Nov 8 (The following statement was released by the rating agency)
The Reserve Bank of India's (RBI) recent steps aimed at subsidiarisation of
domestic foreign banks recognises the need for greater foreign participation in a growing Indian
economy, says Fitch Ratings. These rules are unlikely to alter the banking sector's competitive
landscape by itself, but does signal the prospect of further reforms.
Wholly owned subsidiaries (WOS) of foreign banks will now have considerable
freedom to open branches, list on Indian exchanges and participate in domestic
M&A. In theory, these ought to encourage existing large foreign banks to deepen
their business profiles in India. But regulatory treatment which is almost
equivalent to that for domestic banks, will also create formidable challenges
such as meeting priority sector lending (PSL) norms (40% net bank credit) and
maintaining at least 25% of all new branches in unbanked centres.
Foreign banks with 20 or more branches are anyway obliged to comply with the
broad and sub-targets under PSL, and have until FY18 to do so. However, their
ability to achieve this remains largely untested, as even Indian banks find it
hard at times to meet these targets on a consistent basis. Moreover, meeting PSL
guidelines may alter risk profiles and intensify competition in areas that are
not traditional growth areas for foreign-owned entities - such as agribusiness,
for which a sub-limit of 18% is applicable.
It is not obvious that the recent framework will incentivise foreign banks to
adopt the WOS model; but in the event they do, Fitch believes that such a step
is likely to be driven by strategic reasons - as commercial reasons appear less
compelling. The option of converting to subsidiaries was also made available
during the first phase of India's foreign bank reforms between FY05-FY09, though
foreign banks refrained from exercising this option.
The newly introduced framework is broadly based on the two core principles of
reciprocity and single mode of presence. But, notwithstanding reciprocity,
issues around parent shareholding and control will also have to be resolved in
time before existing institutions evince greater interest in expanding their
local presence. So far, these banks have enjoyed complete integration with their
Large foreign banks which may ultimately opt for subsidiarisation could benefit
over the longer-term and consolidate their presence. But even then, limited
capital headroom may pose future growth challenges. This is because their net
worth currently stands at around 15% of the system's total capital and reserves,
and not too far below the 20% limit under the new regulation.
An increasingly visible objective of the Indian authorities is to raise the
level of financial inclusion as well as banking competition - and in a manner
which is consistent with financial stability. As such, the recent rules are a
good beginning - but insufficient, by themselves, to shake up the domestic
banking landscape. But what it potentially signals is that further banking
reforms - currently being considered - are not too far off.
Foreign banks in India have a small but rising share of system assets, which
stood at around 7% at FYE12. There are more than 40 foreign banks in India, of
which the top three (Citibank, Standard Chartered and HSBC ) account for
over 60% of the total foreign banking assets. All of these institutions operate at
present through the branch format.