Consolidation May Aim To Create Lenders Closer In Size To SBI

The government’s intention to consolidate public sector banks may kick-off with a merger between larger lenders, said a person familiar with the matter who spoke on the condition of anonymity. The intention, this person explained, would be to create a bank which is closer in size and scale to State Bank of India.

On Wednesday, the government said that it has approved an ‘alternative mechanism’ to approve mergers between public sector banks but stopped short of naming any candidates for consolidation. That proposal, Finance Minister Arun Jaitley said, will come from individual bank boards and be approved by the ministerial panel set up under the alternative mechanism.

Over the past few months, a number of simulation exercises have been conducted and the government has a fairly good idea about what will work best, said the person quoted above. Once the bank boards move proposals, first to the stock exchanges and then to the ministerial committee, the process can move quite quickly, this person added.

An email sent to the finance ministry on Thursday morning seeking details of the consolidation plan remained unanswered.

Correcting The Banking Skew

There are 20 public sector banks in India, apart from SBI, which is governed by a separate Act. The sector, however, is skewed in terms of size with SBI commanding over 20 percent of the market. SBI gained scale earlier this year when it merged with its five associate banks.

As of June 2017, SBI had advances of over Rs 18 lakh crore and deposits of Rs 26 lakh crore. The other large public sector banks are far smaller. Punjab National Bank has advances of Rs 3.99 lakh crore and Bank of India has advances of Rs 3.91 lakh crore.

The government would like to create at least a couple of banks which have a market share of 11-12 percent in the banking sector, said the official quoted above. The official explained that the principle behind these mergers would be similar to the idea that drove SBI’s merger with its associate banks. Benefits of scale and cost synergies will emerge over time, said the official quoted above, while adding that such mergers will also help de-risk individual entities.

Not many outside the government are buying that argument. Experts that BloombergQuint spoke to on Wednesday questioned the merit in consolidating at a time when all individual banks are weighed down by bad loans. But ‘you can’t time the pain’, DK Mittal, former banking secretary to the government of India told BloombergQuint.

Also Read: PSU Bank Consolidation: The Government’s Gameplan

Clean-Up Before Consolidation?

While kicking off the consolidation process, the government may not encourage the weakest banks to go in for mergers just yet. The official quoted above suggested that banks like IDBI Bank, Indian Overseas Bank and other with the highest levels of bad loans will spend the rest of this fiscal year cleaning up their books. Only after that will they consider mergers.

That has been one of the key concerns of analysts who fear that combining weak banks with stronger banks will lead to a deterioration in the financials of the larger banks. This was seen even in the case of SBI’s merger with its associate banks. The country’s largest lender has seen its gross non-performing ratio jump to nearly 10 percent from 6 percent before the merger.

“The cost benefit analysis of mergers has no clear winner, but it is clear that short-term pain will precede whatever longer term synergies are realised,” said a sales note from Quant Broking on Thursday.