Swallowing poison

Swallowing poison

Merger of three public sector banks is a stopgap measure rather than ideal solution.

Finance minister Arun Jaitley announced this Monday the start of a process which will lead to the amalgamation of three public sector banks: Bank of Baroda, Vijaya Bank and Dena Bank. Once the process is complete it will lead to a bank with a combined business of Rs 14.82 trillion, which will make it the third largest in India. This move needs to be seen from four perspectives – economy’s credit needs, capital requirements, business sense and minority shareholders’ interest.

This amalgamation takes a weak bank, Dena, and combines it with a better quality Vijaya and a large Bank of Baroda. Dena has been placed by Reserve Bank of India under the prompt corrective action (PCA) framework which hobbles its incremental growth. Amalgamating it with stronger banks will lead to the new entity having better financial parameters and, thereby, enhances incremental credit flows. At the same time, this amalgamation and perhaps others ahead will mitigate the pressure on government to set aside money to meet recapitalisation needs of Basel III norms (an international standard of banks’ capital requirements). Since April 2017, government has already set aside Rs 99, 476 crore for recapitalisation. Therefore, the proposed amalgamation does have economic benefits.

Bank mergers are tricky even under favourable circumstances and over the last two decades it’s primarily private sector banks which have taken the initiative. The current amalgamation is not being done under favourable circumstances. It does dilute the strength of Bank of Baroda, the most valuable bank among the three. What this bank gets in return may not really match the baggage it now has to carry. Unsurprisingly, the share price of Bank of Baroda collapsed by more than 16% during the day’s trading. Minority shareholders in Bank of Baroda have ended up among the losers.

Optics surrounding the amalgamation should not distract government from the primary reason for the current bad loan crisis: bad governance in public sector banks. An amalgamation may partially offset some immediate problems. But as long as the incentive structure for bankers remains similar to what existed in the past, banks will remain vulnerable. The other challenge will be for the board of the new bank to deal with an amalgamation which is not popular among many staffers. Despite Jaitley’s assurance of job protection, getting staffers to pull together will need special attention.