Financial Sector & Banking

Investment in India - Financial Sector & Banking

Financial sector and Banking:

Continuing reforms in the banking sector were aimed at improving the efficiency and financial strength of commercial banks. Aggregate deposits of the scheduled commercial banks stood at $ 1.48 billion in IFY 1997-98, an increase of 15.1 percent.

Net profits of commercial banks

Net profits of scheduled commercial banks rose sharply from $ 24 million in 1995-96 to 1.2 billion in 1996-97, an increase of 387 percent. Much of the increase was due to marking government securities to market prices, following significant declines in prevailing interest rates. Three public sector banks received capital restructuring loans from the government totaling $ 68 million in 1997-98, enabling those banks to reach a capital adequacy ratio of 8 percent.

Autonomy package

In November 1997, the Indian government announced an autonomy package for financially stronger public sector banks to help them compete more efficiently in a liberalized environment and to accelerate credit creation. Eleven banks qualified for the autonomy package.

The criteria for administrative autonomy are:

capital adequacy of at least 8 percent;

net non-performing assets of less than 9 percent;

minimum net owned funds of more than $ 2.5 million (Rs. 100 crores)

and a net profit for the last three years.

Banks that meet the four criteria will be given operational freedom in most administrative matters.

RBI norms for NBFC's

The RBI has relaxed its norms for non-bank finance companies (NBFCs) with regard to taking deposits from the public. It has allowed equipment leasing and hire-purchase finance companies with investment-grade ratings to access public deposits, raised the ceiling on the amount of public deposits these NBFCs may accept and extended the deadline for full compliance on its regulations by two years, until December 2000. The financial viability of many NBFCs continues to be of concern to the government and RBI regulators. There is considerable consolidation activity in this sector as NBFCs adjust to the tougher standards they are being required to meet.

WTO negotiations on financial services:
India made a number of new commitments in the WTO Financial Services agreement concluded in Geneva in December 1997. These modest commitments will come into effect in January 1999.

Major features of India's offer include:

granting most favored nation (MFN) status to all foreign banks and financial services companies (including insurance),

dropping a previous MFN exemption on banking;

granting 12 new bank branch licenses per year to foreign banks (up from the present commitment of 8 per year)

ifting the 10 percent ceiling on reinsurance by Indian insurance companies;

allowing 51 percent foreign investment in financial consulting, factoring, leasing, venture capital, merchant banking and non-banking finance companies.

Insurance sector

In addition, 49 percent foreign equity will be allowed in stock brokerages; and foreign financial services companies, including banks, will be allowed to invest venture capital in India up to 51 percent of a company's equity, Insurance.

Legality

As part of his 1998-99 budget presentation to Parliament on June 1, the Finance Minister announced his intention to open the insurance sector to competition from Indian private sector companies. He also proposed to convert Insurance Regulatory Authority (IRA) into an independent, statutory body. Both actions will require Parliament to adopt new legislation, including amendments to two Acts which reserve life insurance and general insurance for government owned monopolies.

Foreign insurance companies

The government has not yet clarified whether foreign insurance companies will be allowed to participate as minority joint venture partners when the sector is opened up. Many observers believe that the government will allow foreign participation to compensate for a lack of capital and expertise among likely participants in the Indian private sector.

LIC and GIC

The government has granted substantial operational autonomy to the Life Insurance Corporation (LIC) and General Insurance Corporation (GIC), both of which have monopoly positions in their respective sectors under current law. LIC can now appoint fund managers/ investment advisors both in India and abroad and is allowed to invest 60 percent of its insurance funds in approved market investments. New measures also provide more lenient investment norms, permission to trade in securities subject to prescribed limits and more delegation of operational powers to the four general insurance subsidiaries of GIC.

Capital Account Convertibility

The Tara pore Committee report on Capital Account Convertibility, released in June 1997, recommended a three-year time-frame for complete capital account convertibility of the rupee. The Committee set out the following preconditions for full convertibility:

reduction of the fiscal deficit to 3.5 percent of GDP by 1999-2000;

an average inflation rate of 3-5 percent for the period 1997-2000;

complete deregulation of all interest rates in 1997-98;

a reduction in the cash reserve ratio (CRR) to about 3 percent;

reduction in the level of banks' non-performing assets from an estimated 13.7 percent of total loans in March 1997 (actual NPAswere 17.8 percent of total loans) to 5 percent in 1999-2000; and

the adoption of a transparent exchange rate policy by 2000.

There is a general consensus in government and business community that India should not move to capital account convertibility until these conditions have been met, lest India suffer the kind of currency crisis which hit other Asian countries in 1997.