Do We Need Regional Rural Banks?

The government is preparing a notification to implement its one state, one RRB (regional rural bank) plan. Since Goa does not have an RRB, the government may consider establishing one there.

This initiative will reduce the number of RRBs from 42 to 28 (if a new one is set up in Goa). On January 1, 493 branches of Andhra Pradesh Grameena Vikas Bank in Telangana were merged with Telangana Grameena Bank, reducing the total to 42, in line with the government's restructuring strategy.?

Andhra Pradesh, Himachal Pradesh, Uttar Pradesh, and West Bengal each have three RRBs, the highest among states.

One may be tempted to ask: Do we need RRBs at all???

No one can deny their role in expanding banking services to rural India. Established under a September 1975 ordinance and the RRB Act of 1976, they were meant to provide credit access to farmers and other rural populations. Five RRBs were set up in October 1975.

Sponsored by Syndicate Bank (merged with Canara Bank in April 2022), with an authorised capital of Rs 5 crore, Prathama Bank, headquartered in Moradabad, Uttar Pradesh, was the first RRB. The other four of the first lot were Gorakhpur Kshetriya Gramin Bank (sponsored by State Bank of India), Haryana Kshetriya Gramin Bank (sponsored by Punjab National Bank), Gaur Gramin Bank, and Jaipur-Nagaur Aanchalik Gramin Bank (both sponsored by UCO Bank).?

None exist in their original form. For instance, Prathama Bank became Prathama UP Gramin Bank in 2019 after merging with Sarva UP Gramin Bank of Meerut, Uttar Pradesh. Punjab National Bank is its sponsor.

By 2009, the government recognised RRBs' capital needs. A committee recommended an infusion of Rs 2,200 crore for 40 of the 82 RRBs operating in 2011-2012 (FY12). This was just one of several capital infusions to sustain them.?

The Centre owns 50 per cent stake in the RRBs, sponsor banks 35 per cent, and the state government where the RRB is located, 15 per cent.

Alongside capital infusion, sector restructuring began. In January 2013, 25 RRBs were merged into 10, reducing the number to 67. By March 2016, 10 more were merged, and by April 2020, the count had dropped to 43. The latest merger took place in January 2024.

The 42 remaining RRBs manage a total business (deposits plus credit) of around Rs 11 trillion and employ about 200,000 staff. Five are running at a loss. Baroda UP Gramin Bank is the largest in terms of business, while Karnataka Gramin Bank leads in profitability.

While RRBs have had a role in meeting rural banking needs, they are becoming outdated in India's evolving financial landscape. As of March 31, 2023, 1.85 million – 1,854,336 to be precise – business correspondent outlets were operating in rural India, bringing banking to people’s doorsteps. Additionally, microfinance institutions, non-banking finance companies (NBFCs), and fintechs have emerged as alternatives. Technology has further removed barriers to accessing credit and depositing money — an area where many RRBs lag.

A bigger concern is the non-performing assets (NPAs) of some?RRBs. As of March 2024, their gross NPA ratio was 6.1 per cent, compared?to 2.6 per cent for the broader banking industry (September 2024). Their net NPAs declined from 5.9 per cent in FY20 to 2.4 per cent in FY24, whereas the banking industry’s net NPA stood at 0.6 per cent (September 2024). At least 11 RRBs had net NPAs exceeding 5 per cent in March 2024.

About 90 per cent of RRB loans are firm loans, many of which have been continuously “ever-greened” — a practice of?disbursing?new loans to repay old ones. This raises doubts about the profitability of many RRBs,?as in the absence of cash flow, their profits are often on paper.

Another indicator of inefficiency is RRBs' cost-to-income ratio, which stands at around 68 per cent, significantly higher than the banking industry’s 43 per cent. That’s the industry average – public sector banks typically have higher cost-to-income ratios, but RRBs remain particularly uncompetitive.

Higher NPAs and cost of operations are impacting RRBs’ profitability. On the capital front, though, there’s little concern since the government has infused Rs 10,890 crore between FY21 and FY23, and state governments and sponsor banks have made equivalent contributions. It’s an unending flow of money with no return in sight. How long should public funds continue supporting the RRBs?

Credit growth in RRBs is also slower than in the broader banking sector. Their credit-deposit ratio, an indicator of how effectively deposits are used for lending, is lower than the industry average. Although RRBs collectively reported a net profit of Rs 7,571 crore in FY24, their average return on assets (RoA) – a metric of how profitable an entity is – was 0.7 per cent, almost half that of commercial banks.

The biggest challenge facing RRBs is their inability to keep pace with technological advancements in banking.?Modest?investment in digital banking affects their competitiveness as rural customers increasingly seek modern services such as mobile banking, digital payments, and efficient remittance systems. Private and public sector banks are penetrating rural markets through business correspondents and cost-effective, technology-driven channels, making it harder for RRBs to retain customers.

Governance issues further complicate the situation. Like some cooperative banks, RRBs face local political interference since their operations are confined to specific geographical regions. This compromises the integrity of decision-making, which, in turn, affects the quality of assets,?and comes on the way of?recovery of bad loans.

There have been instances where RRB staff and local political outfits have been at loggerheads. This also severely affects their governance. Additionally, loan frauds are prevalent but rarely discussed, audits are weak, and data quality and supervision are questionable. While a sponsor bank consolidates an RRB’s performance within its balance sheet, the accuracy of RRB profit and loss accounts remains dubious.

RRB employees are recruited locally, with salaries and pensions on?a?par with public sector banks, yet many lack the expertise to manage banking operations efficiently.?

Senior executives from sponsor banks, appointed as RRB chairpersons, frequently face local conflicts and legal issues, deterring qualified candidates from these roles. For RRBs with a business mix of at least Rs 15,000 crore, the chairman is a general manager of the sponsor bank, while smaller RRBs have chairpersons at the deputy general manager or assistant manager level.

Instead of implementing the one state, one RRB plan, the government could go for merger of RRBs with the sponsor banks which can absorb RRB employees and train them for?better rural banking. They could become rural banking subsidiaries of PSU banks.

However, this would not be easy. For one, RRB service conditions prevent an employee from being transferred to another state. The RRB Act needs to be amended first.

This column appeared first in Business Standard.

The writer, a Consulting Editor of Business Standard, is a Senior Adviser to Jana Small Finance Bank.

Writes Banker's Trust every Monday in Business Standard.

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