[sbinews] The Writing On The Wall - The Financial Express

  • From: rspai@xxxxxxxx
  • To: sbinews@xxxxxxxxxxxxx
  • Date: Wed, 19 Nov 2003 05:56:18 +0500

Dear Colleagues, 

Reproduced below is a thought-provoking column on profitability in Banking.


The Writing On The Wall  
(The Financial Express -19-Nov-03)
PSBs must look beyond trading profits, traditional lines 
It’s not the first time the Reserve Bank of India (RBI) has sent out early 
warning signals to the public sector banks (PSBs). And it certainly isn’t going 
to be the last. The latest RBI Report on Trend and Progress of Banking in India 
2002-03 is particularly significant because it marks the completion of 10 years 
of banking sector reform in India. And taking off from that, RBI’s report 
dwells on several aspects — positive and negative — of the Indian banking 
sector, issuing warnings wherever required. 

If, after 10 years of reform, the PSBs are yet to read the writing on the wall, 
it is a reflection of the fact that having been used to years of being 
sheltered, they are still taking time to understand the nuances of the new age. 
The clear signal which the RBI, under the stewardship of governor Yaga 
Venugopal Reddy, now seeks to give PSBs is that the time has come for them to 
shake off the lethargy of the past and get their act together, or face the 
consequences of competition which a decade of reform has brought about. 

RBI says in the report that its analysis clearly shows that much of the 
increase in profits of scheduled commercial banks in India has come about 
thanks to trading profits, a fallout of the continuing decline in interest 
rates. But this is not banking as we understand it. And therefore, profits 
which aren’t happening on account of the banks’ core activity of lending need 
to be viewed with caution. 

“It is in this context that the Reserve Bank has been emphasising that high 
profitability emerging from gilt trading should not lull banks into a state of 
complacency,” argues the RBI in its report. To the extent that the state-run 
banks’ stock market performance is a result of this growth in profits, the 
profits from gilts trading and the rise in the banks’ stock prices are also 
inextricably linked. And while this is a reality in today’s context, the 
central bank in its report has clearly shot off the required warning. If banks 
did not lend during times of downturn and avoided what RBI calls “problems of 
adverse selection”, then equally they need to recognise that while partaking of 
the benefits of a low interest regime through trading profits is all right, a 
bank’s primary job is to lend, and support industrial activity and growth. This 
is what RBI advises the banks to get back to doing. 

Pointing to the fact that trading profits have helped banks to shore up their 
bottomlines and provide for non-performing assets (NPAs), RBI reminds them that 
the “primary business of banking is the creation of credit.” Also, while the 
banks are enjoying the fruits of the lower interest regime on the trading 
front, the linkage between the debt and equity markets (with stock prices 
rising on expectation of trading profits by banks) also means banks have to 
take greater care in managing interest rate risks. 

The good news, of course, is that a combination of factors has led to a 
significant decline in NPA levels. From as much as 15.7 per cent at end-March 
1997, gross NPAs have declined to 8.8 per cent as at end-March 2003, through a 
combination of upgradations, recoveries and write-offs. This is now being added 
by the SARFAESI Act, popularly known as the Securitisation Act, which has 
errant borrowers getting back to the negotiating table with banks. 

But while things are looking better in general, and the return of the feel-good 
factor may spell better days for PSBs, the key issue for them is how they would 
now face competition from the aggressive new generation private and foreign 
banks. RBI, as regulator, is acutely aware of this challenge, and has done its 
best to prepare the state-run banks on this front. The private and foreign 
banks are positioning themselves, the RBI report says, as one-stop shops for 
financial services. Against such a background, PSBs would need to look beyond 
just their traditional avenues of income and go into non-fund based, value 
added services to augment their non-interest incomes. That would also require 
better technology and a change in mindset. Simply put, PSBs have to get 
nimble-footed and creative if they have to win the race in the new banking era.

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