Finnoviti Keynote
Chief Guest at Finnoviti 2021, India’s largest innovation carnival, Dr. Krishnamurthy Subramanian, Chief Economic Advisor, Government of India, highlights the importance of technology that could spur the growth of the Indian banking and financial sector. Excerpts of from his interaction Manoj Agarwal and Mehul Dani of Banking Frontiers:
Manoj: Would you like to begin by giving a perspective of Indian financial system versus the financial system in some large countries that you think we can be inspired from?
Dr Subramanian: The Indian banking sector can claim credit i n domestic comparison. But when it comes to international comparison, I think on most metrics, the Indian banking sector has miles to go.
If you look at the credit penetration metric - private sector credit to GDP, in India, it is about 52-53%. In other words, half of our GDP is out of private sector credit. The average for the OECD (The Organization for Economic Co-operation and Development) economy is of the order of 160%. We are one-third of that average. Now, if you take a section of the country like north-east, and compare it to OECD economies, we are 1-16th of that average.
Again, if you look at the number and scale of banks in India and keep in the mind that India is the 5th largest economy in the world, we should have about 7 or 8 banks in the global top 100. And yet we have only 1 bank in global top 100, and that is 55th rank - State Bank of India.
Look at any large economy, say Japan in 1980s. Japan, in its heyday, had 18 banks in the top 100. Today, similarly, 18 of the top 100 banks are Chinese.
Another point is quality of lending. Every time, there is a banking sector crisis in India, whether it is in early or late 1990s, the problem stems from the bad loans that are given to the large corporate. Whether it is private sector banks or public sector banks, none of our banks have actually been able to figure out a robust sustainable way of doing large corporate lending without having these periodic episodes of bad loans which are in turn are either filled up by tax payers or depositors.
The banking and financial sector have 2 key problems – the adverse selection problem and the moral hazard problem. Our banks have not been able to solve these problems well. And especially with large corporate, we have both these problems. No other country in the world, where a company has defaulted on its loans previously gets loan again, but in India, there are several groups which are serial defaulters, and yet end up getting credit.
Manoj: If the big lenders are having problems and not looking at the real picture, do you think smaller and newer lenders are doing a better job? Can the country expect more from them in the near future?
Dr Subramanian: The smaller banks are faring far worse in terms of their performance. In terms of their expertise in indentifying good credit, and being able to address the adverse selection, and moral hazard problems, the smaller banks are struggling far more than the bigger banks on an average. Though the bigger banks have also had problems, but as a percentage of their balance sheet, the smaller banks have bigger problems partly because they have not been adept in embracing technology. The Indian banking system and the overall financial sector have been slow in embracing data, analytics and artificial intelligence. Many global leaders have used these technologies since 2000, and we are in 2021 where many of our banks are still warming to the idea of implementing these technologies. Those new lenders who are coming up must understand the power of technology, data, analytics, and then they will be able to do a much better job than those who are not using technology. The differentiation should not be made on new versus old or small versus big, the distinction has to be made between those who are technology adept or embracing the cutting-edge analytics and those who are still in the old arena.
Manoj: Do you have any message on what the younger generation - fintechs & startups - can do to enhance the lending and business, particularly to SMEs and corporate?
The challenge and the opportunity are in using the data, analytics in large corporate lending. When you think about likelihood of default by borrowers, that is a function of two things - the ability to repay and the willingness to repay. Ability to repay is easier to assess. A lot of research has also been made on using qualitative parameters to assess the willingness to repay. In the Indian setting, especially the large corporate loans, the bigger problem is about willingness to repay. And that is something the fintech really need to think about, think creatively how
they can get data to assess the willingness to repay. There may be indicators that capture willingness to repay. It could be about character, values of the borrowers, things that are more qualitative, which loan officers can assess. Hence, there is a lot of potential where fintechs can actually use a lot of research and psychology to assess these kinds of things.
Manoj: So, apart from engineers, banks should have people with psychology and sociology background for assessing this?
Banks need to hire experts. Specialization is something that banks need to respect. Our banks need to use cutting-edge research. Unfortunately, not many CEOs read enough on cutting-edge research. CEOs should not be busy with day-to-day stuff. CEO’s job is to think and have others to do the work and to think well, you have to read a lot. They have to think what kind of people they need to hire, what kind of research have to be done, and create a team just to do that.
Mehul: You are a strong supporter and advocate of wealth creation through private entrepreneurship. Can you elaborate on the idea?
Good question Mehul. If you go and read a very nice book by Angus Maddison, what he did is, look at the contribution to world GDP by different countries from 1 AD till 2000 AD. The salient finding from this book is that from 1 AD till 1758 AD, ie 17.5 centuries, India was the dominant economic power, accounting for one-third of the world’s GDP. In perspective, consider the United States. At its peak, the United States contributed to 15-16% of the world’s GDP, for half a century, ie, US dominance on the economic side has been for half a century. A half-century vs 17.5 centuries and 33% of world GDP vs 16% of the world’s GDP. Now such kind of dominance does not happen by sheer luck. Such kind of dominance happens because of the depth of the economic model that is followed in the country. And here is where ethical wealth creation comes in.
You go and read any of the literature, you’ll find that in India it is a path of our ethos, among the four global pursuits, wealth is recommended as a noble pursuit. Our scriptures talk about dharma, arth, kama and moksha. Arth is wealth. Similarly, in our homes we write shubh labh, in other words, do good and earn the profit, profit was never a dirty word.
It is unfortunate that for about 50 years, India chose the socialistic model, where profit was taken to be a dirty word. Iit is on record that our first prime minister mentioned that profit is a dirty word. Wealth creation and ethical wealth creation has been a part of India for a millennium. You can read
Thirukural which is written in Tamil, where Sant Thiruvalluvar says that the lamp that dispels the darkness of poverty is wealth. And this is written almost 3500 years ago. In one of the other shlokas, he talks about how becoming well it is the easiest way of destroying the pride of your enemy.
In the last year’s economic survey, it is not that the economics have not recommended the private sector for wealth creation. But they have done that by appealing to Adam Smith’s and their descendant, without realising that this has been a part of India’s DNA.
Mehul: What is the roadmap ahead in privatization in banking?
This year’s budget has proposed the privatization of 2 public sector banks and I think that is a very important move because it effectively brings the full circle after 51 years of bank nationalisation. The unwinding is a very important move because the productivity and incentives are much better aligned in the private sector than in the public sector. We showed it in the last year’s economic survey as well, that on most parameters the worst private sector bank is actually better than the best public sector bank on most parameters. I think there is a solid piece of evidence that one has to pay attention to.