Burden of Financial Reform

Burden of Financial Reform THE Reserve Bank of India has taken the expected step of reducing the minimum lending rate of banks for the highest credit limit slab of above Rs 2 lakh by one percentage point to 16 per cent, effective from June 24. The reduction for the middle slab of Rs 25,000 to Rs 2 lakh has been restricted to half a percentage point to 16 per cent (fixed), thus bringing on par the fixed rate for this slab and the minimum rate for the highest slab. No reduction has been made in the lowest concessional slab of credit limits up to Rs 25,000 which attracts a rate of 12 per cent per annum. Thus, within a short period of a year and a half the number of lending rate slabs has been reduced from six to three, with considerable narrowing of the spread between rates and reduction in the element of cross-subsidisation. This takes the interest rate structure closer to the reform agenda, namely, a two-slab system consisting of a minimum lending rate and a concessional rate. The deposit rate part of interest rate reform has already been implemented: since March 1992, there is only one maximum deposit rate for the entire term structure ranging from 46 days to three years and over. Thus a fixed deposit for 46 days fetches today 11 per cent per annum, while the interest rate on saving deposit accounts which was hitherto 6 per cent has now been reduced to 5 per cent. Broadly, the entire approach to financial sector reform has been conditioned by the government's objective of pushing the banks towards globalisation. The authorities do not apparently realise the cost this effort imposes on the real economy. The banking system has to be viable, of course; but the obsession with achieving high profitability and a risk- weighted capital base following norms prescribed for international banks is proving to be disastrous. Without examining the budgetary and interest cost implications, the government and the RBI have readily accepted the 8 per cent risk- weighted capital adequacy norm as prescribed by the Basle Committee on Banking Regulations and Supervisory Practices. For decades, the world of banking has remained perfectly solvent and has grown on a capital base of less than 2 per cent. The new norms have imposed a heavy cost on banks even in the developed countries. Many international banks in Japan and even in such a financially sturdy country as Germany are finding it difficult to fulfil the BIS norms. Besides, these norms have also induced a major shift in bank lending away from traditional corporate loans and consequently from interest income to non-fund based earnings. For developing country banks, these are steps that deserve to be deferred at least by a decade. Having accepted the norms, every sector of the economy is made to pay the price in terms of higher interest cost. The short (5-year) maturity government security coupon rates have been pushed up to 13 per cent and those on the 10-year state government securities to 13.5 per cent