The Hindu Business Line : Banking reforms marginalising the small, tiny sectors

"Since the 1648 Treaty of Westphalia, national territories have been the foundation of international relations based on relationships between sovereign states. Today's global dynamics more and more transcend this interstate model, however. The globalisation of knowledge never meant general acceptance of neo-liberalism by any definition I know of."

While macroeconomic policies can be formulated along broad contours, microeconomic policies should involve an active role for the state, as the Korean, Taiwanese and Chinese, not to speak of the Japanese, experiences show. These countries did not pursue laissez-faire blindly to bolster economic growth.

What arose out of the Washington Consensus as structural reforms, inter alia, as financial sector reforms, came to be carried under the aegis of the Bank of International Settlements (BIS) by the Basel Committee on Banking Supervision (BCBS).

In 1988, the Basel Committee decided to introduce a capital measurement system commonly referred to as the Basel Capital Accord. This system provided for the implementation of a credit risk measurement framework with a minimum capital standard of 8 per cent by end-1992.

Since 1988, this framework has been progressively introduced not only in member-countries but also in most others countries having active international banks.

This has been done in spite of the Committee admitting that it does not possess any formal supranational supervisory authority, and its norms do not, and were never intended to, have legal force.

Rather, it formulates broad supervisory standards and guidelines and recommends statements of best practice in the expectation that independent authorities will take steps to implement them through detailed arrangements — statutory or otherwise — which are best suited to their own national systems.

This way, the Committee encourages convergence towards common approaches and standards without attempting detailed harmonisation of member-countries' supervisory techniques. But what has happened in the Indian context is that these norms have been introduced more intensely and across the board despite our banks not really being international in terms of size and volume of business.

The capital adequacy norms of the Basel Committee were introduced basically to protect banks from financial crises so common in the 1980s in the developed world.

It defies logic that we have applied these norms as a one-size-fits-all model not considering the ground realities and our own strengths and weaknesses. More important, the pace, mode and sequencing of such reforms should have been such that it sub-serves the cause of development and re-distributive justice.

The Government's emphasis on achieving a high rate of growth coupled with re-distributive justice and balanced development should not be sacrificed for financial stability of our own commercial banks, supposedly arising out of following international best practices.

That the complex structure of administered interest rates guided by social concerns resulted in cross-subsidisation, which not only distorted the interest rate mechanism but also affected the viability and profitability of banks, was a problem more to do with poor appraisal and lending by banks; a factor has conveniently been obfuscated.

More important, that this came about over a period due to ownership and regulatory overlap of the governments of the day are the other important factors which have been brushed aside.

The pressure of directed lending, not necessarily only to the priority sector but also to large industries, are socio-economic issues that weighed down public sector units (PSUs) under the development finance mode.

Commercial banks should definitely have risk management frameworks oriented towards their requirements, dictated by the size and complexity of business, risk philosophy, market perceptions and the expected level of capital.

In this context, the Basel norm of 90 days for a loan account to be treated as a non-performing asset (NPA) for small and tiny enterprises should be relaxed, as payments to small-scale industries are often delayed beyond the 180-day norm, notwithstanding the Delayed Payment Act.

The 90-day norm is counterproductive because if a particular bill is not honoured on the 90th day, the drawing power of the borrower gets reduced setting off a chain reaction that could ultimately result in the account slipping into an NPA.

That there has been a marked improvement in the asset quality — with the percentage of gross NPAs to gross advances of the banking system falling from 14.4 per cent in 1998 to 7.2 per cent in 2004 — is only one part of the story. Lower NPAs of PSBs following the implementation of the Basel I norms conceal more than they reveal.

There has been a big drop in funding to the SSI and tiny sectors, both as a percentage of credit and in absolute terms. With banks holding risk-free government paper far in excess of the statutory requirement, they are reaping windfall profits.

Such `narrow' banking is helping them liberally provision for NPAs.

In the process, SSIs and the tiny sector have been hit, driving a number of them to sickness. Moreover, the high cost of funds, which this reduced financing has contributed to, has robbed them of the little incentive left to upgrade technologically and modernise.

The Basel norms apart, the priority of the government should be to ensure that the interests of the SSI and the tiny sectors are protected.

It is paradoxical that despite high liquidity in the system, these sectors are starved of funds.

This anomaly should be addressed immediately, especially because the sectors have been contributing to employment generation and exports. And more, important, to enable them play their due role, as a necessary appendage of the economy.

(The author is President, Industrial and Financial Reconstruction Association for Small and Tiny Enterprises. E-mail: derkr@vsnl.com)

Article E-Mail :: Comment :: Syndication :: Printer Friendly Page