Why the Indian Financial System is in a Mess and How to save it from Collapse and Chaos

Why it Would Not Surprise Anyone That the Indian Financial System is in a Royal Mess

It would not come as news to anyone that the Indian Financial System is in a Royal Mess and hence, needs to be saved from collapse and chaos.

Indeed, read the news on any given day and chances are that there would be some news items that detail how so and so bank or financial institution is grappling with the High NPAs or the Non Performing Assets, also known in layperson’s term as Bad Loans.

Decades of Debt Binges, first under the UPA (United Progressive Alliance) years during the Boom in the first decade and half of the New Millennium and then, crony capitalistic lending to select industrialists, under the present Government, have saddled the Indian Financial System with a Humungous pile of Bad Loans.

The problem of NPAs is so rampant that even after periodic attempts to fix the mess, the Central Government and the RBI or the Reserve Bank of India, are unable to do anything worthwhile about salvaging the situation.

Indeed, the situation has become so dire that experts say that it is a matter of time before collapse.

How Liberalization Benefited a Few and the Problem of Crony Capitalism Has to be Dealt

So, how did one of the most regulated and controlled Financial and Banking Systems in the world come to this Sorry State?

To start with, crony capitalism is to blame for this mess as Indian Banks and Financial Institutions are manipulated by politicians who coerce the bankers to lend to their cronies despite the latter being high risk and highly probable defaulters.

While Crony Capitalism is endemic to any Emerging Market Economies, the problem is acute in India as after the Post Liberalization years, there were not many reforms that were undertaken in the Financial and Banking Sector except for those related to Investments by Foreign Entities and the Creation of Tax Avoidance laws and rules.

Indeed, one can go so far as to say that Liberalization benefited a Select Few Industrialists at the expense of the many in the same manner in which Russia and Brazil too went through after opening up their economies.

Therefore, any attempt to fix the mess in the Indian Financial and Banking System has to target the problem of Crony Capitalism.

Moreover, periodic write-offs of Bad Loans and postponement of NPAs from being classified as such adds to the problem rather than solving it.

Why Priority Sector Lending is to be Reviewed and How Loan Waivers Must Stop

An interesting aspect about the Indian Financial and Banking System is the one related to how some sectors garner all the lending at the expense of others.

Again, this is something that is directly related to the interference from Politicians.

For instance, all the PSU or the Public Sector Undertaking Banks and Financial Institutions have been used to lend to Big Farmers and Rich Agriculturalists and then, when elections approach, write off their debts so as to appease this vote bank.

Moreover, the Private Banks also indulge in lending more to some sectors such as Infrastructure that is often risky as this sector is heavily dependent on the Economic Booms and Busts more than other sector.

People buy Houses when the Times are good and only those with Black Money buy when the Times are bad.

So, this creates an Asymmetric situation where the Indian Banking and Financial System are highly susceptible to Economic Shocks. Indeed, this is what happened in the case of the IL&FS (Infrastructure Lending and Financial Services) collapse in 2018 when the Bad Loans were too much to hide or delay.

This was also the case with Yes Bank and other such Financial Institutions that collapsed.

Making the Lion Roar Again: How the Indian Financial System can be Rejuvenated

Having said that, this is not to say that the entire system is on the verge of collapse. For instance, the Banks have played a Stellar Role in making the Indian Economy into something resembling a Free Market Economy.

Moreover, the sector has enabled Millions and Millions of the Middle Classes aspire to Western Lifestyles and Consumerism.

In addition, the Financial and the Banking Sector has contributed to creation of critical infrastructure such as Ports, Airports, and Roads and National Highways.

Therefore, the problem lies with a few Bad Apples and this is where the Government must act with an Iron Hand to ensure that the system continues to work as efficiently as it should.

For instance, the former RBI Governors, Raghuram Rajan and Urjit Patel tried to introduce reforms and more accountability and both paid the price for their boldness.

This is something that must be avoided as are decisions such as Demonetization that were taken unilaterally.

So, what is urgently needed is the Creation of an Expert Panel made up of technocrats who can reform the system before it is too late.

Otherwise, we are going to see more Mallya and Modi running away with bad debts.

Time to Act Now

Last, as mentioned earlier, Emerging Markets tend to follow a path of Stabilization and Adjustment to Free Market Model Transitions.

The Indian Financial Banking System is in the throes of such transformation and hence, this is the time for Tough Decisions and more Action than talk. In addition, what we need is an end to Crony Capitalism before it is too late and the system ends up destructing itself.

Moreover, Banks cannot play around with the Hard Earned Monies of the Middle Class who have invested their entire savings. To conclude, we must act on a now or never basis.


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The article is Written By “Prachi Juneja” and Reviewed By Management Study Guide Content Team. MSG Content Team comprises experienced Faculty Member, Professionals and Subject Matter Experts. We are a ISO 2001:2015 Certified Education Provider. To Know more, click on About Us. The use of this material is free for learning and education purpose. Please reference authorship of content used, including link(s) to ManagementStudyGuide.com and the content page url.


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