Bank Mergers: Need & Implications

Archives

TOPIC:

General Studies 2

• Government policies and interventions for development in various sectors and issues arising out of their design and implementation.

General Studies 3

• Indian Economy – Financial Inclusion and Inclusive Growth

In News: State-owned Bank of Baroda, Vijaya Bank and Dena Bank will be merged to create the country’s third largest lender as part of efforts to revive credit and economic growth. The decision to merge the three banks was taken under the ‘alternative mechanism’ that was formulated in November last year to consider and approve amalgamation of public sector banks.

Bank of Baroda, the largest among the three with total business of ₹10.3 lakh crore, is more than five times the size of Dena Bank — the weakest of the three with business of ₹1.73 lakh crore. Dena also faces certain operational restrictions as it is currently under the Reserve Bank of India’s prompt corrective action framework after a rise in NPAs resulted in the lender’s return on assets turning negative.

Vijaya Bank, also smaller with business of ₹2.8 lakh crore, is, however, a relatively healthy bank. The Bengaluru-based lender is one of only two public sector banks that reported a profit in the last financial year, the other being Chennai-based Indian Bank.

Perceived Benefits:

• Will make the banks stronger and sustainable
• Will increase their lending ability
• Improvement in operational efficiency

Perceived Challenges:

• Handling of human resources & cultural differences – There is a cost to managing complexity that management tends to overlook in weighing the benefits of merger.
  • Which general manager reports to which general manager, how portfolios will be assigned to executive directors and so on.
  • Branch rationalisation without shedding any staff is quite a task.
  • Further, the multiple posts that exist in the three banks will have to be reconciled as there can be only one head of risk, treasury, credit, HR, etc.
• Customer retention
• Technology integration – putting all the three banks in the same platform; Systems and processes could be different and would have to be harmonised.
• Ensuring accountability
• Rationalisation of physical infrastructure which is also linked with the headcount and existing hierarchy. All bank mergers will lead to multiplicity of branches and ATMs that will have to be reviewed. There would be redundancies of the same in the combined entity. When the policy is to retain the headcount, accommodating them in a smaller set of branches will not be possible.

The Way Ahead:

Investors and bankers will be keen to see if this may end up serving as a template for further mergers among state-run lenders, especially given the asset quality issues plaguing several of these banks. In particular, the proposed merger is seen as a test of the capacity of a large bank, which itself is facing pressure on asset quality, to absorb a weaker peer.

It is important to ensure that such mergers do not end up creating an entity that is weaker than the original pre-merger strong bank. That said, the fact is that mergers are one way of managing the problem and therefore cannot be discounted totally. However, the trick lies in ensuring that the merger fallout is managed prudently; identifying synergies and exploiting scale efficiencies will be crucial here.

Also, unless there is a change in the operating structures, mergers will only be symbolic and may not deliver the desired results in the long run. Counter intuitively, if we are willing to change the way in which public sector institutions function by giving them autonomy along with accountability, we may not require such mergers.

The long-term solution outlined by Raghuram Rajan, former RBI Governor, mentioned in his note to the estimates committee of Parliament: ‘Improve governance of public sector banks and distance them from the government’ and ‘delegate appointments entirely to an entity like the Banks Board Bureau’, should be taken up for discussion.

Connecting the Dots:

1. With greater concentration comes higher systemic risk: the failure of a large bank is a bigger problem than the failure of a small one. Concentration also means lesser competition and less choice for customers. Discuss w.r.t. the recent merger.
2. The merger must be judged by the touchstone of performance. Do you agree? Discuss.