The government is creating a roadmap to dilute up to 20% of its stake in five public sector banks over the next four years. The plan is to bring down government ownership below 75%, with extensive consultations underway involving the department of investment and public asset management, the department of financial services, and state-run lenders.
Disinvestment in public sector banks and state insurers should be viewed in the context of reducing bureaucratic interference and granting greater autonomy to bank management. This may facilitate faster decision-making and improved efficiency. The initiative is part of a broader strategy to encourage public ownership in government-run enterprises while enhancing market liquidity and depth.
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The five banks under consideration are Bank of Maharashtra, in which the government holds 86.46% stake; Indian Overseas Bank with 96.38% ownership; UCO Bank at 95.39%; Central Bank of India with 93.08% holding; and Punjab and Sind Bank at 98.25%.
Disinvestment may benefit public sector banks
Bankers say that the strong financial health of Indian banks makes this an ideal time for the government to initiate disinvestment. With low non-performing assets and solid capital bases, PSBs are well-positioned for stake reduction where government ownership exceeds 75%.
The Union government holds majority stake (over 50%) in public sector banks. Disinvestment refers to the sale of these shares to private investors. If government ownership falls below 50%, the bank transitions into private management—a process known as privatisation.
Union Finance Minister Nirmala Sitharaman outlined the government’s disinvestment policy for central public sector undertakings in her 2021-2022 Budget speech. While PSBs and state insurers play a crucial role in achieving social objectives, such as providing banking services to remote and vulnerable populations, excessive government control often stifles governance. However, there is a concern that once divested, PSBs may prioritise profit maximisation at the cost of social responsibilities.
The core issue with CPSUs, including PSBs, is continued majority ownership and control by the government. Since these banks fall under government jurisdiction, they are subjected to extensive regulations, surveillance, and bureaucratic control. This influence extends to board-level appointments, leading to governance structures that prioritise political considerations over sound banking policies. As a result, critical policy decisions are often compromised under political pressure.
Perils of political interference in PSBs
Excessive government control has also led to crony capitalism, where politically connected businesses secure loans based on relationships rather than merit. Such loans are often extended indefinitely, fostering a culture where repayment enforcement is weak and defaults go unpunished.
Historically, Indian public sector banks have been burdened by political pressures, forcing them to absorb the financial impact of populist policies. For example, PSBs have subsidised or provided free electricity to farmers and households, leading to substantial losses. Additionally, bailouts for struggling power distribution companies (discoms) and widespread farm loan waivers have further strained their financial health.
History of public sector banks
Government involvement in the banking sector began with the nationalisation of The Imperial Bank of India on July 1, 1955, transforming it into the State Bank of India. The objective was to create a strong, state-backed banking entity to drive economic development, particularly in rural areas. Another goal was to break the close ties between big business houses and major banks.
To strengthen governance, the board was restructured post-nationalisation, with 51% of directors mandated to have specialised knowledge or practical experience in banking. The broader vision was to support the needs of an independent India by ensuring equitable credit distribution.
In 2019, ten PSBs were consolidated into four banks, reducing the total number of PSU banks to 12. Punjab National Bank was merged with Oriental Bank of Commerce and United Bank of India. Indian Bank was merged with Allahabad Bank. Canara Bank was merged with Syndicate Bank. Finally, Union Bank of India was merged with Andhra Bank and Corporation Bank.
The case for further disinvestment
The government now believes that divestment will enable PSBs to function with greater autonomy and make sound business decisions without political influence. Moreover, given their current profitability, these banks no longer require government support.
The government holds surplus equity stakes in several banks, far exceeding SEBI’s guidelines. At current valuations, this excess stake is worth over Rs 43,000 crore. Instead of maintaining excess equity, the government aims to use the proceeds from disinvestment to fuel economic growth.
Bank of India’s Managing Director and CEO Rajneesh Karnatak recently stated that government stakes in PSBs can be reduced further, as banks require additional capital for expansion in a growing economy.
The planned stake dilution aligns with India’s broader financial sector reforms, including increasing private participation and enhancing capital flows in state-run banks. The outcome of this initiative will be closely watched by domestic and international investors, as it could set a precedent for future privatisation efforts in India’s financial sector.