V.E.

S College of Arts, Science and Commerce

SUB: Financial Management S.Y.B.Com (B&I)

Impact of Privatization and Globalization on Banking Sector

Name of Group member:

Pranesh-21 Rupesh-37 Rohit-41 Mahesh-51

Submitted to: Sachin Sir.

IMPACT OF PRIVATIZATION ON INDIAN BANKING
SBI enjoys a monopoly of the government business. SBI was formed under the SBI Act in 1955. The government holds around 93% of the equity, leaving7% to private ownership. By this act the equity of RBI cannot be diluted below 55%. This act was outdated and needs to be re-addressed. However, efforts were initiated by SBI to privatize its non banking subsidiaries like SBI Caps, SBI Funds Management etc, where SBIs holding is about 85%of the equity Later Indian government announced its decision to reduce its stakes in public sector banks to 33%.Are the banks really sick? The answer is No. Public sector banks are making profits. Even the loss-making banks like UCO bank have turned the corner in recent years. Then why this outcry of SBI enjoys a monopoly of the government business.SBI was formed under the SBI Act in 1955. The government holds around 93% of the equity, leaving7% to private ownership. By this act the equity of RBI cannot be diluted below 55%.This act was outdated and needs to be re-addressed. However, efforts were initiated by SBI to privatize its non banking subsidiaries like SBI Caps, SBI Funds Management etc, where SBIs holding is about 85%of the equity. Later Indian government announced its decision to reduce its stakes in public sector banks to 33%.Are the banks really sick? The answer is No. Public sector banks are making profits. Even the loss-making banks like UCO bank have turned the corner in recent years. Then why this outcry of privatization.

BANK PRIVATIZATION: TOWARD A POLICY CONSENSUS?

The world-wide trend of bank privatization less reflects a single consensus than wave policy decisions with similar outcomes, often reached for very different reasons. While bank privatizations often occur during or shortly after banking crises, bank privatizations are frequently part of a more general trend in a country and, thus, generally share many of the same objectives as privatization. In most countries, some or all of the following objectives have motivated privatization, 20 which in many cases have specific considerations for state owned banks. Raise revenues for the state: The importance of privatization revenues extends well beyond development and transition economies. Privatization revenues have been important for some countries seeking to meet the Maastricht criteria. British privatization proceeds in the 1980s substantially reduced government debt. Promote economic efficiency and reduce government interference in the economy: Government ownership often has not been effective in meeting development goals. Policymakers may expect privatized enterprises to be more responsive in meeting consumer demand. Efficiency gains can eliminate the need for subsidies, freeing up fiscal resources for other priority spending or debt reduction. The potential fiscal burden of subsidizing the credit and operating losses inefficient state-owned banks can provide political motivation for privatization, as even substantial costs to clean up a banks balance sheet to make it attractive to investors may be less burdensome than continuing

subsidies. A more efficient banking system will benefit the economy overall by reducing the costs of intermediation. Promote wider share ownership: Initial public offerings (IPOs) are a frequent means of privatization, with provisions such as shares being sold in small allotments or restriction on foreign participation commonly being used to promote ownership by individual domestic investors. These provisions are frequently viewed as a tool to promote the development of capital markets. However, policymakers often have a preference for a strategic partner to acquire a controlling or significant interest as the bank is divested, as opposed to widely dispersed ownership, particularly where there are concerns about the quality of management and systems of a state-owned bank. Provide the opportunity to introduce competition: In some of the former socialist countries, such as Russia and Poland, large state-owned banks were transformed into a number of smaller banks before or during privatization. Using privatization to encourage foreign bank entry can lead to an overall enhancement of management skills in the banking sector. Subject state-owned enterprises to market discipline: Privatizing banks can be particularly helpful in achieving this objective, as private banks are less.

Key Considerations in Bank Privatization

Institutional infrastructure: Preconditions are vital to sound banking. These include macroeconomic stability, legal infrastructure, accounting standards and an appropriate safety net (lender-of-last-resort facilities and possibly deposit insurance). Sound banking supervision is required to review proposed privatizations from a prudential perspective, and to subsequently oversee the privatized banks. Perfect infrastructure and banking supervision will never be in place, so it will generally be preferable to privatize in conjunction with other reforms rather than to wait for ideal circumstances. Public policy objectives: A safe and sound financial system is not the only objective to be met in privatization. There will be inevitable tradeoffs, and other objectives such as supporting national champions or maintaining employment are likely to have broad political support. Prudential issues should not be sacrificed to other policy objectives due to the potentially far-reaching impact of subsequent bank failures. Preparing a bank for privatization: An as is sale is preferable, if possible, as it can be completed quickly and does not entail major public investment in preparing a bank for privatization. However, state-owned banks are frequently in such poor condition that financial restructuring is required if reputable private investors are to be attracted. Methods of privatization: Almost all successful bank privatizations have been some form of share sale. Attracting a reputable financial institution as a strategic investor, often with a significant public share

float, has generally proven more successful than privatizations resulting in widely-held ownership. Government retention of a majority shareholding for an extended period has often been unsuccessful, thwarting true reform and leading to a need for additional recapitalization. There is empirical evidence that foreign bank entry improves the function of national banking markets, so attracting a foreign bank as strategic investor may be particularly desirable. Prudential review: As with any change in bank ownership, the supervisory authority should only approve the transaction if the new owners are fit and proper, management is competent and experienced, the source of capital is verified, and the business plan is viable.

Globalization
The human society around the world, over a period of time, has established greater contact, but the pace has increased rapidly since the mid 1980s.The term globalization means international integration. It includes an array of social, political and economic changes. Unimaginable progress in modes of communications, transportation and computer technology have given the process a new lease of life. The world is more interdependent now than ever before .Multinational companies manufacture products across many countries and sell to consumers across the globe. Money, technology and raw materials have broken the International barriers. Not only products and finances, but also ideas and cultures have breached the national boundaries. Laws, economies and social movements have become international in nature and not only the Globalization of the Economy but also the Globalization of Politics, Culture and Law is the order of the day. The

formation of General Agreement on Tariffs and Trade (GATT), International Monetary Fund and the concept of free trade has boosted globalization.

Globalization in India
In early 1990s the Indian economy had witnessed dramatic policy changes. The idea behind the new economic model known as Liberalization, Privatization and Globalization in India (LPG), was to make the Indian economy one of the fastest growing economies in the world. An array of reforms was initiated with regard to industrial, trade and social sector to make the economy more competitive. The economic changes initiated have had a dramatic effect on the overall growth of the economy. It also heralded the integration of the Indian economy into the global economy. The Indian economy was in major crisis in 1991 when foreign currency reserves went down to $1 billion and inflation was as high as 17%. Fiscal deficit was also high and NRI's were not interested in investing in India. Then the following measures were taken to liberalize and globalize the economy.

Mergers and Acquisitions

Sell-side Advisory We performed sell side advisory work providing our services to corporations in private transactions or governments in emerging markets privatizations. From actively promoting an opportunity to assisting in negotiations, we provide services at all stages in the life cycle of a M&A transaction.

Buy-side Advisory We assisted in the due diligence process of target companies in numerous engagements. Our expertise includes analyzing in detail the value of financial institutions loan portfolios and providing clients with financial models to evaluate their investments opportunities.

The Globalization of Financial Services

In this age of globalization, the key to survival and success for many financial institutions is to cultivate strategic partnerships that allow them to be competitive and offer diverse services to consumers. In examining the barriers to - and impact of - mergers, acquisitions and diversification in the financial services industry, it's important to consider the keys to survival in this industry: Understanding the individual client's needs and expectations Providing customer service tailored to meet customers' needs and expectations In 2008, there were very high rates of mergers and acquisition (M&A) in the financial services sector. Let's take a look at some of the regulatory history that contributed to changes in the financial services landscape and what this means for the new landscape investors now need to traverse. Diversification Encouraged by Deregulation Because large, international mergers tend to impact the structure of entire domestic industries, national governments often devise and implement prevention policies aimed at reducing domestic competition

among firms. Beginning in the early 1980s, the Depository Institutions Deregulation and Monetary Control Act of 1980 and the Garn-St. Germaine Depository Act of 1982 were passed.

By providing the Federal Reserve with greater control over nonmember banks, these two acts work to allow banks to merge and thrift institutions (credit unions, savings and loans and mutual savings banks) to offer checkable deposits. These changes also became the catalysts for the dramatic transformation of the U.S. financial service markets in 2008 and the emergence of reconstituted players as well as new players and service channels. (For more on this, check out our Financial Crisis Survival Guide special feature.) Nearly a decade later, the implementation of the Second Banking Directive in 1993 deregulated the markets of European Union countries. In 1994, European insurance markets underwent similar changes as a result of the Third Generation Insurance Directive of 1994. These two directives brought the financial services industries of the United States and Europe into fierce competitive alignment, creating a vigorous global scramble to secure customers that had been previously unreachable or untouchable. The ability for business entities to use the internet to deliver financial services to their clientele also impacted the product-oriented and geographic diversification in the financial services arena.

Going Global
Asian markets joined the expansion movement in 1996 when "Big Bang" financial reforms brought about deregulation in Japan. Relatively farreaching financial systems in that country became competitive in a global environment that was enlarging and changing swiftly. By 1999, nearly all remaining restrictions on foreign exchange transactions between Japan and other countries were lifted. Following the changes in the Asian financial market, the United States continued to implement several additional stages of deregulation, concluding with the Gramm-Leach-Bliley Act of 1999. This law allowed for the consolidation of major financial players, which pushed U.S.domiciled financial service companies involved in M&A transactions to a total of $221 billion in 2000. According to a 2001 study by Joseph Teplitz, Gary Apanaschik and Elizabeth Harper Briglia in Bank Accounting & Finance, expansion of such magnitude involving trade liberalization, the privatization of banks in many emerging countries and technological advancements has become a rather common trend.

Privatization:
B. Does Privatization of State-Owned Banks Cause Banking Crises? Bank privatization programs, or more accurately, shortcomings in the design or execution of the programs, are sometimes cited as contributing to future banking crises. Mexico and Chile 14 Rodrik, Subramanian, and Trebbi (2002) summarize and critique the recent work in this field and provide some new empirical evidence to support their view of the primacy of institutions.

15 Das, Quintyn, and Chenard (2004) find that weak public sector governance has an effect on financial sector soundness over and above the quality of the regulatory framework. - 11 - in particular are cited as examples (Box 2). 16 However, when the data on bank privatizations are juxtaposed with the dates of banking crises, only a handful of countries are identified where major bank privatizations took place within five years prior to the onset of a banking crisis (Table 1). Some of these countries tend to have experienced serial crises over a period of years, indicating great difficulty in addressing the fundamental problems of the banking sector. Failure to establish preconditions for effective banking supervision, deficiencies in the regulatory framework and its enforcement, lack of capital and inadequate managerial capacity were all proximate causes of the ensuing banking crises. A successful privatization may deal with issues of managerial capacity, but a simple change in bank ownership is not enough to address broader financial sector problems. Kenya (Commercial Bank of Kenya) is an instance where government initially sold only a small ownership stake, retaining majority control for a number of years following the initial move to privatization. In Korea, the privatization of Kookmin had no causal link to the 1997 crisis, although the need for strengthened prudential supervision and hidden weaknesses in the banking sector because evident after the onset of crisis. In the Ukraine, the initial privatizations were through share distribution, a method of privatization that fails to bring new capital or expertise to the bank. Privatization of banks is only rarely associated with banking crisis, but the few instances suggest that partial privatizations are not effective in addressing the weaknesses of state-owned banks, nor are privatizations that do not bring new capital or management skills to the ban. Privatization Precedes Banking Crises in Chile and Mexico Chile: As part of a broad reform program initiated in 1973, 19 of 20 state-owned banks were sold to private investors in 1975. The bulk of these banks were acquired by financial conglomerates, which were required to make only a 20 percent initial down payment toward the purchase price. Many conglomerates then used loans from the banks to make down payments on nonfinancial state-

owned enterprises being privatized. Some changes to the legal framework for banking supervision were implemented in the late 1970s, but were inadequate to deal with the rapidly changing financial sector. By 1981 the banking system was in crisis, leading among other things to inter vention in eight banks, central bank liquidity support, and in 1982 and 1984, purchase by the central bank of nonperforming bank assets. In 1985, the central bank participated directly in recapitalizing banks, five of which were subsequently returned to private ownership in 1986. As part of the response to the crisis, the prudential framework was strengthened, and the funding and staffing of the supervisory agency increased. Mexico: Government sold controlling stakes in 18 banks over 14 months from June 1991 to July 1992. Although some deregulation had taken place, sale of the banks at generally high multiples of book value indicates the purchasers expected the Mexican banking market to continue to be characterized by limited competition, providing opportunities for large profits. Initially this was the case. As spreads widened, however, this tended to mask lack of operating efficiency (Gruben and McComb, 1997). Competition increased more rapidly than expected, when numerous new domestic banks were chartered beginning in 1993, and new regulations in 1994 pursuant to the North American Free Trade Agreement permitted greater foreign competition. In addition to facing increasing competition with little improved operating efficiency, the banks also engaged in significant amounts of related parties transitions, and some used derivatives to take risky and leveraged currency positions. Banks came under increasing pressure following the peso devaluation in 1994, and in 1995 a special recapitalization program was introduced to deal with a number of problem banks. Neither in Chile nor in Mexico can the privatization of banks be singled out as the cause of the ensuing crises. In both cases, privatizations occurred in the early stages of major liberalization programs. Stronger prudential frameworks and better supervision could have mitigated subsequent problems, for instance by restricting insider transactions and imposing more stringent limits on credit and currency risks. In both cases the transformation from a banking system dominated by state-owned institution to privately-owned institutions took place quickly, but it is not clear that there would have been any advantage to extending

the privatization program over a longer-time period, apart from the opportunity to make further progress on other needed reforms.

VII. CONCLUSION
The question of how state-owned banks and their privatization affect financial sector stability and growth will continue to be an important issue for policymakers. Despite numerous privatizations in recent years, many countries continue to have financial sectors featuring significant roles for stateowned banks. State-owned banks are often associated with significant shortcomings in the preconditions for an effective banking system, such as the rule of law and strong government infrastructure, so any particular problems introduced by state banks may be obscured by these important institutional weaknesses. This is consistent with the finding that large privatizations immediately precede crises in only a few instances. In these countries, failure to establish the institutional preconditions for sound banking prior to, or at least concurrently with, the privatizations is more likely to have been a proximate cause of the crisis than the privatizations themselves.

Advantages of Private Banking

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DISADVANTAGE OF PRIVATIZATION OF BANKS

1. Surplus employees: The defect of the system is that some of the workers are declared surplus. There is an increase in the rate of unemployment. The unemployed workers commit crimes in this society. 2. No. of branches in rural areas: The private bank owners do not like to setup their branches in rural areas. The banking facilities remain confined to cities where sufficient deposits are available. A large part of population will be deprived of banking facilities. 3. Unbalanced growth: The management of privatized banks provides credit in specific areas and people. As a result, there is unbalanced growth in the country; especially rural areas may remains under developed where credit facilities do not exist.

4. Jobs for relatives: The management of privatized banks may provide jobs to their friends and relatives. The deserving persons are ignored. 5. Loans for few persons: The management of privatized bank can extend loans of their favored persons. In this way only few persons are benefited. 6. Owners association: The aim of privatized banks is to earn profit. For these purpose owners associations are made which enter into agreement of earning high profit. The bank can increase the rate of service charges. Such associations may not care for customer's welfare.

Advantages and Disadvantages of Globalization

Globalization can be defined as a method whereby an increased portion of economic or other activity is carried out across national borders or in other words it is the process where the economies of various countries in the world become more and more connected to one another. Here are some of the advantages and disadvantages of globalization Advantages of Globalization: 1. It leads to increased free trade between nations and hence Goods and services produced in one part of the world are increasingly available in all parts of the world. 2. Companies have greater flexibility to operate across borders and hence they can make profits through domestic as well as international operations and also they can have access to cheaper capital from other countries if rate of interest is low and also cheaper labor and hence it ultimately increases the margin for the company. 3. It also leads to greater employment opportunities for the people and also consumers get quality goods at competitive rates. Disadvantages of Globalization 1. It can lead to increased likelihood of economic disruptions of one nation affecting all nations and hence unsettling the whole world leading to chaos across the world. 2. Smaller domestic firms may lack the resources to compete with big international companies and therefore may be forced out of business.

3. Since globalization involves traveling of people as well as goods from one country to another It can lead spread of some of the deadliest infectious diseases known to humans. Apart from the above advantages and disadvantages of globalization there can be many more added to the above list and it depends on the individual or company on how it sees globalization as a benefit or as threat.