Title - Financing through IFCI and ICICI – A
Comparative Study
Subject Area (Finance)
Introduction
The banking system
in India is significantly different from that of other Asian nations because of
the country’s unique geographic, social, and economic characteristics. India
has a large population and land size, a diverse culture, and extreme
disparities in in-come, which are marked among its regions. There are high
levels of illiteracy among a large percentage of its population but, at the same
time, the country has a large reservoir of managerial and technologically
advanced talents. Between about 30 and 35 percent of the population resides in
metro and urban cities and the rest is spread in several semi-urban and rural
centers. The country’s economic policy framework combines socialistic and
capitalistic features with a heavy bias towards public sector investment. India
has followed the path of growth-led exports rather than the “export-led growth”
of other Asian economies, with emphasis on self-reliance through import
substitution.
These features are
reflected in the structure, size, and diversity of the country’s banking and
financial sector. The banking system has had to serve the goals of economic
policies enunciated in successive five-year development plans, particularly
concerning equitable income distribution, balanced regional economic growth,
and the reduction and elimination of private sector monopolies in trade and
industry. In order for the banking industry to serve as an instrument of ICICI
policy, it was subjected to various nationalization schemes in different phases
(1955, 1969, and 1980). As a result, banking remained internationally isolated
(few Indian banks had presence abroad in international financial centers)
because of preoccupations with domestic priorities, especially massive branch
expansion and attracting more people to the system. Moreover, the sector has
been as-signed the role of providing support to other economic sectors such as
agriculture, small-scale industries, exports, and banking activities in the
developed commercial centers (i.e., metro, urban, and a limited number of
semi-urban centers).
The banking
system’s international isolation was also due to strict branch licensing
controls on foreign banks already operating in the country as well as entry
restrictions facing new foreign banks. A criterion of reciprocity is required
for any Indian bank to open an office abroad.
These features have
left the Indian banking sec-tor with weaknesses and strengths. A big challenge
facing Indian banks is how, under the current ownership structure, to attain
operational efficiency suit-able for modern financial intermediation. On the
other hand, it has been relatively easy for the public sector banks to
recapitalize, given the increases in non performing assets (NPAs), as their
Government-dominated ownership structure has reduced the conflicts of interest
that private banks would face.
The role of banks
remains central in the financing of economic activities, despite the increased
trend towards bank intermediation observed in many countries. Banks play an
important role in attracting savings from public and mobilizing the same in
productive activities. A sound, efficient and profitable banking sector would
be able to resist negative shocks and contribute to the stability of the
financial system by making financial resources accessible to economic needs.
Therefore, the determinants of bank performance have attracted the attention of
the academic researchers as well as of the policy makers.
The Indian banking
system has undergone drastic changes since 1969, with the policy on
nationalization of commercial banks. After nationalization, the Indian banking
system registered tremendous growth in terms of branch expansion and credit
allocation. The Reserve (RBI) stipulated lending targets to priority sector,
offered refinancing facilities, set up credit guarantee schemes, and asked
banks to open branches in rural and semi-urban areas to make banking facilities
available to each part of the country. The lending bank scheme came into being
for designing and implementing credit plans at micro level. These measures led
to the significant growth of the banking sector, in general, and the public
sector banks, in particular. Consequently, by the early 1990s, the share of
rural branches increased from 22.2% to 58.46% and public sector banks accounted
for nearly 90% of total deposits and advances.
Despite the
undeniable and multiple gains of bank nationalization, the Indian banking
system was subjected to central direction and control. In the name of social
control over banks, operations of foreign banks were restricted to a few large
cities. Reserve (RBI) mandated banks to hold government securities in their
asset portfolios, in order to finance government fiscal deficits through Cash
Reserve Ratio (CRR) and Statutory Liquidity Ratio (SLR). Interest rates were
regulated. Additionally, they lagged behind in the introduction of information
technology and product innovations. Banks themselves had little control over
their inputs and outputs. As a result, by 1992, the profitability of the Indian
banks was extremely low, due to the under capitalization of banks. Only 15 out
of 28 public sector banks declared net profit. Non-Performing Assets (NPAs) in
the public sector banks accounted for 24% of total loan portfolios. Operational
expenses increased at enormous levels. Thirteen banks in public sector made
overall losses of which eight banks made operating losses. The net profit to
assets ratio of public sector banks varied between –6.8% to +0.5%; half of the
public sector banks had negative net worth and inefficiency became part and
parcel of banking operations.
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