Watch out SBI, HDFC Bank: Small and payment banks will dent your monopoly

By the end of this month, India will have two more categories of banks: payment banks, which will largely raise deposits and invest in government securities, and small finance banks, which will extend small loans all over India, even though they may begin operations in regions they are familiar with.

The Reserve Bank has modified its earlier proposal for small banks , which were supposed to be banks with a purely local geographical footprint. Luckily, Governor Raghuram Rajan has been convinced that a restricted area of operations will kill the very idea of small banks.

The opportunity to create new categories of banks is welcome for many reasons.

First, the regulations will offer a path for non-bank financial companies and microfinance institutions to graduate to regular banking - but with lower cost structures. In the coming years, these banks should logically become the right vehicles for financial inclusion in non-urban areas. If this had happened two years ago, the Jan Dhan Yojana, which the big banks are willy-nilly being forced to accept, could have been taken forward by small and payment banks, forcing the big boys to create their own infrastructure to compete for rural deposits and loans.

Second, the new banking formats will enable non-financial companies with the right technology and strong customer franchise to enter the field. This will make banking more accessible, competitive, and ultimately cheaper. Even though India has many banks, they are resistant to lowering their margins for one simple reason: customers seldom defect. Consider the hassle involved in moving everything from salary accounts, to bill payments, to trading accounts, to automated EMI payments for your home or car loans. Changing your bank is rarely an easy decision. Customers opt out only when they change jobs (as salary accounts have to be moved), or when their current bank offers very poor services (which is often not the case as most people only use ATMs and internet banking), or there is some other compelling incentive to shift.

But small banks and payment banks will suddenly bring new competition of a different kind . If mobile companies like Airtel or retailers like Big Bazaar and Flipkart enter the banking business as payment (or small) banks, the high-cost public sector banks will be forced to become more efficient. At the very least, people will add another bank to serve them. Even the HDFC and ICICI Banks, which are highly profitable as they cater to the top end of the market, will not be able to retain their high margins without significantly improved offerings.

The State Bank of India, other public sector banks, and even the big private sector banks will face the heat on CASA - cheap and current and savings accounts.

Third, the Post Office can really challenge the public sector monopolies with its reach of over 1,50,000 branches, most of them in rural areas. What an Airtel Bank can do in the cities, India Post can do in rural areas. However, to do this, India Post needs to have its focus clear. It is hankering after a universal bank licence , but the last thing India needs is another public sector bank that the taxpayer has to fund or recapitalise frequently. It should become a full-fledged payment bank instead because this is what it is good at - and what it is already doing. Consider what India Post’s USP is: reach. It has no expertise in lending. So isn’t it logical for it to expand its deposit operations instead of trying to be a lender? In any case, the RBI is sure to allow small-ticket lending once payment banks develop a track record. Once again the logic is simple: if a customer can deposit upto Rs 1 lakh with a payment bank, there is no reason it cannot lend him upto that limit against the deposit. There is no risk whatsoever. What India does not need is one more public sector bank which will be politically pressured to lend to favoured groups.

Fourth, some bad ideas in public sector banking should also quietly be wound up. One such idea is the Bharatiya Mahila Bank (BMB), a women-only bank that was offered as a sop by the UPA after the horrific Delhi gangrape of December 2012. It is scrounging around for customers.

An all-India women’s bank cannot deliver anything that an ordinary bank can’t. The real issue is the lack of big-ticket women-owned businesses to lend to. A Mint story today (17 November) called the Bharatiya Mahila Bank “UPA’s Rs 1,000 crore misadventure ". Though it is not quite a misadventure yet, there is clearly no need for it beyond the symbolism.

What the story really underscores is that the bank is trying to find customers by expanding its focus beyond women. The Mahila Bank lends to companies headed by women CEOs, or companies where 40 percent of the board comprises women, or 50 percent of the employees are women. It even lends to men running businesses that cater to women-oriented courses like nursing.

But can these customers not find bank finance otherwise? BMB does not really have a constituency that is poorly served as of now. On the liabilities side, there is no bank in India which does not have women depositors, or where women feel discriminated against as depositors. As for borrowers, the various microfinance institutions and self-help groups cater largely to women doing micro businesses; as for women doing larger businesses, there are very few of them, and one doubts they are starved for finance just because they are women.

One can stretch an argument and say that women customers may be happier dealing with women bankers; but this is a case for ordinary banks to recruit more women.

Once payment banks and small finance banks come in, there will be no space for a universal women’s bank. The regular banks can do the job at the top end, and the payment banks and small banks at the smaller retail end, where most of the women-run smaller and micro businesses are. On the contrary, there would be a good case for converting some of the weaker public sector banks (like United Bank) into payment banks, and shift their loan assets to other banks or even handed over to asset management companies for recovery.

But the broader conclusion is this: as new types of banks are set up, some of the older banks will start feeling the heat. The new banks should prompt a rethink among existing universal banks on whether they are doing a good enough job. Or whether they are merely making money in an scenario where competition is low.