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NEXT-GEN BANKING : IS MERGER THE BEST SOLUTION ?

- 03 Oct 2019

Introduction to the Public Sector Bank Mergers in India

Today, while the Indian economy is hit by a severe slowdown, there is a dire need to increase the inflow of investment into the industries to re-boost the Indian economy. The underlying principle behind mergers is that-larger the bank, higher its competitiveness and better prospects of survival.[1] To make the Indian public sector banks more competent, one of the key strategies is to merge these banks.

The government’s announcement to merge 10 public sector banks into 4 banks, reducing the total public sector banks (hereinafter referred to as “PSB”); to 12, has been made with the objective of establishing the next-generation financial institution with strong financial results and aiming a global outreach and in the long term keeping in view India’s goal to become a $5 Trillion economy.[2] The four sets of merger include: Punjab National Bank (PNB), Oriental Bank of Commerce and Union Bank of India will combine into one bank to become second largest PSB, while Canara Bank and Syndicate Bank will merge into a single bank; Union Bank of India will amalgamate with Andhra Bank and Corporation Bank; and Indian Bank will merge with Allahabad Bank.[3]

The government also announced recapitalisation to the tune of Rs 55,000, out of which the biggest chunk of recapitalisation will go to PNB, at Rs 16,000 crore, followed by Union Bank at Rs 11,700 crore — the two anchor banks for merger.[4] The infusion of such large amount of capital into these banks, after deciding on such a large-scale merger would give a huge boost to the bank’s attempt to expand its business across the country, leading to increasing credit in the market and revitalising the Indian Economy.

In the last year, the government’s decision to merge Dena Bank and Vijaya Bank with Bank of Baroda, creating the third-largest bank by loans in the country can be analysed as a precedent in regard to the recent mergers as the government said this earlier merger has been “a good learning experience” as profitability and business of the merged entity has improved.[5] In the first quarter of this financial year, Bank of Baroda’s net profit shot up 34% to Rs 710 crore, the first result after its merger, following which the government found it fruitful and beneficial to undertake the aforesaid merger of the 10 public sector banks.

Positives of Public Sector Bank mergers

Government looks forward to achieve three major advantages through the proposed merger which are as follows:

a.      Greater credit generation capacity

b.     Developing the capacity of the banks towards a global outreach

c.      Enhancing the operational efficiency of the PSBs.[6]

The positive results of this merger will be apparent only in the long-run. Many economists are of the opinion that these banks will have no choice but to become more competitive because they’ll have to price consumer loans by linking them to the central bank’s policy rate.[7] On the other hand, the credit flows to smaller firms, which supply goods and services to larger companies will improve.[8] The advantages in terms of enhanced credit flow in the market will not remain limited to consumer loans but also in the commercial sector with regard to the loans to small scale industries. A recent report by Mc Kinsey has observed that banks in the Asia-Pacific are grappling with thinning margins, declining asset quality, and rising capital costs and has also taken note of the rising Non- performing loan ratio in India.[9] In such a situation, it is always advantageous to consider risk reduction and distribution as the business scales up. The management of the Non-Performing Assets (NPAs) becomes simpler when the merger of different PSUs leads to centralized management of the all different banks.

A study conducted in the US had concluded that mergers had no impact on the ability of the firms to obtain the credit they desire but they did increase the search cost of the credit. [10] But the principles applicable to commercial bank may not be having the same effect to such a large scale merger of the Public Sector Bank wherein the merger results into the second largest PSU in India, there is definitely a huge scope for multiplying credit availability at low operational costs. The ideal of higher credit generation through increased facilities also need capacity building, especially in project appraisal, risk management and monitoring.[11] In general parlance it can be understood with reference to any bank that every bank has an infrastructure in place for compliance, risk management, accounting, operations and IT – and now that two banks have become one, the bank is able to more efficiently consolidate and administer those operational infrastructures.[12] Therefore the merger also fulfils the objective of lowering the operational costs of the business and increased profits to the banks.

Issues and challenges of the merger: A view in opposition of the merger

While the advantages of mergers of PSB may be many, it would be detrimental to turn a blind eye towards the disadvantages and limitations of the same which may be outlined and discussed as follows:

a.     Managerial limitations: The new mergers of the banks would surely lead to a situation of scepticism within the top management as to whether they would be in the board of directors of the new management team or not. Another issue, would be of a possibility of a large change within the employees of the new entity.[13] This dubiousness can affect the human resource management of the merged entity.

b.     Global competitiveness issue: Mergers of PSBs are looked forward to with the aim of making them globally competitive. After the merger, Punjab National Bank shall be the second largest bank in India with a business of 18 lakh crore.[14] However, it would constitute only 1/3rd of the 50th largest bank of the world.[15] Furthermore, by only merging the assets, the banks cannot be said to be read to be globally competitive. Proper managerial personnel should also be identified for the merged entity to make them globally competent.

c.      Lending side disadvantage: Today, India is facing an economic slowdown and there is a dire need for industrial investment. Most of the small industrialists, agriculturalists and the Small and Medium Enterprise (MSME) take loans from regional branches of the banks in which they generally possess local contacts. But due to merging of PSBs, there is a possibility of change in the bank staff due to which the local people may lose their contacts and it might become difficult for them to take loans from the banks and a lesser investment in the current times would result into a more serious economic slowdown in the future.

d.     Concentration of the banking industry: Results have shown that a concentrated banking system may have the ability to stand financial shocks but at the same time, the concentration can make a few banks hold a strong position in the market and they may increase the rates of interest of loans.[16] If the interest rate at which the loan is granted is increased in the current Indian economy scenario, the economic slowdown can become more severe.

e.      Customer and depositor confusion: With the mergers coming up and new entities of the PSBs coming up after the mergers, a lot of new documents may have to be issued to the existing customers. With a change in the management, rules and regulations of the banks might change which might create a confusion within the customers of the public sector banks and may have a negative impact on the trust that they may possess in the respective bank in which they used to invest and deposit their money.

f.      Competition related issue: The Competition Act, 2002 aims at preventing practices that may have an adverse effect on the competition and to promote and sustain competition in the market along with consumer protection.[17] This exemption of the PSBs from the purview of the Competition Act can have a negative impact on the achievement of the objectives of the Competition Act as described above as the mergers of the PSBs can lead to competition and general public concerns.[18] Bigger public banks may possess a very big asset capacity as well as lending capacity in comparison to the private banks which may create a sustainability problem for private banks as well as small public sector banks.

Conclusion: A final remark

The merger of PSBs has opened up a plethora of opportunities to revitalise the Indian economy amidst the slowdown but it also has its own limitations and challenges regarding not being able to deliver the desired results. The actual impact assessment of this merger can be done more efficiently only after a certain period of time.


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