Banking Industry - Vision 2010
[Source: IBA Committee under the Chairmanship of Shri S C Gupta, CMD IOB ]

Emerging Economic Scene

The financial system is the lifeline of the economy. The changes in the economy get mirrored in the performance of the financial system, more so of the banking industry. The Committee, therefore felt, it would be desirable to look at the direction of growth of the economy while drawing the emerging contours of the financial system. The " India Vision 2020" prepared by the Planning Commission, Government of India, is an important document, which is likely to guide the policy makers, in the years to come. The Committee has taken into consideration the economic profile drawn in India Vision 2020 document while attempting to visualise the future landscape of banking Industry.

India Vision 2020 envisages improving the ranking of India from the present 11th to 4th among 207 countries given in the World Development Report in terms of the Gross Domestic Product (GDP). It also envisages moving the country from a low-income nation to an upper middle-income country. To achieve this objective, the India Vision aims to have an annual growth in the GDP of 8.5 per cent to 9 per cent over the next 20 years. Economic development of this magnitude would see quadrupling of real per capita income. When compared with the average growth in GDP of 4-6% in the recent past, this is an ambitious target. This would call for considerable investments in the infrastructure and meeting the funding requirements of a high magnitude would be a challenge to the banking and financial system.

India Vision 2020 sees a nation of 1.3 billion people who are better educated, healthier, and more prosperous. Urban India would encompass 40% of the population as against 28 % now. With more urban conglomerations coming up, only 40% of population would be engaged in agricultural sector as against nearly two thirds of people depending on this sector for livelihood. Share of agriculture in the GDP will come down to 6% (down from 28%). Services sector would assume greater prominence in our economy. The shift in demographic profile and composition of GDP are significant for strategy planners in the banking sector.

Small and Medium Enterprises (SME) sector would emerge as a major contributor to employment generation in the country. Small Scale sector had received policy support from the Government in the past considering the employment generation and favourable capital-output ratio. This segment had, however, remained vulnerable in many ways. Globalization and opening up of the economy to international competition has added to the woes of this sector making bankers wary of supporting the sector. It is expected that the SME sector will emerge as a vibrant sector, contributing significantly to the GDP growth and exports.

India's share in International trade has remained well below 1%. Being not an export led economy (exports remaining below 15% of the GDP), we have remained rather insulated from global economic shocks. This profile will undergo a change, as we plan for 8-9% growth in GDP. Planning Commission report visualizes a more globalised economy. Our international trade is expected to constitute 35% of the GDP.

In short, the Vision of India in 2020 is of a nation bustling with energy, entrepreneurship and innovation. In other words, we hope to see a market-driven, productive and highly competitive economy. To realize the above objective, we need a financial system, which is inherently strong, functionally diverse and displays efficiency and flexibility. The banking system is, by far, the most dominant segment of the financial sector, accounting for as it does, over 80% of the funds flowing through the financial sector. It should, therefore, be our endeavor to develop a more resilient, competitive and dynamic financial system with best practices that supports and contributes positively to the growth of the economy.

The ability of the financial system in its present structure to make available investible resources to the potential investors in the forms and tenors that will be required by them in the coming years, that is, as equity, long term debt and medium and short-term debt would be critical to the achievement of plan objectives. The gap in demand and supply of resources in different segments of the financial markets has to be met and for this, smooth flow of funds between various types of financial institutions and instruments would need to be facilitated.

Government's policy documents list investment in infrastructure as a major area which needs to be focused. Financing of infrastructure projects is a specialized activity and would continue to be of critical importance in the future. After all, a sound and efficient infrastructure is a sine qua non for sustainable economic development. Infrastructure services have generally been provided by the public sector all over the world in the past as these services have an element of public good in them. In the recent past, this picture has changed and private financing of infrastructure has made substantial progress. This shift towards greater role of commercial funding in infrastructure projects is expected to become more prominent in coming years. The role of the Government would become more and more of that of a facilitator and the development of infrastructure would really become an exercise in public-private partnership. 'India Infrastructure Report' (Rakesh Mohan Committee - 1996) placed financing of infrastructure as a major responsibility of banks and financial institutions in the years to come. The report estimated the funding requirements of various sectors in the infrastructure area at Rs 12,00,000 crore by the year 2005-06. Since the estimated availability of financing from Indian financial institutions and banks was expected at only Rs 1,20,000 crore, a large gap is left which needs to be filled through bilateral/multilateral/government funding.

It has been observed globally that project finance to developing economies flows in where there is relatively stable macro-economic environment. These include regulatory reforms and opening of market to competition and private investment. Liberalized financial markets, promoting and deepening of domestic markets, wider use of risk management tools and other financial derivative products, improved legal framework, accounting and disclosure standards etc are some of the other aspects which would impact commercial funding of infrastructure projects.

The India Vision document of Planning Commission envisages Foreign Direct Investments (FDI) to contribute 35% (21% now) to gross capital formation of the country by 2020. Government has announced a policy to encourage greater flow of FDI into the banking sector. The recent amendment bill introduced in Parliament to remove the 10% ceiling on the voting rights of shareholders of banking companies is a move in this direction. The working group expects this to have an impact on the capital structure of the banks in India in the coming years.

Consequent to opening up of the economy for greater trade and investment relations with the outside world, which is imperative if the growth projections of India Vision 2020 were to materialize, we expect the banking Industry's business also to be driven by forces of globalization. This may be further accentuated with the realisation of full convertibility of the rupee on capital account and consequent free flow of capital across the borders. An increase in the income levels of the people would naturally lead to changes in the spending pattern also. This could result in larger investments in the areas like entertainment and leisure, education, healthcare etc and naturally, these would attract greater participation of the banking system.

On the basis of the projection made by the Draft 10th Five Year Plan on relevant macro indicators such as GDP and extending the trend for a further period of three years, it is estimated that GDP at current market prices during 2009-10 would be Rs.61,40,000 crore. Taking into account the on-going reform measures, expected Basel II needs, and financial dis-intermediation, the pace of expansion in the balance sheets of banks is likely to decelerate. Thus total assets of all scheduled commercial banks by end March 2010 may be taken as Rs.40,90,000 crore as a working estimate. At that level, the annual composite rate of growth in total assets of Scheduled Commercial Banks would be about 13.4 per cent to be over 2002-03 as compared to 16.7 per cent between 1994-95 and 2002-03. It will form about 65 per cent of GDP at current market prices as compared to 67 per cent in 2002-03.

On the liability side, there may be large augmentation to capital base. Reserves are likely to increase substantially. Banks will relay more on borrowed funds. Hence, the pace of accretion to deposits may slow down.

On the asset side, the pace of growth in both advances and investment may slacken. However, under advances, the share of bills may increase. Similarly, under investment, the share of 'others' may increase.