The last few years have been testing times for Indian banks as they have grappled with deteriorating asset quality leading to higher provisioning requirements, declining profitability and weak capital position. However, the banking system, nearly 50 years after it was nationalized, is on the cusp of a new paradigm aided by recent policy measures to reduce vulnerabilities and improve its financial health.
Credit growth of scheduled commercial banks (SCBs) has picked up, with public sector banks (PSBs) registering near double digit growth. Capital adequacy of the SCBs improved after the recapitalisation of PSBs and will improve further after the announcement in the Union Budget 2019-20. With the bulk of the legacy non-performing assets (NPAs) already recognised in the banking books, the NPA cycle seems to have turned around.
The contours of banking in the coming decade will move in two directions. First, the services will be more integrated with technology. Second, their reach and span will increase many folds. The banks will nevertheless retain their basic brick and mortar features, but the traditional banking will be more catering to specialized services rather than general services. Banks will have to come to terms with the fact that era of high credit growth is over. Banks will have to devise methods to ensure that lending process is fine-tuned and made robust in line with complexity that have emerged since 2008 and will continue to evolve in the next decade.
The role of credit department will, going forward, be more multi-disciplinary and general bankers will also need to supplement expert knowledge in other domains in deciding on an application for loan. Next paradigm shift in commercial credit in India will come from the bottom of the pyramid. The Banks will provide financial assistance for demand-based businesses such as Stand-Up India Scheme for the period of 2020-25. The synthesis between Stand Up and Start Up with commercial banks will be the catalyst for this paradigm shift.
Banking industry in India over the next decade is also well positioned to capitalize on the vast potentials of its demographic dividend. Life cycle products which are at very nascent stage will become more popular over the next 10 years given the indications of a higher retirement age.
NBFCs which form an outer perimeter in the financial markets will continue to have important role to play in banking the unbanked. NBFCs that are fundamentally sound will continue to get funding from banks and mutual funds without being unduly risk averse. However, there is a need for responsible growth and good governance practices in NBFCs.
Technology integration of banking services is the future paradigm in banking. Deepening of digital payment by making it affordable to consumers has already commenced with RBI waiving off charges on NEFT and RTGS. Mobile based banking will ensure 24×7 banking. There will be close coordination and competition between theFintechs, banks and NBFCs. Thus, financial services sector will become niche and highly competitive. Switching costs will fall which will make customer retention more important than customer acquisition.
Deployment of big data analytics and AI will not only increase but will also raise the issue of third-party dependency, ethics, privacy and algorithmic bias in delivery of financial services. Digital and mobile banking along with analytics will allow banks to perform cross-selling and upselling at substantially reduced costs.
However, with growing digitization of banking operations, rises the risk of cyber threats and network intrusions. Studies have shown that financial sector is more prone to cyber events but does not have high rate of incident. Specifically, the cost of a typical cyber incident in USA is less than $200,000 (about the same as the firm’s annual IT security budget), and this represents only 0.4% of estimated annual revenues. Nevertheless, since, most of the cyber events are detected after minutes to a day in maximum of the incident, the reaction time for any organization is very little. Thus, cyber events can cause severe reputation damage even if there is not a big loss. Out of the breaches that are discovered (many are not), a large number are uncovered by third parties rather than the organisation itself.
In India, the Computer Emergency Response Team or CERT is the nodal agency that tracks and offers strategy and advisory to mitigate cyber events. A break-up of website defacement by domain name shows that [.in] website are the most targeted website. Thus Indian PSU banks face this risk the most. Government under its Cyber Secrity policy has instructed the critical sector organizations to implement the security best practices in accordance with ISO 27001 standard and as per the advice issued by CERT-In. Implementation enabling workshops/ interactions have been conducted. Services of CERT-In empanelled technical IT security auditors are being used to verify compliance. Bank will not only have to adhere to these guidelines but also be proactive in assessing these threats under mechanisms such as the ICAAP, etc.
At the broad industry level, consolidation in banking industry is imminent for number of reasons. Government has smoothly carried out consolidation, reducing the number of Public Sector Banks by eight. Large banks reap certain advantages in terms of efficiency, risk diversification and capacity to finance large projects. The efficiency gains resulting from lower cost of services and higher quality of services is too attractive to ignore. It is also felt that a larger bank may be less risky than a smaller bank as the larger bank will have a more diversified portfolio resulting in less volatility in its earnings.
Consequently, a large bank may command higher credit rating than a smaller bank and thereby bolster financial stability. Mergers and consolidation in the sector will also help in reducing operating costs, encouraging greater risk diversification and economisingcapital.
Successful transformation of banks will rest on the shoulders of banks professionals. The coming decade is already proving to be a challenging one for the HR professionals in banks, particularly for those in the public sector banks. HRM challenges in banks, particularly in public sector banks, will fall in three categories. First, imparting requisite skill sets to exiting employees and new employees so that they adapt to newer banking environment. Second, putting in place a robust system of performance appraisal where individual’s performance is the sole criterion of promotions so as to retain talent. Third, what I call the ‘succession plan’, includes mentoring and grooming of future group of leaders who will replace the existing leaders in top management. At stake is a chance to transform HR practices and create a workforce that can provide individual banks with a strategic edge in an environment that is likely to become increasingly competitive and complex in the days ahead.
In conclusion, the paradigm shift in banks will be shaped by the forces of balance sheet restructuring to tide over the stressed assets problem. In doing so, the banks’ lending will get directed to those sectors which have high priority in terms of increasing the share of manufacturing in overall GDP to 23% and also generate substantial employment opportunities. Financial disintermediation due to RBI guidelines and IBC will also alter the composition of banks’ balance sheet.
The role of technology is sure to increase. The Report of Artificial Intelligence Task Force has identified Fintech and retail and customer relationship as important areas where India can use the technology for meeting its development goals. At the same time, laws on privacy, ownership of digital data and its storage, and cyber security will also get priority and attain desired clarity.
(The author is Chairman, State Bank of India)
First published in Business Digest in August 2019
