When demonetisation happened in November 2016, I would often hear opinions from people on potential loopholes that needed to be explored. I do not know if they succeeded with any such brazen tactic, but one opinion from these discussions was striking – every bank desired big clients, as they could potentially give them a big business. No sane bank would ever say no to a big client unless it was absolutely impossible. But the question was – who paid the price for desiring such big businesses?
Non-performing assets (NPAs) in Indian banks stood at ₹7.34 lakh crores by September 2017 – nearly 10% of the assets, that is. The Nirav Modi scandal could not have come at a worse time. While the Punjab National Bank (PNB) filed complaints against Nirav Modi and the MD of Gitanjali Gems for fraud, alleging that two employees helped them get letters of undertaking (LoU) without the sanctioned limits – and before the mismatch between the message from the Society for Worldwide Interbank Financial Telecommunication (SWIFT) and the bank’s system came to light – Modi and his family had left India before the law-enforcers could respond.
Other banks who lent money or assets based on those LoUs are also at risk of losing money. But with stores across Mumbai, Hong Kong, Macau, New York and London, the billionaire was hardly a name any bank could ignore. While the bank may blame the errant employees in this case, the incentive of those employees was undoubtedly guided by the same allure that guides all banks towards a big business. But, with three-fourths of NPAs in Indian banks coming from such big businesses, the issue begs the original question – who pays the price of big businesses?
1. Assuming that Modi does not cough up the payment, the liability would probably come from the bank. The provision would hit the already-stretched financial position of state-run banks, thus impacting their profits and valuation. Apart from the government, their shares are held by scores of common people, either directly or through institutions. It is these people who would pay the price by holding the shares of such profit-destroying companies.
2. The finance ministry issued an advisory to banks to review large client exposures, but who will provide the financial resources to make up for the NPAs? The government has been under pressure to help state-run banks. But, where will the capital come from?
Another cess, above the existing ones, is one possible way. Budgets in the coming years can include that. But, this will hit the taxpayers who’ll have to pay the financial price for the laxity of the bank systems. Will they pay this financial price quietly, especially after the pain they went through, during demonetisation.
3. State ownership may often constrain the freedom of control due to political pressures. But, with NPAs worth ₹7.3 lakh crore in the state-run banks alone, their operational processes inevitably come under scrutiny.
Who pays the price for operational laxity? The errant employees naturally – but why did the banks have inadequate risk-control mechanisms in the first place? As it is, the depositors take more solace from state ownership rather than the banks’ management, in the event of failure or fraud (the hullaballoo after many realised only ₹1 lakh worth of deposit had been insured is evidence). But, while the management can cite ‘inadequate control’, it is they who will have to ultimately bear the brunt of the laxity.
4. Under-performing banks can be merged with a few big banks, if the capital cost of bad loans can be minimised. One such plan is already underway. But, such a large-scale merger project would mean that the surviving big banks may want to take a call on the size of their workforce to ‘maintain’ costs. Hence, some employees may be axed for purposes of efficiency. Even if an outright dismissal is not likely in the case of state-run banks, it may hit their future hiring plans. Ultimately, it is the workers, either current or prospective, who would pay the price of downsizing due to cost-control.
5. Where do people invest? While research shows that equities (especially mutual funds) yield better inflation-adjusted returns relative to fixed income or real estate in the long term, people still view equities for short-term speculation. Hence, the focus of savers is more on fixed income.
But there is a dearth of products in that space. Savings schemes like PPF and NSS do not allow savings beyond a limit. Fixed deposits in banks can take in unlimited savings, but that creates a pressure on banks to maintain fixed-deposit rates at a level that makes commercial sense, relative to their lending rate. That only pushes the desire for big-ticket businesses. So, it is the savers (with limited savings options) who will pay the price.
In conclusion, while demonetisation aimed at curbing wrongful practices, the inefficiencies and the ineffectiveness of our state-run banks means that ordinary people may inevitably have to pay the price for the banks’ desire for big businesses – either as shareholders, taxpayers, savers, workers or managers.