UPDATE 2-Indian central bank grants two new bank licences in cautious experiment
* IDFC, Bandhan Financial given preliminary bank licences
* Financial firms will have 18 months to meet banking rules
* More bank licenses to be issued on-tap (Adds details, quotes)
By Suvashree Dey Choudhury and Swati Pandey
MUMBAI, April 2 (Reuters) - India's central bank on Wednesday granted two preliminary licenses to set up new banks in a country where only one household in two has access to formal banking services.
The approval of licences for IDFC Ltd and Bandhan Financial Services marks the start of a cautious experiment for a sector dominated by lethargic state lenders, many of which are reluctant to expand into rural areas or towns where banking penetration is low. No new Indian bank has been formed since Yes Bank in 2004.
Proponents of more licences hope deep-pocketed corporate-backed banks will do more to serve these markets, but critics worry about whether companies can strictly separate their retail banking operations from their main businesses.
Despite these concerns, and the uncertainties raised by general elections due to conclude by May, the Reserve Bank of India has said it plans to issue more licences.
RBI Governor Raghuram Rajan said in a television interview earlier on Wednesday that banking licences will be an on-tap facility, meaning the central bank will keep issuing new licences to applicants it deems fit as and when required.
The Bharatiya Janata Party, which is overwhelmingly leading in polls, has not clarified its stance on the expansion of the banking sector.
"RBI's approach in this round of bank licences could well be categorised as conservative," the central bank said in a statement.
"At a time when there is public concern about governance, and when it comes to licences for entities that are intimately trusted by the Indian public, this may well be the most appropriate stance."
The RBI said the approval would be valid for 18 months during which IDFC and Bandhan Financial will have to comply with requirements laid down by the central bank.
IDFC, a Mumbai-based non-bank financial company, specialises in infrastructure lending, while Bandhan Financial is a microfinance organisation based in the eastern city of Kolkata.
The central bank said it will also consider an application from India Post, but under a separate process to be carried out in consultation with the government.
The central bank said 25 applicants had been considered and judged under criteria including analysis of their financial statements, their track record over the past 10 years and their potential to run a bank.
However, big companies that applied did not receive a license in this stage.
Applicants had included billionaire Anil Ambani's Reliance Capital ; the financial arm of Larsen & Toubro , India's biggest engineering group; and Shriram Capital, the holding company for Shriram Transport Finance Company.
ACCESS TO BANKING
India has 27 state-run banks and 22 private sector banks, according to RBI data, but its ratio of branches to adults is only about one-fourth of Brazil's, leaving about half of households in India - a country of 1.2 billion people - outside the banking system.
Over the last few years, RBI has been pushing banks to make more genuine efforts to penetrate into India's hinterland and increase lending to farmers, small traders and businesses.
But banks, struggling under huge piles of non-performing assets that are eroding their capital, have been reluctant.
The RBI formed a four-member external panel to start evaluating the applications for new bank licenses from November but has made clear that it will go slow.
It said on Wednesday it will consider giving out partial licenses that would allow companies to provide only few banking services, and consider bank applications on more regular basis as it learns lessons from the initial licenses.
"One can't expect these two licences to be a game changer. Scaling up, reaching out has its own cost," said Robin Roy, associate director of financial services at PriceWaterhouseCoopers India. "It won't be a cake walk to convert (that) into a banking model."
IDFC Chairman Rajiv Lall welcomed the grant of a license but anticipated an arduous process. "We will start working on this tomorrow. The whole structure has to be compliant in 18 months, so that has a number of legal steps," he told CNBC-TV 18 in an interview. (Additional reporting by Nandita Bose and Himank Sharma; Editing by Rafael Nam/Ruth Pitchford)