallest of all banking groupings.

As of now, none of the new domestic banks have any non-performing assets. During the post-reform period, the majority of banks achieved a capital adequacy level of 8%. The government has injected additional capital of Rs. 20046 crore into public sector banks to help them meet the capital adequacy ratio.

5)     Profitability:

With a few exceptions, all banks saw a considerable increase in profitability following the reform. The nationalised banks recorded net losses in 1995-96. In 1997-98, however, all of the banking groups saw an improvement in profits.

Availability of Credit

The credit-deposit ratio measures the availability of credit to the private sector as a percentage of total bank deposits. The credit deposit ratio (CDR) of commercial banks as a whole fell significantly after the reforms, from 60.6 percent in 1991-92 to 54.9 percent in 1997-98.

It's partially due to the recession at the time, and partly due to banks having to conform to new lending standards as a result of the reforms.

Since the reforms, the fall in CDR has been accompanied by a growth in the share of risk-free Government securities in the Bank's key earning assets, such as loans and advances and investments. In other words, banks are investing more in government assets during the post-reform period than they are advancing in the form of loans.

Since the changes, there has been a significant decrease in bank lending to the priority sector. Despite the fact that the priority sector criterion for foreign banks has been considerably enhanced since the 1992 reforms, this has occurred.

 Interest rate trends

The deposit rate structure during the Reforms period indicates that the RBI is attempting to liberalize the term deposit rate structure and increase the mobilization of both short and long term deposits. Such efforts have been made in order to supplement the banking system's resources in order to avoid a liquidity "crisis," which would put higher pressure on nominal lending rates. While the RBI continues to establish and subsidize rates for smaller amounts of less than Rs. 2 lakh, rates for advances of more than Rs. 2 lakh have been deregulated.

Bank vs. non-Bank Intermediation

Commercial banks have been experiencing increased competition from term lending organizations such as the Industrial Development Bank of India, ICICI, Mutual Funds, Chit Funds, and the Capital Market since the financial sector reforms began in India. Due to numerous RBI and Government of India policies that favored banks in the mobilization of deposits by limiting private sector entrance into financial services, as well as an underdeveloped capital market, such competition was essentially non-existent until recent years.

Non-bank financial intermediaries and the capital market have seen significant development in recent years as a result of financial sector reforms. The small investor's confidence in non-bank savings and investments grew dramatically as a result of this rise. The percentage of non-bank deposits in household savings grew, while the share of banks shrank. Banks' proportion of project loans to the private sector has also decreased. The expansion of development banks and the capital market were the main reasons behind this.

Competition

The banking sector's competition has been impacted by the liberalized entry of private sector banks, particularly international banks. Three factors point to greater competitiveness in the post-reform period:

•        There has been a shift between public and private sector bank market share. It's an indication of increasing competition since any shifts in favor of private and international banks show how effective they've been at delivering lower rates and better services. In both deposits and advances, public sector banks' market share has decreased, while private banks' has increased.
•        The non-bank concentration ratio is another indicator of rising rivalry between public and private sector banks. This ratio represents the overall market share of the industry's major banks. It's a metric for determining how competitive a market is. The estimates of the four-bank concentration ratio have been declining since the reforms. The slowing expansion of the major banks, all of which are in the public sector, is to blame. It's also because private-sector banks are becoming more competitive.
•        The quality and diversity of client services are the third indication of competitiveness. Since the reforms, there are evidence that the breadth and intensity of such rivalry has risen. This is seen in public sector banks' increased use of computer and communications technologies in order to provide better and quicker financial services comparable to those provided by private and international banks.

            Indian Banking has come a long way since 1991. There is a key role that has been played by the private banks. They brought in new technology and products to the banking space. The experience was much better except for the failure of a few banks.

Despite all these, the Indian banking sector is lacking behind on several core issues. The Indian banking sector was also hit by the pandemic however the outcomes were not as bad as expected. More spending on infrastructure and speedy implementation of projects and continuation of financial sector reforms are expected to provide more impetus to banking sector growth (IBEF, 2021).

The economic liberalization of 1991, equipped the banking sector with the use of modern technology and internet-based banking services as the Indian banking system was exposed to foreign competition (Dhiman, 2018).

The article concludes that the performance of the banking sector was not at par before the liberalization of 1991. However, the public sector banks are still lagging thus signaling the need for another financial reform particularly targeting the public sector banks. Modern reforms are needed to keep the public sector banks at par with the private sector banks. In the recent times, the private sector banks have narrowed public sector’s huge lead in loans and deposits. The RBI, has attributed the fall in the public sector banks’ market share to the ballooning of bad loans in the last five years. The primary reason for this has been the beleaguered balance sheets of PSBs on account of the non-performing asset (NPA) overhang of post-global financial crisis years. The operational inefficiency parameter is also one of the reasons behind the poor performance of public sector banks. The banks should be able to meet the requirement of a new and open competitive environment.

References

Agrawal, A. (n.d.). 30 years of Economic REFORMS: Taking stock of Indian banking. Moneycontrol. https://www.moneycontrol.com/news/opinion/30-years-of-economic-reforms-taking-stock-of-indian-banking-7126171.html.

Dhiman, M. M. (2018, December). PERFORMANCE OF INDIAN BANKING SYSTEM. Research Gate. https://www.researchgate.net/publication/329773953_PERFORMANCE_OF_INDIAN_BANKING_SYSTEM.

India Brand Equity Foundation. (2017, November 1). Indian banking Industry: Analysis market Size, export & investment opportunity. IBEF. https://www.ibef.org/industry/banking-india.aspx.

Khadwal, P. (n.d.). Impact of financial sector reforms: on Indian banking system. International journal of basic and applied research. http://www.pragatipublication.com/assets/uploads/doc/2fb86-201-206.16671.pdf.

Pachori, S. (2016, January 7). 6 Main Impact of the 1991 Economic Reform in the Banking Sector in India. World’s Largest Collection of Essays! Published by Experts. https://www.shareyouressays.com/knowledge/6-main-impact-of-the-1991-economic-reform-in-the-banking-sector-in-india/116509

Satija , K. C. (n.d.). FINANCIAL SECTOR REFORMS IN INDIA (FSRI): INSTITUTIONAL AND LEGAL ASPECTS . The Indira Gandhi Institute of Development Research (IGIDR). http://www.igidr.ac.in/conf/money/mfc-12/FINANCIAL%20sector%20REFORMS_kalpana.pdf.