Banking sector reforms in India
To understand banking sector reforms in India, we must first recall the historical context. Until the early 1990s, India’s banking system was highly regulated and dominated by Public Sector Banks (PSBs). Interest rates were controlled, credit allocation was directed by the government, and banks were required to maintain very high SLR (Statutory Liquidity Ratio) and CRR (Cash Reserve Ratio).
This system ensured stability but gradually led to inefficiency, low profitability, and weak financial health of banks.
Therefore, after the 1991 economic crisis, India began a series of financial sector reforms, and several committees were formed to diagnose problems and recommend structural improvements. Let us understand these committees chronologically.
Narasimham Committee I (1991)
This committee, chaired by M. Narasimham, was one of the most influential committees in India’s banking reforms. It was set up in 1991, when India was undergoing economic liberalization.
The objective was to modernize the Indian banking system and align it with global standards.
Key Recommendations
1. Reduction of SLR and CRR
Before reforms:
- SLR was around 38.5%
- CRR was around 15%
This meant that more than half of bank deposits were locked with the government or RBI, leaving little money for productive lending.
The committee recommended:
- Reducing SLR and CRR
- Allowing banks to lend more to the productive sectors of the economy.
This step significantly improved credit availability and banking efficiency.
2. Liberalization of the Banking Sector
The committee suggested:
- Allowing private sector banks
- Increasing competition in the banking industry
- Moving away from excessive government control
This led to the emergence of new private banks in the 1990s, such as HDFC Bank, ICICI Bank, and Axis Bank.
3. Establishment of Asset Reconstruction Companies (ARCs)
Banks were facing rising Non-Performing Assets (NPAs).
To address this, the committee proposed the creation of Asset Reconstruction Companies (ARCs).
ARCs:
- Purchase bad loans from banks
- Attempt to recover value from those assets
This allows banks to clean their balance sheets and focus on fresh lending.
4. Creation of Board for Financial Supervision (BFS)
The committee also suggested setting up the Board for Financial Supervision under the RBI.
Purpose:
- Strengthen bank supervision
- Monitor financial stability
- Ensure better regulatory oversight
Today, the BFS operates under the RBI to supervise banks and financial institutions.
Narasimham Committee II (1998)
Seven years after the first committee, the government formed Narasimham Committee II to review the progress of earlier reforms and propose further improvements.
Key Recommendations
1. Reduce Government Stake in Public Sector Banks
The committee recommended that the government’s ownership in Public Sector Banks should fall below 33%.
Why?
Because excessive government ownership leads to → Political interference, Poor governance and Lack of accountability
Lower government ownership would increase → Professional management and Operational autonomy.
2. Establishment of Credit Information Bureau (CIB)
Banks often face information asymmetry while lending.
Borrowers may hide existing loans and repayment defaults
To solve this, the committee recommended a Credit Information Bureau.
Today this idea materialized as institutions like CIBIL, which provide credit scores and borrower credit history. This helps banks assess credit risk before lending.
3. Creation of Debt Recovery Tribunals (DRTs)
Another major issue was slow recovery of bad loans due to long court processes.
The committee recommended establishing Debt Recovery Tribunals (DRTs) for → Faster recovery of NPAs and speedy legal proceedings
This helped improve the efficiency of loan recovery mechanisms.
4. Introduction of Prudential Norms
The committee recommended international-standard prudential norms, particularly for → Income Recognition, Asset Classification and Provisioning
These norms ensure that banks recognize bad loans transparently and maintain financial discipline.
Raghuram Rajan Committee (2008)
This committee was chaired by Raghuram Rajan, who later became the Governor of RBI.
The committee was tasked with strengthening the financial sector and improving its inclusiveness and competitiveness.
Key Recommendations
1. Financial Sector Development Council
The committee suggested creating a Financial Sector Development Council (FSDC).
Purpose:
- Coordinate among financial regulators
- Oversee financial sector development and stability
Today, FSDC functions as an apex body for financial sector coordination.
2. Liberalization of Financial Services
The committee supported:
- Greater participation of private sector players
- Entry of foreign financial institutions
This would → increase competition, improve efficiency and promote innovation in financial services.
3. Expanding Financial Inclusion
A major concern was that a large population remained outside the formal banking system.
The committee emphasized expanding banking access and bringing underserved populations into the financial system
This idea later contributed to initiatives like → Jan Dhan Yojana and digital financial inclusion
Financial Sector Legislative Reforms Commission (FSLRC) – 2011
The FSLRC, chaired by Justice B. N. Srikrishna, had a broader mandate. Instead of focusing only on banks, it aimed to review the entire legal framework governing the financial sector.
Key Recommendations
1. Creation of a Unified Financial Agency
The commission proposed a Unified Financial Agency (UFA) to consolidate regulatory functions.
Currently, regulation is fragmented among multiple regulators → RBI, SEBI, IRDAI and PFRDA
A unified regulator could improve regulatory coordination and consistency of rules.
2. Stronger Consumer Protection
The commission emphasized transparency, accountability and consumer rights.
Financial consumers should receive clear information about financial products and risks.
3. Financial Redressal Agency
The commission suggested establishing a Financial Redressal Agency (FRA).
Purpose:
- Resolve complaints of financial consumers
- Provide a fast grievance redressal mechanism
This would strengthen trust in the financial system.
P. J. Nayak Committee (2014)
This committee was set up to examine governance issues in Public Sector Banks.
Public banks were facing problems such as political interference, poor decision-making and rising NPAs.
Key Recommendations
1. Reduce Government Stake Below 50%
The committee recommended reducing the government’s shareholding below 50%.
This would:
- free banks from government control
- improve corporate governance
- allow more professional management.
2. Creation of Bank Boards Bureau (BBB)
The committee suggested establishing the Bank Boards Bureau.
Functions:
- appoint top management in public sector banks
- guide banks on capital raising and strategic planning
The BBB was later created to improve governance in PSBs.
Nachiket Mor Committee (2014)
This committee focused on financial inclusion, which means ensuring that every citizen has access to basic financial services.
Key Recommendations
1. Universal Bank Accounts
The committee proposed that every Indian adult should have a bank account by 2016. This idea laid the groundwork for large-scale financial inclusion programs.
2. Creation of Payment Banks
The committee recommended establishing Payment Banks.
These banks:
- accept small deposits
- provide payment and remittance services
- promote digital transactions
However, they cannot issue loans.
Examples include → Airtel Payments Bank, India Post Payments Bank.
Bimal Jalan Committee (2019)
The Bimal Jalan Committee addressed a critical issue related to the Reserve Bank of India’s economic capital framework.
The key question was:
How much reserve should RBI maintain, and how much surplus can be transferred to the government?
Key Recommendations
1. Optimal Level of RBI Reserves
The committee recommended that the RBI should maintain adequate contingency reserves to protect against financial crises, currency volatility and economic shocks.
2. Framework for Surplus Distribution
The committee proposed a structured mechanism for transferring RBI surplus to the government.
This ensures a balance between financial stability of RBI and fiscal needs of the government