Mixed Policy for Banks in India
Raghuram Rajan took office as the governor of India’s central bank in September. His liberal vision of India’s financial sector was meant to boost economic growth and help the poor. In 1969, India’s former prime minister, Indira Gandhi, nationalized most of the banks in India. Since India’s presidential election in 1969, there have been many reforms to the country’s banking system, but the system is a mix of new liberal policies and right-wing conservative policies, creating an ambiguous mixture that is India’s current banking system.
The Reserve Bank of India’s (RBI) hybrid system may promote social inequality and create an unstable economic atmosphere. Many problems plague India’s banking sector, including bad debts, low bank reserves and mediocre capital levels and the fact that only 35 percent of adults have bank accounts.
At least half of all rupee trading is abroad, and two large foreign banks in India have operations that are 1.9 times bigger than their local counterparts. RBI’s hybrid system may promote social inequality and create an unstable economic atmosphere. The difficulty and lack of opportunities to save money perpetuates poverty and makes it hard for the government to collect taxes.
The RBI’s growing independence has led to the Bank no longer setting the interest rates that banks must charge. However, the system controls the assignment of credit, requiring banks to invest 23 percent of their deposits in government bonds and save an additional four percent with the RBI.
The rules that govern the debt market mean 58 percent of banking system deposits are based on government preference. Rajan’s position at the RBI creates hope for extending finance to more Indians. New banking laws will make it easier for foreign banks to expand, provided that they set up local subsidiaries that the Indian government can regulate easily. One of Rajan’s goals is to methodically end the way that banks are forced to purchase government debt. In addition, Rajan has vowed to make new rules that will stop business magnates from exploiting the country’s fragile banking system and force banks to recognize debts that would otherwise sour.
– Daren Gottlieb
Sources: The Economist, Rediff News
