In
the pre-financial sector reform period, Indian commercial
banks operated under a system of financial repression, whereby
their lending activities were subjected to a variety of
regulatory controls. Given the scenario, risk management
got little emphasis (if any) in the commercial banking sector.
Things, however, changed drastically during the reform period
following the introduction of prudential operational guidelines
and of modern supervisory practices. Under the circumstances,
the present paper makes a comparative study of the asset
quality profile of the Indian commercial banks for the reform
period using the stochastic frontier approach. Further,
the paper seeks to analyze the impact of factors such as
bank operating efficiency, capital adequacy, ownership and
bank size on the asset quality of the observed commercial
banks. From the technical efficiency scores relating to
asset quality, it appears that the public sector commercial
banks have out-competed their private sector counterparts.
The econometric results show that operating profit ratio
and capital adequacy are two important determinants of asset
quality. However, the effect of size and ownership are found
to be statistically insignificant. This is probably suggestive
of the fact that the quality of bank management (which gets
reflected in operating efficiency, capital adequacy and
asset quality) is the key variable in separating good banks
from bad banks.
In
the period prior to reforms in financial sector, Indian
commercial banks operated under a system of financial repression
whereby bank lending was subjected to regulatory controls,
via, the Credit Authorization Scheme (CAS), the Maximum
Permissible Bank Finance Scheme for disbursement of working
capital loans, the Lead Bank Scheme and the directed allocation
of credit. The commercial bank deposit and lending rates
were not determined by the banks themselves but were fixed
by the RBI. The lending rates applicable in respect of various
lending categories did not reflect the cost of deposit servicing
and the risk premia. Given the scenario, risk management
got little emphasis (if any) in the Indian commercial banking
sector. During 1970s and 1980s, the commercial banking sector
showed impressive growth in quantitative terms. But the
actual financial health of the sector weakened considerably.
Business
and regulatory environment of the commercial banking sector,
however, changed drastically during the reform period following
the introduction of prudential operational guidelines and
the introduction of modern supervisory practices. In the
changed circumstances, the commercial banks are required
to take business decisions not simply on the basis of return
but also on the basis of the inherent business and operational
risk. |
