The report of the high-level committee on financial sector assessment, headed by RBI deputy governor Rakesh Mohan, argues largely for a staus quo. This argument will find considerable following now. Amidst the global financial meltdown and the collapse of some of the biggest names in global banking and finance, India does seem to stand out as an island of financial system stability. The committee’s algebra strengthens this perception—stress tests show that the Indian banking system can weather even a doubling of non-performing assets without damaging capital adequacy and stability, or that a sharp fluctuation in bond yields is unlikely to disturb the balance sheets of banks. The big question is, how this resilience should be viewed in the context of economic growth and future banking policy. There’s little doubt that largely unreformed, under-innovative Indian banking costs in terms of growth. Of course, this argument has lost its public shine now, which is why the committee report finds itself published in circumstances favourable to its analysis.
The panel has also recommended mergers of major PSU banks if they are unable to raise fresh equity because of the 51% lower limit on government shareholding. This is a second-best strategy, but with a limited political appetite for wholesale banking reform in the near future, this may not be a bad strategy to begin with. The committee has importantly endorsed the setting up of an independent debt management office—now, the process ought to gather pace. The report, however, must also be viewed in a broader context, incorporating a view of the good times once they return. India still remains grossly under-banked—only 40% of people have a bank account—and a reluctance to reform and liberalise the system is partially responsible for this. This must change. Also, let us not forget that we are nowhere near as liberalised as western banking and finance, so we have plenty of room to reform without being what some critics would call overliberalised. India even has the chance to liberalise with new standards of regulation that are likely to be developed in the aftermath of this crisis. The last point is crucial. RBI can’t argue that the system needs no change because banks here haven’t gone bust.